Mortgage REIT Sell-Off Overdone on Rate Fears: KBW, RBC
NEW YORK (TheStreet) -- Rising interest rates have sparked a sell-off in mortgage REITs, but reports from Keefe Bruyette & Woods and RBC Capital Markets urge investors to use the opportunity to add exposure to the sector.
"We think the bond market has over-reacted and mortgage REITs have over-reacted to that over-reaction. We maintain our positive outlook," states one of two reports on mortgage REITs from KBW Wednesday.
Ten-year Treasury yields have gone from 1.61% on May 1 to 2.13% ahead of U.S. stock markets opening Thursday. Two-year yields, meanwhile, have risen to 0.30% from 0.20%.
The business model of many mortgage REITs is to fund themselves for short periods of time and then, using leverage, buy longer-dated mortgage-backed securities and debt issued by U.S. agencies such as Fannie Mae and Freddie Mac. But when bonds sell off, it creates a problem for the REITs since their funding costs rise while the value of the securities they hold declines.
The sell-off in Treasuries has been driven by fears the U.S. Federal Reserve will begin tapering its monthly purchase of U.S. Treasury bonds and mortgage backed securities.
Stocks with less downside potential if the Fed cuts back its stimulus more quickly than expected, according to KBW, are Capstead Mortgage Corp. (CMO_), Hatteras Financial (HTS_), MFA Financial (MFA_), Anworth Mortgage Asset (ANH_), and Dynex Capital (DNX).
However, investors who expect Fed stimulus to continue longer should focus on stocks that have been hardest hit by the recent bond market sell-off. Those include American Capital Agency(AGNC_), American Capital Mortgage Investment (MTGE_), and Western Asset Mortgage Capital Corp. (WMC_).
RBC recommends Annaly Capital (NLY_) as well as MFA and Hatteras. They also recommend American Capital Agency, though they warn that "higher leverage in its business magnifies returns and losses as well."
AGNC saw its share price hit a low of $25.01 Wednesday before rebounding to close at $26.40. The stock hit a high of $33.30 on May 1.
-- Written by Dan Freed in New York.
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