Government Backed, Highly Liquid, 8X the Returns!

By Travis Johnson, Stock Gumshoe, January 23, 2009

Teaser ads that promise solidity, stability, government backing, and high dividends are all over the place these days … for good reason, one suspects, as they certainly appeal to the “where are we, and what am I doing in this handbasket?” crowd.

Today is no different — let’s take a look at an ad I’m seeing a lot of this week. It’s from Andrew Gordon of Investors Daily Edge for his INCOME service that promises, you guessed it, high income investments. If you want to take it for a spin, it will cost you $99 a year.

“GOVERNMENT BACKED… HIGHLY LIQUID… and 8 Times the Interest of a Typical Savings Account

“It’s not only billionaires who are using the financial crisis to get “insider deals”…

“Thousands of regular Americans are cashing in on a loophole for collecting up to $8,881 a month, backed by an “explicit” U.S. Treasury guarantee…

“The next batch of checks is going out on March 27, 2009”

Of course, we can look at this in an instant and realize that the copywriters are no dummies — saying that it provides eight times the interest income of a “typical” savings account nicely implies that this is an “atypical” savings account.

It is no such thing … but the “government backed” part is at least partly true and accurate, so that doesn’t mean it’s not worth a look.

So how can you get on what they’re calling a “distribution list” for what they call the “Payout Checks Guaranteed by the U.S. Treasury?”

Can we just pause for a moment to celebrate the copywriter’s art? It’s not unique, but this use of the word “list” is hugely effective — there aren’t many among us who don’t believe that somewhere there’s a “list” that some people get on to get preferential treatment, and I’ve certainly had my share of waiting behind the velvet rope and being told that I’m “not on the list.”

So who wouldn’t want to put themselves on this list? Get in on the secret that lets you get paid free money for no labor?

“… your payments are distributed by government-regulated companies who are mandated by Federal Law to pay you your share of this “insider deal.” That means you must be paid in full, and on schedule. It’s the law.

“The money is first accumulated in the accounts of special government-regulated companies. These companies must distribute this money on a regular basis to ordinary Americans who are on the distribution list. Many wealthy people are on this list. It’s “insider deals” like this that made them so rich.

“But this ‘insider deal’ is available to everyone — rich and poor.”

So, that covers just about all of us, I think — rich and poor. Do you want to get on this list?

All you have to do, I’m afraid to say, is buy shares of a Mortgage REIT.

Mortgage REITs, sometimes also called Finance REITs, are real estate investment trusts that own mortgages instead of properties — and in most cases, they actually just buy mortgage bonds, they don’t make loans directly.

And their payouts are guaranteed — at least, to the extent that they make money. Like all REITs, they have to pay out essentially all of their income (90%+) to shareholders as dividends in order to avoid paying corporate taxes.

And the government-backed part is also sort of real — Mortgage REITs are not themselves particularly backed by the government, but their portfolios are. Most of these companies hold largely agency bonds, which are mortgage bonds issued by Fannie Mae, Freddie Mac and Ginnie Mae, and with the government takeover of Fannie and Freddie there is now a more “explicit” (rather than the previous “implied”) guarantee of principal protection for those bonds. They still trade differently from Treasury bonds because of a fear that there’s still some hidden risk somewhere, but essentially I think most people understand that Fannie and Freddie bonds are guaranteed by the US Treasury now.

So how do they make money? Well, in general these companies borrow money short and lend long — they have to be quite leveraged to make money, so they borrow a multiple of their market capitalization and use that money to buy Fannie Mae (and other) bonds. Since they’re borrowing with short term facilities, let’s say for two years, and buying long term bonds with, for example, ten year durations, they make money by pocketing the