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Your Best Dividend Buy – Bargain-Priced REIT with 18.7% Yield

April 08, 2011 – by Richard Band

Stocks put on a brave performance Thursday, clinging to modest losses in the face of spiking oil prices. Crude futures settled at a 30-month high in the afternoon. It’s almost enough to make you think energy costs don’t matter anymore — this economy is bulletproof!

In many ways, recent market action reminds me of June 2008. Then, too, the bulls assured us that commodity prices were headed even higher, because the economy could “handle it.” It always seems that way when either commodities or interest rates are rising. Ultimately, though, one straw too many gets piled on the camel’s back and the beast buckles.

I don’t think we’re at the breaking point yet. However, the markets may be tempting fate.

Oil at $110 a barrel will hurt a lot of businesses, not just airlines and trucking stocks. Consumers are already feeling the pinch. It will take a number of weeks for all the effects to ripple out, but if you’re rooting for a higher stock market as the year wears on, you had better hope that oil cracks sharply — and soon.

Meanwhile, over in bondland, the inflation anxiety that has gripped investors of late is spawning some nice buying opportunities. Real estate investment trust (REIT) Invesco Mortgage Capital (NYSE: IVR) has dipped a point and a half from its March high, presenting a good entry point for aggressive income investors.

At the current dividend rate of $1 per quarter, IVR is yielding — hold your hat! — 18.7%. That’s high enough to top inflation by almost anybody’s reckoning.

Bear in mind that IVR is a leveraged vehicle. The trust borrows about $4 to $5 for every dollar of shareholder equity, using the proceeds of the loans to buy additional mortgages.

As long as IVR’s cost of borrowing remains low (below the yield on the mortgages purchased), this strategy will mint money. But it’s not risk-free. One of these days, Bernanke will wake up from his dream and raise interest rates.

You’ll want to exit your position in IVR several months before that happens. However, I don’t think it will happen this year. So you’re still OK to buy this dividend stock at $22 or less.

For a more conservative (unleveraged) route into mortgages, go with DoubleLine Total Return Bond Fund (MF: DLTNX), which has a $2,000 minimum. DoubleLine’s yield is gradually coming down, but the fund is still paying 7.9%, based on the first three monthly distributions in 2011. It is available fee-free through leading discount brokers. Buy at $11.10 or less.

Finally, for the speculators out there, the oil market looks wildly overextended in here. Stick with your oil shorts I recently recommended using stops.

Interestingly enough, energy stocks, as a group, peaked intraday on March 31, and have since curled slightly lower. Check out this five-day chart of the Energy Select Sector SPDR (NYSE: XLE), which includes all the oil and gas producers in the S&P 500 index. Often, oil shares will change trend shortly before the raw material. That may be what we’re seeing now.