Right now, the market is giving us the chance to buy $1 for $0.96... and to earn a rich, double-digit dividend along the way.
Even better, the profits are government-guaranteed.
As we have said time and again at Stansberry Research, despite what economists and academics argue, markets are not always efficient. And these inefficiencies give us the chance to make big gains without taking on large risks.
This week, we're going to show you how right now, a major anomaly is showing up in the market...
Investors have abandoned one of our favorite companies, and now its stock is trading for less than the value of its assets. However, those assets are almost as good as cash.
Simply put, thanks to unwarranted fear, buying shares today would give you $1 of assets for just $0.96.
But it gets even better: Today, you can get a massive 13% dividend yield while you wait for the market to realize what we already do.
The key to this trade is understanding the businesses we call "virtual banks." Over the years, Stansberry Research analysts have recommended a number of these stocks. You may have read names like Annaly (NLY) or Hatteras (HTS), now owned by Annaly, in other publications.
There are others as well... But right now, Two Harbors Investment (NYSE: TWO) offers the best opportunity for big gains.
Two Harbors is a market-leading mortgage real estate investment trust ("REIT"). It invests most of its portfolio in government-guaranteed mortgages from entities like Fannie Mae, Freddie Mac, and Ginnie Mae. The rest of its holdings are in other real estate-related debt investments.
We call these businesses "virtual banks" because they make money the same way most banks do, but without the need for physical branches. They borrow money at low interest rates and invest it in mortgages that pay a higher interest rate. And in the case of Two Harbors, about three-quarters of its portfolio is in fully government-guaranteed mortgages.
The U.S. government guarantees most mortgages in America to encourage banks to lend. If a homeowner doesn't pay the mortgage, it falls back on the government's shoulders to pay the bill. That's why a bank's first consideration is not whether the borrower can pay, but whether the borrower qualifies under a government-backed program.
It's a great deal for the banks, which can generate new business but can shift the credit risk to the government. The government then packages up these mortgages and sells them back to companies like Two Harbors. Even if the customer doesn't pay, Two Harbors still collects its money.
Right now, the average interest-rate "spread" for Two Harbors is around 1.4%. When the spread increases, Two Harbors makes more money. When it decreases, the company makes less money – so it has less money to pay large dividends. Right now, the spread is decreasing...
In the third quarter ending September 30, Two Harbors reported a nine-month average interest rate spread of 1.5% (down from 2.1% for the same period in 2017).
The spread is narrowing because short-term interest rates are starting to creep up.
We don't expect that spread to widen much in the near term from here, but we do expect it to stay positive.
You may think you'd want to avoid buying Two Harbors when the interest-rate spread is falling. But history shows that's not the best indicator...
We look at two key metrics for the best time to buy...
The first is when the stock is paying a huge, double-digit dividend yield. This metric is easy to understand. It's how much the company pays as a dividend, divided by the current share price. Over the past 12 months, Two Harbors has paid $1.88 in dividends. With the share price trading around $14, that equates to a 13% yield. In the past, investors have done well when the dividend yield sits above 13%.
The other key metric to look at is its share price compared to book value. We want to buy when the stock trades at or below book value. This is the value of the assets on Two Harbors' balance sheet, minus its liabilities. Two Harbors invests in the most liquid and secure mortgage securities in the world, so its book value provides a good estimate of the company's liquidation value of the business.
Book value is currently $14.91 per share. Its shares change trade for around $14.30 – about a 4% discount to its book value.
Buying at or below book value is among the safest ways to buy one of the best-run virtual banks we know. And the company's 13% yield is far higher than most alternative investments. That makes this a low-risk, high-reward trade.
If the company's earnings drop and it cuts the dividend, the share price could suffer. And you should still watch your stops. But with the stock trading near multiyear lows, much of the risk has been wrung out already.
The next dividend is just around the corner. Management has said it expects to pay a $0.47-per-share dividend for the quarter in early December.
Today's share price appears to be a good entry point. At current levels, we expect the combined capital growth and dividend payments will return investors between 30% and 40% over the next two years... maybe sooner.
Sometimes investing is simple.