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With inflation easing and the economy potentially heading for a soft landing, more attention is being paid to the possibility of a second rate cut. In his remarks earlier this week, Federal Reserve Chairman Jerome Powell said, “The economy is in solid shape,” and that the Fed plans to use its tools to keep it in good shape.
Those kinds of comments should be a general boost for mortgage real estate investment trusts (mREITs). Mortgage REITs typically borrow short-term to invest in long-term mortgage assets. When interest rates are low, their financing costs fall, improving their net interest margin. That margin is the difference between the income from their mortgage and the financing costs. This increase in profitability can increase the REIT’s earnings and dividends.
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While some mREITs, such as Ready Capital ( NYSE:RC ) , have recently cut their dividends, this appears to be a response to individual credit issues rather than the state of the mortgage REIT market overall. Donald Fandetti, an analyst at Wells Fargo who specializes in mortgage and financial markets, upgraded two mREITs that provide investors with high returns.
Why now for AGNC?
AGNC Investment Corp. (NASDAQ:AGNC) invests in mortgage-backed securities (MBS). It invests primarily in mortgage-backed securities issued or guaranteed by government sponsored enterprises (GSEs) such as Fannie Mae, Freddie Mac or Ginnie Mae. These are considered lower risk because the government supports them. It generates income from homeowners’ interest payments on the underlying mortgages. AGNC has been in the public markets since 2008 and has returned more than $13.4 billion to investors in the form of dividends during that period, as of the second quarter. It has a current dividend yield of 13.8% and an annual payout of $1.44 per month. In September, Fandetti upgraded AGNC from Equal Weight to Overweight and raised its price target from $10 to $12.
Naturally, AGNC’s performance is heavily influenced by interest rates, mortgage rates and the overall housing market. When interest rates rise, the value of AGNC’s assets may fall, while lower interest rates generally benefit the company. Speaking to analysts on second-quarter earnings results in July, CEO Peter Frederico said he expects demand for mortgages to improve after the election. “I think that bank regulation will ultimately prove to be less onerous than we feared and may even lead to demand for mortgages.”
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Time to take a look at Annaly Capital Management?
Annaly Capital Management, Inc. (NYSE:NLY) is similar to AGNC and invests primarily in MBS and other real estate-related assets. It is one of the largest mortgage REITs in the US and has significant exposure to the GSEs. It also invests in home loans, commercial real estate and corporate debt. Annaly’s Residential Credit Group is the largest non-bank issuer and the second largest issuer of prime jumbo and jumbo credit MBS. It has a current dividend yield of 13% and pays an annual dividend of $2.60 every quarter. Fandetti upgraded Annaly from equal weight to overweight and raised the price target from $19 to $23.
A growth area for Annaly is mortgage rights (MSR) services. Annaly just announced a partnership with Rocket Companies (NYSE:RKT). Rocket Mortgage will be the sub-manager of the Annaly portfolio.
During the July earnings call, CEO David Finkelstein said: “We remain well positioned to grow our MSR business given our structure and partnerships, and we believe we have built one of the most sustainable and high-quality portfolios within the MSR sector .”
These two upgrades could be a sign of positive signs in the housing market. With mortgage rates falling, there is hope that mortgage production will increase and the housing market will regain strength.
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This article Wells Fargo Analyst Upgraded These Two Very High Yield Mortgage REITs, What’s Behind the Move? originally appeared on Benzinga.com
