Not all dividends are created equal. Here, we'll do a top to bottom analysis of a given company to understand the quality of its dividend and how that's changed over the past 5 years.
The company we're looking at today is Two Harbor's Investment (NYS: TWO) which yields 14.9%.
Most real estate companies, including Two Harbor's Investment, are organized as real estate investment trusts, or REITs. They do this so that they can get around the double taxation issue that most investors face. REITs don't pay taxes as long as they distribute at least 90% of their income as dividends. The investor holding shares of the REIT then has to pay taxes on those dividends as though they are income. This differs from most dividends, which are taxed at a lower rate.
To evaluate the quality of a dividend, the first thing to consider is has the company paid a dividend consistently over the past 5 years and if so how much has it grown.
Two Harbor's dividend rose steadily from its IPO in 2010 till 2011 when it leveled out at $0.40 per quarter.
For a mortgage REIT, the most important measure to follow is a company's interest rate spread. This is the difference between the rate the company borrows money at and the rate it lends money out at.
Source: CapitalIQ, a division of Standard & Poor's.
Two Harbor's interest rate spread, while declining slightly, is still very high and will likely remain so until interest rates begin rising again. As the Federal Reserve has stated they won't raise rates until 2014 at the earliest, you have some time before this will happen.
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