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REITs Expert Eyes New Residential

08/09/2017 2:52 am EST

Focus: REITS

Tim Plaehn

Investment Research Analyst, Investors Alley

New Residential Investment (NRZ) reported 2017 second quarter results with a shockingly good quarter for earnings, says Tim Plaehn, editor of The Dividend Hunter.

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Core earnings for the 2nd quarter of $1.03 per share were almost double the $0.54 reported for the 2017 first quarter and handily covered the new, higher $0.50 per share dividend.

I listened to the conference call by management with the goal of discovering the reasons for the very large increase in profits and what could happen with earnings and dividends going forward.

From Quarter 1 to Quarter 2, core earnings increased from $155 million to $318 million. A large portion of the increase was due to a $156 million jump in net interest income due to the acquisition of $110 billion in mortgage servicing rights (MSRs) from Ocwen Financial (OCN).

New Residential is purchasing the MSRs for $400 million.  Accounting rules forced New Residential to immediately book much of the lower future servicing fees as interest income in the second quarter.

Management noted that the MSRs are being transferred to NRZ as regulatory approvals allow, so there will be a similar large income boost compared to previous quarters when the third quarter results are announced.

Here is my read on the future of NRZ as a high yield stock. CEO Michael Nierenberg emphasized that management believes the current $0.50 dividend is secure.

He also noted that with the Ocwen deal the company will have $90 million per quarter in free cash flow above the dividend payment, which now totals $154 million per quarter.

Nierenberg has always avoided talking about future dividend increases, but I am confident that we will see future increases in the payout.

New Residential Investment has been very successful at generating mid-teen and better returns by digging into the dusty and scary corners of the mortgage market.

Currently the company owns total or excess MSRs on $55 billion of residential mortgages. The portfolio includes call rights on $160 billion of mortgage backed securities.

NRZ owns residential loans with $2.3 billion of unpaid balance. These are significant investments which are generating annual returns of 12% to 25%. The SpringCastle consumer loans investment made in 2013 has produced a 90% internal rate of return.

The market wants to put NRZ into some sort of box it can parse apart by the numbers. It’s not a by-the-numbers company. It’s an opportunistic business that is very good at making very profitable investments.

My advice is to not worry about the noise that seems to swirl around this stock. NRZ has produced an 80% total return for investors since I first made it a Dividend Hunter recommendation in 2014. I expect to continue to earn total returns well above the 12% dividend yield.

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