Investors often seek long-term growth, but some stocks shine only in specific market cycles. Enter agency mortgage REITs—firms that invest in mortgage-backed securities (“MBS”) backed by government agencies. Leaders in this space include AGNC Investment (NASDAQ: AGNC) and Annaly Capital Management (NYSE: NLY), offering impressive yields exceeding 13%.
Understanding Mortgage REITs
Picture mortgage REITs as investment firms with mortgage portfolios. By managing the spread between funding costs and mortgage yields, they generate returns. Leveraging hedges to match portfolio durations, they mitigate risks from fluctuating funding costs. Agency-backed MBS investments carry minimal credit risks due to government backup.
Challenges Faced
With fixed-income nature, mortgage REITs buckle under interest rate risk. In 2022, surging Federal Reserve rates caused turmoil, slashing AGNC’s book value by nearly -50%. AGNC and Annaly now trade slightly above their book values, depicting the hit suffered.
An overuse of leverage further aggravated the situation with the spread between agency MBS and Treasury yields widening, worsening the plight of mortgage REITs. The environment reached a tipping point where historical lows turned into unprecedented highs for spreads.
Looking Toward Brighter Horizons
In 2024, the tide may turn as the Fed hints at reducing interest rates. Lower rates enhance book values for REITs, offering a silver lining. Historical spreads remaining high present attractive investment opportunities.
Both Annaly and AGNC have reduced leverage post-pandemic, giving them space to bolster MBS purchases for increased net investment income. As the slate clears, mortgage REITs are poised to thrive amidst a more normal rate environment and shower investors with robust dividends. The biggest risk lurks in case mortgage rates climb higher from current levels.
Opportune Moment to Invest
The horizon looks promising as the market gears up for a potential turnaround for mortgage REITs. Amidst this transformation, Annaly and AGNC become top contenders due to their extensive experience in the realm.
*Geoffrey Seiler holds positions in Annaly Capital Management. The Motley Fool has no position in any of the stocks mentioned. The Motley Fool maintains a disclosure policy.
The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.
