Mortgage REITs own the mortgages on real estate rather than the property. Most mREITs have performed poorly over the last month and into the strong sell-off within August. Mortgage REITs have been hit by added risks, such as the debt ceiling debate, debt downgrading, interest rate fluctuations, real estate weakness, mortgage holder defaults, and fraudulent/defective underlying mortgages.
Most mortgage REITs produce high yield returns by leveraging a spread. The spread is the profit margin the REIT can achieve between the rate on the money they borrow and the rate paid by the mortgage paper they hold. A major risk for mortgage REITs is that the spreads will get hurt due to increasing interest rates decreasing their spreads due to an increase in borrowing costs.
This week, Ben Bernanke added some greater certainty to interest rate risks, when the Federal Reserve Board stated that it would keep the Federal Funds Rate near zero through mid-2013. The reasoning by the fed was due to a diminished economic outlook. The market was generally anticipating that rates would or should increase before then. This pressure on interest rates should make It easier for mREITs to keep their borrowing costs low, making it easier for them to maintain high spreads. The following is a list of the current dividend yields for several of the largest and highest volume mREITs:
American Capital Agency Corp. (NASDAQ:AGNC) Annaly Capital Management, Inc (NYSE:NLY) Hatteras Financial Corp (NYSE:HTS) Chimera Investment Corporation (NYSE:CIM) Cypress Sharpridge Investments (NYSE:CYS) Invesco Mortgage Capital, Inc. (NYSE:IVR)
The risk reduction to mREITs caused by the Fed's elaboration as to its intentions in sent several mREITs up by over 10 percent on Tuesday, with most remaining stable or appreciating further since then. Nonetheless, most of the largest and most followed mREITs are still paying well over 10 percent yields. REITs must distribute at least 90% of their taxable income in order to eliminate the need to pay income tax at the corporate level. Under the current tax laws, REIT dividends are taxed as ordinary income, and not at the lower corporate dividend rate.
Should you be interested in investing broadly in this sector, another option may be the iShares Exchange Traded Fund that tracks the performance of an index of residential and commercial mortgage REITs, mortgage finance and savings associations sectors (NYSEARCA:REM). This ETF usually contains most of the above-mentioned mREITs within its top holdings. Additionally, should you be interested in investing in mREITs, please note the significant risks associated with the asset class, as exhibited by the volatile performance of several through the last 2 months Disclosure: I am long NLY, CIM.
Disclaimer: This article is intended to be informative and should not be construed as personalized advice as it does not take into account your specific situation or objectives.
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