Parsimony Inves...'s  Instablog

“The SEC held an open meeting on August 31 in which, among other things, the commissioners of the SEC voted to issue a concept release on interpretive issues related to the status under the Investment Company Act of 1940 of companies, including mortgage REITs, that are engaged in the business of acquiring mortgages and mortgage-related instruments and that rely on the exclusion from the definition of investment company in Section 3(c)(5)(C) of the Act. The SEC is soliciting comments on a wide range of issues, including the interpretation of Section 3(c)(5)(C), and the operation of these companies under the rule.
 

“On behalf of Annaly and on behalf of Chimera Investment Corporation and CreXus Investment Corp., the two REITs that are externally managed by our subsidiary, FIDAC, we look forward to participating in the process that the SEC has initiated.
 

“It is worth noting that the effort set in motion by the SEC does not in any way affect the tax status of REITs, which is a tax election that is regulated by the restrictions and limitations set forth by the Internal Revenue Code. Rather, the SEC’s goal is to focus on issues under the Investment Company Act that have not been reviewed in a formal way since 1960 to see if the staff interpretations in this area should be updated or made more clear and comprehensive.
 

“Each of Annaly, Chimera and Crexus constantly monitors its assets so as to ensure that at all times it is exempt from registration under the Investment Company Act under the well-established precedents and guidelines promulgated by the SEC.
 

“We support the establishment of a clear and comprehensive set of best practices for the operation and management of all mortgage REITs in order to preserve their traditional role in capital formation for residential housing, safeguard their investors and enable them to continue to generate income-based returns for institutional and retail investors.
 

“We look forward to participating in the SEC comment process, and we encourage all the shareholders of Annaly, Chimera and CreXus to also participate. To register a comment over the next 60 days, please use the SEC’s Internet comment form at http://www.sec.gov/rules/concept.shtml or send an e-mail to rule-comments@sec.gov, or simply contact your elected representatives in Congress.”

Parsimony's Take

Clearly, Annaly seems cautiously optimistic about the future for mortgage REITs. However, the big concern for mortgage REITs is that they will lose their ability to employ high levels of leverage if they are subject to the Investment Act.

The table below highlights the current leverage and dividend yields the largest agency-focused mortgage REITs. 



While we view the risk of deleveraging as a low probability, mortgage REIT investors should follow the situation with the SEC very closely. In addition, investors should not be afraid to comment if they disagree with the SEC's stance. We agree with Mr. Farrell and encourage all mortgage REIT shareholders to participate in the comment process.