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As we approach the FOMC meetings, we can see word being leaked out that the Fed will continue the buying spree to keep longer term interest rates down. I believe that with extended quantitative easing, the entire agency mREIT sector could fall further. As noted in this report:

"The Federal Reserve is widely expected to announce on Wednesday that it will continue buying Treasury securities to stimulate growth in the new year."

While this might indicate some short-term positives for the stock markets, it could mean some more pain for the agency backed mREIT sector, and companies like Annaly Capital (NYSE:NLY) and American Capital (NASDAQ:AGNC).

It is already quite apparent that both of these companies could cut dividends in the coming quarters, and as the Fed continues placing downward pressure on longer-term rates, I believe that a cycle of lower dividends will lead to lower share prices as investors seek other avenues for a less risky income stream. Especially if total return declines eat up many future quarters of potential dividends from this sector.

Will It Be Bond Buying Or Increased MBS Purchases?

At this point we can only speculate, but I would tend to agree with this comment from the same article noted above:

"Analysts say the immediate answer is likely to be more of the same. The Fed currently buys $40 billion of mortgage-backed securities and $45 billion of Treasury securities a month. Officials highlighted that $85 billion figure in September, and have indicated since that it remained their rough target.

"It would be odd for them to disappoint the expectations that they have created themselves," Kris Dawsey of Goldman Sachs wrote in a note to clients predicting that the Fed would maintain both the dollar amount and the division. Other analysts have suggested the Fed might slightly decrease the total amount of purchases, to $80 billion, or increase the share of mortgage securities."

If the Fed sticks with bond buying, then both NLY and AGNC know what to anticipate, more or less. If the Fed increases their MBS purchases to between $65 billion-$85 billion, then we could see an even greater competitive environment from an entity that has an unlimited money supply. There is simply no way NLY or AGNC can compete with that power over the long term. Can any entity compete with a money printing press?

Here are some other comments that give some clues from this article:

"U.S. central bankers look set to extend their monetary stimulus, known as Quantitative Easing, into the new year at a meeting on Tuesday and Wednesday. Analysts expect the Fed to continue buying $85 billion worth of securities per month.

"The Fed would not have emphasized the number '$85 billion' in securities purchases in its statement if it wasn't prepared to continue at that pace well beyond the end of the year," said Roberto Perli, a senior managing director at investment research firm ISI."

The Squeeze Continues

One look at this chart speaks volumes:

Yields have shrunk, the spread has tightened, and interest rates continue dropping. This makes the business model of the agency mREIT sector that much more difficult to navigate.

My Opinion

Two wonderful companies are being pressured by the Fed policy of MBS purchasing. I believe that all stocks in this sector will see further pressure until the Fed either clarifies their position and/or gets out of the way.

The stocks in this sector are still too risky to consider, in my opinion.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Source: FOMC Meeting Could Sink Agency mREITs Further