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American Capital Agency Corp. Message Board

  • eyesandears51 eyesandears51 May 11, 2013 6:48 PM Flag

    Reasons MREIT's are Underperforming the Stock Market

    MREITS are underperforming in an overall robust stock market. Five concerns are creating a negative environment for MREIT’s: 1- The recent disappointing financial performance of AGNC, MTGE, and NLY, combined with deep anxiety over the upcoming May 15 WMC report. 2- Questions about future MREIT earnings being sufficient to cover attractive dividend payout’s. Two alternatives exits if the coverage ratio is inadequate: Lower the dividend, resulting in the double negative of reduced yield, and the likely decline in stock price. Issue a dilutive secondary public offering to support dividend payment, rather than to re-investing the proceeds in acquiring margin generating securities 3- Widespread concern about an imminent 5-10% stock market correction, considered by many to be over due. 4- Added regulatory burden, cost, and reduced flexibility, associated with being designated as “ Systemically Important “ by the government. 5- Significant market disquiet over the timing and pace of winding down the highly accommodative QE......X Federal Reserve monetary policy.

    The Fed has committed to purchase $ 40 Billion/month of Mortgage Backed Securities until 6.5% real unemployment is realized, factoring in Labor Participation as part of the unemployment rate. The objective is to lower long term mortgage rates by buying US guaranteed paper from FNME, FREDDIE MAC, GNME, and others. While the intent of QE-X is to provide long term liquidity and low rates for mortgages, it does nothing to affect bank loan qualification standards. Low mortgage rates are only accessible to the subset of applicants who qualify; if the prospective mortgage holder is self employed, retired, changed jobs/careers, or is credit impaired, re-financing at a reduced rate is problematic. Most MREIT's hedge some, or all, of their portfolio against accelerated redemption rates. This varies widely from one company to another. The firms that have a very cost, and coverage effective series of layered hedges, will have better operating results. OE X artificially lowers MREIT’s borrowing costs, and raises the value of their existing portfolio of government guaranteed MBS's. This is adjusted for the decay, or early payoff of their holdings. As QE...X expires, interest rates will rise to reflect the underlying cost of capital. Consequently, the MREITS cost of borrowing will increase, as will the interest rate on new and rate adjusted mortgages. MREITS make their margin by arbitraging the spread between their lower cost of short term capital ( borrowing ) and the higher interest rate received from longer term mortgage’s ( revenue ). Keep in mind, only the interest payment on the MBS is government guaranteed, not the risk of early termination or refinancing of mortgage securities, at a lower rate.

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    • This question of the effect of QE ending on agency mREITS was asked to Scott Kennedy over at SA, he is CPA who's done work for mREITs. Here is his answer:
      "...The discontinuation of quantitative easing (QE) would generally mean on increase in the interest rates for the markets. The manipulation of market interest rates by the FED (through QE 1,2,3, etc.) would be curbed. Eventually, the FED fund rates and all inter-banking/LIBOR rates would rise. The FED will only stop QE if they see a long, sustained economic rally. I personally do not this happening anytime soon. The first time-point I could see this happening is 2015.

      For purposes of answering for question (what will happen if QE ends), let's assume it ends this year. For MREITS, this means the discontinued strategy by the FED of repurchasing $30-60 billion in bonds/mortgage securities per month. This actually would be a positive for this sector. Since the inception of QE, current market agency securities that have been purchased have an extremely high premium to par valuation due to the government being a competitor in the market. This leads to an extremely high unamortized cost basis on any underlying agency security that is purchased by an MREIT. This causes an elevated amortization expense over the life of the agency security. Also, since the government is out of the market (in regards to repurchasing these agency securities each month), I feel there would be a positive impact on the underlying CPR rates for MREITS. The chances of refinancing decreases for when interest rates rise and when the government exits the bonds/mortgage securities market.

      • 1 Reply to greatdeceivah
      • Here is the rest of his answer:
        However, as talked about in my article + answers to comments above, when interest rates continue to rise, the general FMV of the higher-yielding, existing agency securities will gradually fall. Management must know this scenario is coming and implement the following: 1) use a derivative strategy that will mitigate the FMV losses that will occur 2) adjust their existing portfolio to best stem this tide via sales + purchases and increased or decreased leverage.

    • This is hopeful thinking shortie.
      1-Market corrections have little or no effect on mREITs. As a matter of fact, equity market corrections usually have the opposite effect on mREITs as investors pull out their money from equities and go to the safer pastures of bonds, defensive stocks and high dividends paying stocks.. mREITs for example.
      For a proof of this, just check out AGNC's historical prices.

      2-If the latest iteration of QE was driving AGNC's price, then, AGNC should be at an all-time-high, and it isn't..
      AGNC reached an all time high in September last year and we haven't been even close since then.

      3-once the market corrects as everyone expects, The Fed, QE will continue in another form.
      QE is not going to expire anytime soon.. not this year for sure. The risk of ending QE prematurely is TOO HIGH and it could easily pull the economy into another recession.

    • Very well articulated analysis. Stock is below it's 50, 150 and 200 day SMA, MACD is declining. Stock is already below previous 2013 low of $ 29.40. All near term support levels have been breached. Stock may reach it's Nov 16, 2012 low of $ 28.08 before recovering.

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