The Bloomberg article reveals that the debate of reducing the pace of or exiting the bond buying program has shifted away to extending the stimulus. This is a direct result of the condition of the economy, particularly cooling inflation and the US jobless rate. Currently, around 11.7 million US citizens are unemployed.
Members of the Fed’s Open Market Committee who earlier advocated exiting or slowing down the stimulus are now leaning towards extending the programs. Seven of the five voting members have supported this new stance. Therefore, I believe the policymakers will confirm their pledge to continue the easing until the job markets improve as imagined by the Fed. The committee is scheduled to meet next on April 30.
Inflation for the month of February came in at 1.3%, below the Fed’s preferred 2% level, while last month’s unemployment of 7.6% was above the 5.2%-6% desired range. Increased or prolonged easing will have the effect of creating further downward pressure on the long-term mortgage rates. While it will encourage mortgage loan borrowers to take out more loans or refinance their prior mortgages, it will also accelerate prepayments on the residential mortgage backed securities held by Agency mREITs. The combination of low mortgage rates and accelerated mortgage rates will cause Agency mREITs to report lower income during the coming quarters, threatening their dividends.
Some of the heavily followed Agency mortgage REITs include Annaly Capital Management, Inc. (NYSE:NLY), American Capital Agency Corp. (NASDAQ:AGNC) and CYS Investments Inc (NYSE:CYS).
Annaly Capital Management, Inc. (NYSE:NLY) is the largest Agency mortgage REIT and has suffered the most since the launch of QE3. Besides reporting a sequential 52 bps decline in its quarterly net interest rate spreads during the third quarter of the prior year, it was forced to cut its dividends 9% and 10% during the prior year. The dividend per share dropped from $0.55 to $0.45. The company is scheduled to report its first quarter performance April 29. The consensus earnings estimate for the first quarter is $0.34 per share, down from the prior quarter’s actual earnings of $0.35 per share.
American Capital Agency Corp. (NASDAQ:AGNC) is one of the most favored Agency mortgage REITs due to its management’s ability to select superior securities. This is exactly why it was able to maintain its quarterly dividend rate of $1.25 per share throughout the prior year. The company reported a 27 bps sequential increase in its asset yields during the fourth quarter of the prior year, while the net interest rate spread increased 21 bps over the same time period. Besides, the company reported one of the lowest prepayment speeds of 10% since most of the securities selected by American Capital Agency Corp. (NASDAQ:AGNC) are reported to have high prepayment protection attributes. Therefore, you can expect the company to continue its current dividend rate.
CYS Investments Inc (NYSE:CYS) also invests exclusively in Agency residential mortgage backed securities. It was forced to cut 36% to $0.32 per share during the prior year alone. The company disclosed its first quarter performance better than expected. The EPS came in at $0.32 per share, up $0.02 from the consensus mean expectation. Besides, the company reported a 2 bps increase in its net interest rate spread during the most recent quarter. This increase was driven by 5 bps decline in the cost of its borrowings.
Conclusion
I believe the strength in the results of CYS Investments Inc (NYSE:CYS) will also be seen at American Capital Agency Corp. (NASDAQ:AGNC) and Annaly Capital Management, Inc. (NYSE:NLY). This is because throughout the first quarter of the current year, mortgage rates remained relatively higher, while refinancing slowed down. This will cause American Capital Agency Corp. (NASDAQ:AGNC) and Annaly Capital Management, Inc. (NYSE:NLY) to report relatively flat net interest rate margins, if not an increase in them. However, going forward, the possible extension of Fed stimulus might reverse the situation out of favor of Agency mortgage REITs.
The article Headwinds for the mREITs originally appeared on Fool.com and is written by Adnan Khan.
Copyright © 1995 – 2013 The Motley Fool, LLC. All rights reserved. The Motley Fool has a disclosure policy.
