Summer is over, the kids are back in school and most of our companies have now paid their quarterly distribution. Once ICMB and KMT write their checks, we’ve squeezed another 1.6% cash income out of the portfolio . . . the equivalent of a 6.4% annualized yield.

That’s what we’ve set out to do. As long as those last checks come in and everything else keeps coming on schedule, we’re beating everything in the Treasury market, theoretically in perpetuity.

And we’ve locked it in. The Fed can’t dictate that yield like they just did with Treasury bills, money markets and ultimately CDs. Cash flows into these businesses and out again into our accounts.

Even when those businesses are only expanding at a modest rate, the dividends we lock in now can actually go UP over time. Assuming that the operating environment doesn’t get substantially worse, the cash flow we’re getting is more of a floor . . . the longer we hold on, the higher that floor can rise.

Of course any discussion of the future has a speculative component. What we do around here is weigh scenarios against management’s known expertise: how adroitly have they steered through challenging times?

This is about executives’ ability to remember, learn and improve. They’ve obviously survived the last few years of shocks and upheaval. Their track record shows that they found a way to keep the cash flowing in that kind of environment.

So that’s the stress test. If the next four years are as crazy as the last, we would expect these management teams to produce results for shareholders similar to what they’ve already delivered . . . probably better, because they’ve learned.

Less crazy is generally easier. Remember, the Fed is relaxing now. The inherent strain high interest rates cause is receding.

And if life gets crazier, I think a lot of investors will welcome a more defensive posture. That’s where we are already. They’ll come to us.

Throughout the process, we’ll pivot when a holding stumbles or we see an opportunity to cycle into a higher aggregate yield. I want to do that now.

Marching Orders

Start by letting go of SON. We’ve given it a lot of time and captured a lot of dividends over the years . . . enough to make this position profitable.

However, a current yield of 3.8% might have felt good in 2021 but it’s technically a drag on our results now. That number is actually holding us back.

And when the yield is low, the only way SON can make up for it is by rallying to give us an outsize capital return. That’s the pain point here.

I don’t think SON is going to recover its 2021 momentum any time soon. At best, we might get 10-15% out of this one clawing back to the 52-week high, which is a level that acted as a ceiling this summer.

Time to go. Instead, I’d like to rotate into Two Harbors (TWO), which is a mortgage REIT. They borrow cheap money and then buy long-term debt (mortgages) paying a higher interest rate . . . effectively funding the borrowing program with enough left over to return at least 90% of the income to shareholders.

What impresses me about TWO is that unlike a lot of mortgage REITs, they found a way to stay profitable in the last few years. This was a perfect storm for these companies but management found a way to stay afloat.

Granted, it meant cutting the quarterly dividend to $0.45 per share, but the operating environment is getting easier now thanks to the Fed. This is a direct play on Powell’s more relaxed policy.

Not a lot of people know about this company. It’s “only” $1.4 billion in market cap, a rounding error on the Big Tech names that dominate the market headlines.

But here at $14, even if management keeps the dividend where it is, we’ll earn 3.2% every three months . . . that’s the base case.

And there’s room for a return to “normal” to raise the bar a lot. Shocking fact: before the pandemic, this was a $54 stock. I am not counting on TWO getting back to that world any time soon, but it just shows how depressed the stock is now.

Our objectives are a lot smaller and more realistic. TWO estimates that its loan portfolio is worth a net $15.19 per share right now. Those assets get more valuable as the housing market heats up, so that number could improve over time.

Even if it doesn’t, hitting $15 would give us roughly the capital appreciation that SON could deliver if it manages to revert to summer levels. But TWO pays 4X the dividend yield so the choice is clear.

Sell SON. Roll into TWO below $14.15 and roll our aggregate yield up around 2% a quarter . . . the equivalent of 8% a year. So far, so good.