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Focus of Article:
The focus of PART 1 of this article is to analyze Annaly Capital Management Inc.’s (NYSE:NLY) recent results and compare several of the company’s metrics to 19 mortgage real estate investment trust (mREIT) peers. This analysis will show past and current data with supporting documentation within four tables. Table 1a will compare NLY’s mortgage-backed securities (“MBS”)/investment composition, recent leverage, hedging coverage ratio, and change in investment portfolio size to the 19 mREIT peers. Table 1b will compare NLY’s BV, economic return (loss), and premium (discount) to estimated CURRENT BV using stock prices as of 11/19/2021 to the 19 mREIT peers. Table 2 will show a quarterly compositional analysis of NLY’s agency MBS portfolio while Table 3 will show the company’s recent hedging coverage ratio over the prior two quarters (only contributor/team to provide continuous detailed hedging metrics).
I'm writing this two-part article due to the continued requests that such an analysis be specifically performed on NLY vs. its mREIT peers at periodic intervals. This article also discusses the importance of understanding the composition of NLY’s MBS/investment and derivatives portfolios when it comes to projecting the company’s future quarterly results as interest rates/yields fluctuate. Understanding the characteristics of a company’s MBS/investment and derivatives portfolios can shed some light on which companies are overvalued or undervalued strictly per a “numbers” analysis. This is not the only data that should be examined to initiate a position within a particular stock/sector. However, I believe this analysis is a good “starting-point” to begin a discussion on the topic.
At the end of this article, there will be a conclusion regarding the following comparisons between NLY and the 19 mREIT peers: 1) trailing 24-month economic return (loss); 2) leverage as of 9/30/2021; 3) hedging coverage ratio as of 9/30/2021; and 4) premium (discount) to my estimated CURRENT BV (BV as of 11/19/2021). My BUY, SELL, or HOLD recommendation and updated price target for NLY will be in the “Conclusions Drawn” section of this article. This includes providing a list of the mREIT stocks I currently believe are undervalued (a buy recommendation), overvalued (a sell recommendation), or appropriately valued (a hold recommendation).
Overview of Several Classifications within the mREIT Sector:
I believe there are several different classifications when it comes to mREIT companies. For purposes of this article, I'm focusing on four. It should be noted in light of several prior acquisitions and certain changes in overall investment strategies, some mREIT companies have minor-modest portfolios outside each entity’s main concentration. However, I have continued to group certain mREIT companies in each entity’s main classification for purposes of this article. Some market participants (and even some mREIT companies) have different classifications when compared to Table 1a. Some market participants/companies base classifications on the percentage of capital deployed in each entity’s investment portfolio. However, my preference is to base a company’s classification on the monetary “fair market value” (“FMV”) of each underlying portfolio (which, for a fact, is what drives valuation fluctuations). In my professional opinion, there is no “uniform” methodology when it comes to classifying mREIT companies but more of an underlying preference. Readers should understand this as the analysis is presented below.
First, there are mREIT companies who earn a majority of income from investing in fixed-rate agency MBS holdings. These investments consist of commercial/residential MBS, collateralized mortgage obligations (“CMO”), and agency debentures for which the principal and interest payments are guaranteed by government-sponsored enterprises/entities (“GSE”). This is extremely important to understand (especially when markets incorrectly priced in this notion last year). Since these investments typically have higher durations versus most other investments within the broader mREIT sector, companies within this classification typically utilize higher hedging coverage ratios in times of rising mortgage interest rates/U.S. Treasury yields (or a projected rise over the foreseeable future). NLY, AGNC Investment Corp. (AGNC), Arlington Asset Investment Corp. (AAIC), ARMOUR Residential REIT Inc. (ARR), Cherry Hill Mortgage Investment Corp. (CHMI), Dynex Capital Inc. (DX), Invesco Mortgage Capital Inc. (IVR) (moved to an agency mREIT back in 2020), Orchid Island Capital Inc. (ORC), and Two Harbors Investment Corp. (TWO) are currently classified as a fixed-rate agency mREIT.
Second, there are mREIT companies who earn varying portions of income from investing in agency MBS holdings, non-agency MBS holdings, other securitizations, and non-securitized mortgage-related debt investments (including residential whole loans). This type of company is known as a “hybrid” mREIT. In regards to non-agency MBS, this includes (but is not limited to) Alt-A, prime, subprime, and re/non-performing loans where the principal and interest are not guaranteed by a GSE. Since there is no “government guarantee” on the principle or interest payments of non-agency MBS and residential whole loans, coupons are generally higher when compared to agency MBS of a similar maturity. However, borrowing costs (including repurchase agreements) for these specific investments are also higher (no government guarantee - credit risk). Due to the subtle yet identifiable differences between agency and non-agency MBS/residential whole loans, I like to differentiate between an agency and a hybrid mREIT company. Since there is credit risk when it comes to non-agency MBS and residential whole loans, leverage ratios are typically lower when investing in these securitizations/investments when compared to agency MBS (even when credit risk remains low). Last year’s historical volatility within this specific sector has temporarily caused most mREIT peers to deleverage which has caused some temporary “disruptions” when it comes to leverage ratios. Over time, this should return to more historical averages (will take time though). Chimera Investment Corp. (CIM), Ellington Financial Inc. (EFC) (converted to a REIT in 2019), MFA Financial Inc. (MFA), AG Mortgage Investment Trust Inc. (MITT), New York Mortgage Trust Inc. (NYMT), and Western Asset Mortgage Capital Corp. (WMC) are currently classified as a hybrid mREIT.
Third, there are mREIT companies that invest in (but are not limited to) a combination of agency MBS, non-agency MBS, credit risk transfers (“CRT”), other mortgage-related investments (including direct originations of mortgages and/or correspondent production), non-securitized debt investments (including residential, multifamily, and commercial loans), and mortgage servicing rights (“MSR”). I believe New Residential Investment Corp. (NRZ), PennyMac Mortgage Investment Trust (PMT), and Ready Capital Corp. (RC) should currently be classified as an “originator and servicer” mREIT. Since NRZ and PMT currently have at least a modest portion of the company’s investment portfolio in MSR and MSR-related investments which act as an “indirect” hedge (the same can be said regarding interest only [IO] securities), these companies do not need to utilize a high hedging coverage ratio (some could even argue to not have derivative instruments in place; if anything, “contra” hedges to counter a drop in rates/yields). Indirect hedges are not calculated within each company’s hedging coverage ratio (not the main purpose of these investments). As I have pointed out in the past, these investments actually benefit, from a valuation standpoint, in a rising interest rate environment as prepayment risk (and in a majority of scenarios credit risk) decreases while there is an increase in projected future discounted cash flows (and vice versa).
Finally, there are mREIT companies that basically solely invest in non-securitized, commercial whole loans with underlying collateral (real estate) tied to offices, multifamily units, hotels, retail stores, industrial complexes, and other miscellaneous types of properties. Regarding the two commercial whole loan mREIT peers I currently cover, Blackstone Mortgage Trust, Inc. (BXMT) and Granite Point Mortgage Trust Inc. (GPMT), these companies typically originate/invest in variable-rate, interest-only senior secured (typically first lien) debt. Since BXMT and GPMT both had 98%+ of its investment portfolio in variable-rate debt as of 9/30/2021, these companies currently do not need to utilize a high hedging coverage ratio (some could even argue to not have derivative instruments in place; LIBOR floors are a good substitute as well). Now let us start the comparative analysis between NLY and the 19 mREIT peers.
Leverage, Hedging Coverage Ratio, BV, Economic Return (Loss), and Premium (Discount) to Estimated Current BV Analysis - Overview:
Let us start this analysis by first getting accustomed to the information provided in Table 1a and 1b below. This will be beneficial when explaining how NLY compares to the 19 mREIT peers in regards to the metrics stated earlier.
Table 1a – mREIT Asset Composition, Leverage, Hedging Coverage Ratio, and Change in Investment Portfolio Size
(Source: Table created by me, calculating asset compositions, leverage, and hedging coverage ratios from data provided by the SEC’s EDGAR Database)
Table 1a above provides the following information on NLY and the 19 mREIT peers (see each corresponding column): 1) generalized MBS/investment portfolio composition as of 9/30/2021; 2) on-balance sheet leverage ratio as of 9/30/2021; 3) at-risk (total) leverage ratio as of 9/30/2021; 4) hedging coverage ratio as of 9/30/2021; 5) hedging weighted average tenor/maturity; and 6) change in investment portfolio size (excludes off-balance sheet transactions). Regarding the notion some mREIT peers have “two sets” of ratios, I break out both non-recourse and recourse leverage. Between the two sets of ratios within one column, recourse leverage ratios are represented by the lower figure on the right hand side and are deemed more important.
Table 1b – BV, Economic Return (Loss), and Premium (Discount) to Estimated Current BV Analysis
(Source: Table created by me, obtaining historical stock prices from nasdaq.com and each company’s 6/30/2021 and 9/30/2021 BV per share figures from the SEC’s EDGAR Database [link provided below Table 1a])
Table 1b above provides the following information on NLY and the 19 mREIT peers (see each corresponding column): 1) BV per share at the end of the second quarter of 2021; 2) BV per share at the end of the third quarter of 2021; 3) BV per share change during the third quarter of 2021 (percentage); 4) economic return (loss) (change in BV and dividends accrued for/paid) during the third quarter of 2021 (percentage); 5) economic return (loss) during the trailing 24-months (percentage); 6) my estimated CURRENT BV per share (BV as of 11/19/2021); 7) stock price as of 11/19/2021; 8) 11/19/2021 premium (discount) to my estimated CURRENT BV (percentage); 9) 2/21/2020 BUY, SELL, or HOLD recommendation (pre market sell-off due to coronavirus [COVID-19]); 10) 4/3/2020 BUY, SELL, or HOLD recommendation (post majority of market sell-off due to COVID-19); 11) 11/19/2021 BUY, SELL, or HOLD recommendation; and 12) BUY, SELL, and HOLD recommendation range, relative to my estimated CURRENT BV.
Analysis of NLY:
As of 9/30/2021, NLY’s investment portfolio consisted of 79% and 1% fixed- and variable-rate agency MBS holdings, respectively (based on FMV). When compared to 6/30/2021, NLY’s percentage of fixed- and variable-rate agency MBS decreased (2%) and remained unchanged, respectively. NLY also had a 3% multifamily agency MBS sub-portfolio which was an increase of 2%. NLY continued to invest in non-agency MBS and non-MBS holdings which accounted for 17% of the company’s investment portfolio balance as of 9/30/2021 which was unchanged. This included NLY’s investments in preferred equity, corporate debt, middle market (“MM”) lending, seniors housing, and MSRs. NLY recently sold basically the company’s entire commercial real estate sub-portfolio to Slate Asset Management L.P. (“Slate”) for $2.33 billion. This sale closed/was finalized during the third quarter of 2021.
Using Table 1a above as a reference, when excluding borrowings collateralized by assets held in “securitization trusts” (non-recourse debt), NLY had an on-balance sheet leverage ratio of 4.2x while the company’s at-risk (total) leverage ratio, when including its off-balance sheet net long “to-be-announced” (“TBA”) MBS position, was 5.8x as of 9/30/2021. NLY had an on-balance sheet and at-risk (total) leverage ratio of 4.5x and 5.8x as of 6/30/2021, respectively. As such, NLY slightly decreased the company’s on-balance sheet leverage while maintaining its at-risk (total) leverage during the third quarter of 2021. This was mainly due to on-balance sheet portfolio runoff within NLY’s investment portfolio “countered” by a minor increase to the company’s off-balance sheet net long TBA MBS position.
As of 9/30/2021, NLY had the 3rd lowest at-risk (total) leverage ratio when compared to the 8 other agency mREIT peers within this analysis. Due to the notable impacts from the COVID-19 pandemic to the mREIT sector when it came to the quick “spike” in leverage and liquidity risk (rising credit risk more of a longer-term impact regarding all non-agency investments), outside the commercial whole loan mREIT peers (BXMT and GPMT), all sector peers I currently cover had various strategies at play when it comes to investment portfolio composition and risk management strategies. Even when several mREIT peers had very similar MBS/mortgage-related investments, 2020 strategies notably differed from company-to-company. Directly dependent on the amount/percentage of margins calls on certain outstanding borrowings (and the underlying investments pledged as collateral) and derivative instruments, most mREIT peers had a notable change in 2020 leverage ratios. Due to NLY’s overall size and asset composition, this company was not “forced” to de-lever to the same extent as some of the smaller-capitalized agency mREIT peers (more “cushion” when it came to its existing capital base).
Previously, management implied NLY had a fairly “defensive posture” in regards to leverage during 2017-2018 due to the risk of widening spreads/lower MBS prices as Federal (“Fed”) monetary policy dictated broader market dynamics (in particular, the Fed Funds Rate and the Fed Reserve’s non-reinvestment of U.S. Treasuries and agency MBS). However, with the Fed’s more “dovish” rhetoric in 2019 regarding U.S. monetary policy over the foreseeable future, I previously correctly anticipated NLY would increase leverage which was consistent with agency mREIT sector trends as net spreads narrowed. This benefited most mREIT peers during the fourth quarter of 2019.
However, this led to more severe BV declines during the first quarter of 2020 when the COVID-19 “pandemic panic” occurred across all financial markets (especially March). This was partially offset during the second quarter of 2020 as MBS pricing/valuations (and most other mortgage-related investments outside some CMBS and commercial whole loans) rebounded in price/valuation as financial panic/stress eased (mainly due to the Fed’s swift response regarding financial assistance and monetary policy). This general trend continued into the third and fourth quarters of 2020 as broader market pricing/valuations (outside isolated pockets) rebounded further. As such, most mREIT peers reported BV increases during the third and fourth quarters of 2020 (including NLY).
During the first quarter of 2021, even though severe agency MBS price decreases occurred within lower coupons, spreads notably tightened within most derivative instruments which led to outperformance within certain agency mREIT peers (and broader sector peers) who utilized higher hedging coverage ratios (especially with higher duration hedges). However, during the second quarter of 2021, I believe markets finally started to begin pricing in the eventual announcement of the Federal Open Market Committee (“FOMC”) to begin its asset tapering program. Remember, the market is always “forward thinking” in its processes. As such, speculation appeared to be on the rise in my opinion. The Fed was purchasing $80 billion of U.S. Treasury securities and $40 billion in agency MBS each month. This fear/speculation directly resulted in a widening of spreads within fixed-rate agency MBS relative to derivative instrument valuations this past summer (increase in spread/basis risk).
Moving to more recent trends, as generally anticipated the FOMC recently announced the start of the Fed’s taper program to start this month. With recent additional clarity provided by the FOMC, the first taper/reduction will be ($10) billion in U.S. Treasury Securities and ($5) billion in agency MBS. Further reductions now appear to be set on a monthly basis (versus previous speculation each subsequent reduction/taper would be quarterly) but this decision is not “set in stone.” These monthly reductions assume the debt ceiling is raised and there is no partial government shutdown in December 2021. In addition, it should be noted the Fed will continue to reinvest/rollover all existing principal and interest payments into new MBS. As such, this taper will be isolated to new/additional capital. Even after the taper is complete, the FOMC/Fed has made it pretty clear they have every intention of continuing to reinvest all principal and interest payments/proceeds. As such, the size of the Fed’s balance sheet would merely remain relatively unchanged for some time (at least the next year).
Still, as I have always stated, I/we knew the FOMC’s quantitative easing (“QE”) program would eventually come to an end regarding its latest round; QE4. Readers should anticipate some type of spread/basis widening to occur as we head into 2022. As we saw during the first two weeks of June 2021, to a less extent during July 2021, and once again this past week, this negatively impacted some sector BVs. The whole notion around tapering and spread/basis risk has already been priced in via my/our individual mREIT recommendation ranges. Very important to understand. This was also one of the main reasons why I personally exited my AGNC and NLY positions in early June 2021 at a price of $18.692 and $9.574 per common share, respectively (along with my/our price targets being met).
However, the severity of the projected rise in spread/basis risk in late 2021-early 2022 will be nothing like the “taper tantrum” of 2013. Very important to understand. Agency MBS pricing has already taken a fairly large “leg down” during the first quarter of 2021 (especially lower coupons). While specified pool pay-ups, in general, are still historically high, I do not anticipate a notable spike in rates/yields during any given quarter (say in excess of 100 basis points [bps]). As such, I do not anticipate a notable sell-off for these types of securities (say in excess of 5%).
Moving on, NLY had a BV of $8.37 per common share at the end of the second quarter of 2021. NLY had a BV of $8.39 per common share at the end of the third quarter of 2021. This calculates to a quarterly BV increase of $0.02 per common share or 0.24%. When including NLY’s quarterly dividend of $0.22 per common share, the company had an economic return of $0.24 per common share or 2.87% for the third quarter of 2021. When compared to fixed-rate agency mREIT peers like AGNC and DX, a similar performing-minor outperforming quarter from a BV perspective.
I correctly projected most agency mREIT companies would experience a relatively unchanged BV fluctuation during the third quarter of 2021. I also correctly projected the agency mREIT sub-sector would slightly underperform-basically match the hybrid, originator and servicer, and commercial whole loan mREIT sub-sectors regarding BV fluctuations during the third quarter of 2021. With that said, CHMI modestly underperformed my already low BV expectations. This was previously discussed with Marketplace subscribers in “real time” through earnings chat notes and subsequent earnings articles.
Let us now discuss NLY’s MBS and derivatives portfolios to spot certain characteristics which will impact future results. Table 2 below provides NLY’s proportion of fixed- and variable-rate agency MBS holdings as of 9/30/2021 versus 6/30/2021 (the vast majority of the company’s investment portfolio).
Table 2 – NLY Agency MBS Portfolio Composition (9/30/2021 Versus 6/30/2021)
(Source: Table obtained [with added highlights] from NLY’s quarterly shareholder presentation for the second and third quarters of 2021. Permission for use has previously been granted by NLY’s investor relation’s department [copyright shown in slides].)
Using Table 2 above as a reference, NLY continued to maintain a portfolio heavily invested in 30-year fixed-rate agency MBS holdings during the third quarter of 2021. NLY’s proportion of 15-year fixed-rate agency MBS holdings slightly decreased from 6.1% to 5.3% during the quarter (based on par/face value). NLY’s proportion of 20-year fixed-rate agency MBS holdings very slightly decreased from 3.4% to 3.3%. As such, NLY’s proportion of 30-year fixed-rate agency MBS slightly increased from 90.5% to 91.4%. When compared to a fixed-rate agency mREIT peer like ARR, NLY continued to have a higher proportion of 30-year fixed-rate agency MBS holdings during the third quarter of 2021. NLY had a similar proportion when compared to AGNC and ORC.
NLY’s on-balance sheet fixed-rate agency MBS holdings had a weighted average coupon (“WAC”) of 3.42% as of 9/30/2021 which was a (4) basis points (“bps”) decrease when compared to 6/30/2021. This provides direct evidence NLY had some higher coupon fixed-rate agency MBS sales/“roll-off”/prepayments during the quarter. Continuing a trend from the past six quarters, NLY’s TBA MBS position had a notably lower WAC of just 2.29% which was consistent with a few other fixed-rate agency mREIT peers regarding forward/generic MBS strategies (lower coupons generally equate to less prepayment risk). In addition, NLY’s weighted average three-month conditional prepayment rate (“CPR”) decreased from 26.1% to 22.8% which was also a fairly consistent trend across the sector as mortgage interest rates first decreased but then quickly increased by the end of the third quarter of 2021 (a bit of a “delayed” impact to this metric; including seasonal trends). Let us now move on to NLY’s derivatives portfolio.
While management has, in the past, diversified the company’s investment portfolio into less interest rate sensitive holdings (lower durations), a majority of the company’s investment portfolio (from a valuation standpoint) was still in fixed-rate agency MBS. Along with the “plummet” in the Fed Funds Rate to near 0% in March 2020 (which also caused a proportionately large decrease to the London Interbank Offered Rate (“LIBOR”) across all tenors/maturities and all other applicable short-term funding/interest rates) and subsequent margin calls in certain derivative instruments, NLY notably reduced the company’s hedging coverage ratio during the first quarter of 2020. As NLY entered into new interest rate swap contracts during the second, third, and fourth quarters of 2020 (at notably more attractive terms), management gradually “rebuilt” the company’s derivatives portfolio. NLY basically maintained this previously built-up derivatives portfolio during the first, second, and third quarters of 2021 (slight alterations within several sub-accounts). To highlight the recent activity within NLY’s derivatives portfolio, Table 3 is presented below.
Table 3 – NLY Hedging Coverage Ratio (9/30/2021 Versus 6/30/2021)
(Source: Table created by me, partially using NLY data obtained from the SEC’s EDGAR Database [link provided below Table 1a])
Using Table 3 above as a reference, NLY had a net (short) interest rate swaps and swaptions position of ($42.0) and ($3.1) billion as of 6/30/2021, respectively (based on notional value). NLY also had a net (short) U.S. Treasury futures position of ($13.1) billion. When calculated, NLY had a hedging coverage ratio of 74% as of 6/30/2021. When compared to the 8 other agency mREIT peers within this analysis, this was slightly above the average hedging coverage ratio of 66% as of 6/30/2021.
NLY had a net (short) interest rate swaps and swaptions position of ($44.8) and ($2.1) billion as of 9/30/2021, respectively. NLY also had a net (short) U.S. Treasury futures position of ($15.3) billion. When calculated, NLY’s hedging coverage ratio slightly increased to 78% as of 9/30/2021. This remained slightly above the agency mREIT average hedging coverage ratio of 70% as of 9/30/2021.
Once again using Table 1b above as a reference, as of 11/19/2021 NLY’s stock price traded at $8.39 per share. When calculated, NLY’s stock price was trading at a 1.08% premium to my estimated CURRENT BV (BV as of 11/19/2021). Simply put, NLY’s stock price traded at a minor (less than a 5%) premium to my estimated CURRENT BV and at a slightly-modestly higher valuation when compared to the average of other agency mREIT peers within Table 1b. When tracking historical trends, NLY typically trades at a higher valuation (less of a discount/more of a premium) to the company’s agency mREIT peers. I continue to believe NLY “deserves” to trade at a modestly higher valuation (which has been explained in various mREIT sector articles and through the REIT Forum discussions). I believe the 24-month total economic return (loss) metric is a great tool in spotting each mREIT’s historical performance. A great tool when also considering future expectations versus peers. As such, as stated later in the article, I currently believe NLY is appropriately valued from a stock price perspective.
Conclusions Drawn (PART 1):
PART 1 of this article has analyzed NLY and 19 mREIT peers in regards to the following metrics: 1) trailing 24-month economic return (loss); 2) leverage as of 9/30/2021; 3) hedging coverage ratio as of 9/30/2021; and 4) premium (discount) to my estimated CURRENT BV.
First, NLY’s trailing 24-month economic return was more attractive vs. the agency and broader mREIT sector average. NLY outperformed most of the company’s agency mREIT peers regarding this metric but modestly underperformed when compared to one of its closest sector peers, AGNC. This was mainly due to the recent composition of NLY’s MBS/investment and derivatives portfolio and the net movement of mortgage interest rates/U.S. Treasury yields during this timeframe. Due to NLY’s overall size and agency MBS liquidity, this company fared much better versus most mREIT sector peers during the COVID-19 pandemic. I believe this specific metric clearly shows this notion.
Second, NLY’s at-risk (total) leverage as of 9/30/2021 was modestly above the mREIT sector average. However, when compared to the company’s fixed-rate agency mREIT peers within this analysis, NLY’s at-risk leverage ratio was slightly below average. Over the prior several years, NLY typically ran below average leverage versus the company’s fixed-rate agency mREIT peers.
Third, NLY’s hedging coverage ratio remained slightly above the agency mREIT average as of 9/30/2021. As a whole, most mREIT peers notably decreased their hedging coverage ratios during the first half of 2020. While this is would certainly “ring the alarm bells” if markets experienced a rapid rise in mortgage interest rates/U.S. Treasury yields, this scenario basically did not play out during 2020. As such, most mREITs “got away” with utilizing a lower number of derivative instruments when compared to 2018-2019. That said, mortgage interest rates/medium- to long-term U.S. Treasury yields modestly-notably increased during the first quarter of 2021. However, especially for agency mREITs, these ratios increased during the remainder of 2020-early 2021 as the yield curve, during that timeframe, gradually steepened which was generally a correct strategy (to mitigate MBS valuation losses). However, these higher hedging coverage ratios came back to “bite” most agency mREIT peers during the second quarter of 2021 as the yield curve flattened and spread/basis risk increased. This directly resulted in the varying severities of BV decreases reported by all peers within the agency mREIT sub-sector. This trend generally reversed course during the third quarter of 2021 as mREIT peers utilizing higher hedging coverage ratios were able to record to attractive derivative net valuation gains to help offset MBS price decreases.
Finally, NLY’s current valuation, when compared to my estimate of each mREIT’s CURRENT BV (BV as of 11/19/2021), remained at a slightly-modestly higher valuation versus the mREIT peer average within this analysis. Still, through the metrics provided within this two-part sector comparison article (including factors/metrics not discussed), I believe NLY “deserves” to trade at a modest premium valuation to most mREIT peers (and in some cases a notable premium valuation). As such, this is one of the reasons why I continue to believe NLY is appropriately valued. I would strongly suggest readers consider CURRENT BVs (as opposed to prior period BVs) when assessing whether a stock is attractively valued or not. The REIT Forum subscribers have access to weekly BV projection updates.
When taking a look at the events/trends that have occurred during the first half of the fourth quarter of 2021, most agency MBS pricing has experienced modest-notable price decreases while there have been modest-notable valuation increases within most derivative instruments. A neutral-slightly negative relationship between agency MBS pricing and derivative instrument valuations has recently occurred. Generally speaking, option adjusted spreads (“OAS”) remained relatively unchanged-slightly widened during the first half of the fourth quarter of 2021. Dependent upon the metrics laid out in the tables above, results across the broader mREIT sector will slightly-modestly vary from peer-to-peer; dependent upon specific asset classifications and risk management strategies.
The relationship between MBS/investment pricing and derivative instrument valuations needs to be constantly monitored (which I continually perform throughout the quarter). If I start to see a more notable positive/negative relationship unfold, I will inform readers through several avenues within Seeking Alpha (through articles, the live chat feature of The REIT Forum, and/or comments).
My BUY, SELL, or HOLD Recommendation:
From the analysis provided above (using Table 1b as a reference), including additional catalysts/factors not discussed within this article, I currently rate NLY as a SELL when I believe the company’s stock price is trading at or greater than a 5% premium to my projected CURRENT BV (BV as of 11/19/2021; $8.30 per share), a HOLD when trading at less than a 5% premium through less than a (5%) discount to my projected CURRENT BV, and a BUY when trading at or greater than a (5%) discount to my projected CURRENT BV. These percentage ranges are unchanged when compared to my last public NLY article (approximately 1.5 months ago).
Therefore, I currently rate NLY as a HOLD.
As such, I currently believe NLY is appropriately valued from a stock price perspective. My current price target for NLY is approximately $8.70 per common share. This is currently the price where my recommendation would change to a SELL. The current price where my recommendation would change to a BUY is approximately $7.90 per common share.
Along with the data presented within this article, this recommendation considers the following mREIT catalysts/factors: 1) projected future MBS/investment price movements; 2) projected future derivative valuations; and 3) projected near-term dividend per share rates. These recommendations also consider the eight Fed Funds Rate increases by the FOMC during December 2016-2018 (a more hawkish tone/rhetoric when compared to 2014-2016), the three Fed Funds Rate decreases during 2019 due to the more dovish tone/rhetoric regarding overall monetary policy as a result of recent macroeconomic trends/events, and the very quick “plunge” in the Fed Funds Rate to near 0% in March 2020. This also considers the previous wind-down/decrease of the Fed Reserve’s balance sheet through gradual runoff/partial non-reinvestment (which began in October 2017 which increased spread/basis risk) and the prior “easing” of this wind-down that started in May 2019 regarding U.S. Treasuries and August 2019 regarding agency MBS (which partially reduced spread/basis risk when volatility remained subdued). This also considers the early Spring 2020 announcement of the start of another round of QE that includes the Fed specifically purchasing agency MBS (and “rolling over” all principal and interest payments into new agency MBS) which should bolster prices while keeping long-term/mortgage interest rates near historical lows (which lowered spread/basis risk for quite some time when volatility remained subdued). This also includes the recent “taper” of the Fed’s most recent QE program regarding its monthly purchases of $80 billion of U.S. Treasury securities and $40 billion of agency MBS. This taper began in November 2021 and market speculation around this future event has already caused a rise in spread/basis risk this past summer and this past week. This risk will very likely continue to persist through year-end.
mREIT Sector Recommendations as of 2/21/2020, 4/3/2020, and 11/19/2021:
Once again using Table 1b above as a reference, I want to highlight to readers what I/we conveyed to readers when it came to sector recommendations as of 2/21/2020 (pre COVID-19 sell-off), 4/3/2020 (post COVID-19 sell-off), and 11/19/2021 (currently).
As of 2/21/2020, I/we had a BUY recommendation on the following mREIT stocks analyzed above (in no particular order): 1) ANH.
As of 2/21/2020, I/we had a HOLD recommendation on the following mREIT stocks analyzed above (in no particular order): 1) AI; 2) ARR; 3) CHMI; 4) MITT; 5) GPMT; 6) NRZ; 7) NYMT; and 8) PMT.
As of 2/21/2020, I/we had a SELL recommendation on the following mREIT stocks analyzed above (in no particular order): 1) AGNC; 2) CMO; 3) NLY; 4) ORC; 5) DX; 6) EFC; 7) MFA; 8) IVR; 9) TWO; and 10) WMC.
As of 2/21/2020, I/we had a STRONG SELL recommendation on the following mREIT stocks analyzed above (in no particular order): 1) CIM; and 2) BXMT.
So, prior to the COVID-19 sell-off, as of 2/21/2020 I/we had 0 mREITs rated as a STRONG BUY, only 1 rated as a BUY, 8 rated as a HOLD, 10 rated as a SELL (including NLY), and 2 rated as a STRONG SELL. Simply put, at the time, out of my seven years of covering this particular sector on Seeking Alpha (2013-2020), this was one of the most “bearish” overall weekly recommendation range classifications I have provided. Investors who “heeded” this advice were, at least, able to “lock-in” some notable gains (as sector valuations “ran up” after positive Q4 2019 earnings) which helped offset subsequent sector/market losses. At this general point in time, this was in direct contradiction to most contributors that continually cover the mREIT sector. During February 2020, I sold medium-large sector positions in ARR, IVR, NRZ, and TWO (and disclosed such trades in “real-time”; same day they occurred).
As of 4/3/2020, I/we had a STRONG BUY recommendation on the following mREIT stocks analyzed above (in no particular order): 1) AGNC; 2) AAIC; 3) ARR; 4) CHMI; 5) CMO; 6) DX; 7) IVR; 8) NLY; 9) ORC; 10) TWO; 11) ANH; 12) CIM; 13) WMC; 14) NRZ; 15) PMT; 16) BXMT; and 17) GPMT.
As of 4/3/2020, I/we had a BUY recommendation on the following mREIT stocks analyzed above (in no particular order): 1) EFC; and 2) NYMT.
As of 4/3/2020, I/we had a HOLD recommendation on the following mREIT stocks analyzed above (in no particular order): 1) MFA; and 2) MITT.
So, my/our outlook notably reversed course during late March-April 2020 as the market “pummeled” both strong and weak mREIT peers (notable price dislocations; in particular most agency mREIT peers). Our service quickly moved most recommendations to BUYS or STRONG BUYS immediately when this notable price dislocation was occurring. In addition, we quickly added proportionately large positions across several sector peers and “never looked backed” (subscribers to our service can attest to these positions as we disclose our trades in “real time” (the same day we place a place). As disclosed at the end of this article, in late March 2020 I purchased very large positions in AGNC and NLY. I subsequently purchased add-on positions in AAIC, CHMI, and GPMT in March-May 2020, along with several mREIT preferred stock and debt positions. Regarding my personal investing strategy, this was my most “aggressive” purchasing blocks of a particular sector since I began writing on Seeking Alpha in 2013 (where I disclosed my trades as factual support/proof).
Still using Table 1b above as a reference, I want to highlight to readers what I/we are conveying to subscribers when it comes to sector recommendations as of 11/19/2021 (last week’s close).
As of 11/19/2021, I/we have a BUY recommendation (undervalued) on the following mREIT stocks analyzed above (in no particular order): 1) AAIC; 2) DX; 3) MITT; 4) NRZ; 5) PMT; and 6) GPMT.
As of 11/19/2021, I/we currently have a HOLD recommendation (appropriately valued) on the following mREIT stocks analyzed above (in no particular order): 1) AGNC; 2) ARR; 3) NLY; 4) TWO; 5) EFC; 6) MFA; 7) NYMT; 8) WMC; and 9) RC.
As of 11/19/2021, I/we currently have a SELL recommendation (overvalued) on the following mREIT stock analyzed above (in no particular order): 1) CHMI; 2) IVR; 3) ORC; and 4) BXMT.
As of 11/19/2021, I/we currently have a STRONG SELL recommendation (notably overvalued) on the following mREIT stocks analyzed above: 1) CIM.
So, as of 11/19/2021 I/we now have 0 mREITs rated as a STRONG BUY, 6 rated as a BUY, 9 rated as a HOLD, 4 rated as a SELL, and 1 rated as a STRONG SELL. Simply put, a notable difference in value/outlook when compared to late March-April 2020. Still, there are currently a handful of attractively-valued stocks in the mREIT sector (just not nearly as attractive as last year). As such, generally speaking, a bit of caution should be the main takeaway when it comes to this sector regarding current valuations. Still, over the past two weeks, valuations have become a bit more attractive as a whole.
PART 2 of this article will cover dividend metrics and projections for the first quarter of 2022. Readers looking for my/our dividend projections for the fourth quarter of 2021 can look in the following article:
REIT Forum Version:
Public Version:
Current Sector/Recent NLY/AGNC Stock Disclosures:
On 3/18/2020, I initiated a position in NLY at a weighted average purchase price of $5.05 per share (large purchase). This weighted average per share price excluded all dividends received/reinvested. On 6/9/2021, I sold my entire NLY position at a weighted average sales price of $9.574 per share as my price target, at the time, of $9.55 per share was surpassed. This calculates to a weighted average realized gain and total return of 89.6% and 112.0%, respectively. I held this position for approximately 15 months.
On 3/18/2020, I once again initiated a position in AGNC at a weighted average purchase price of $7.115 per share (large purchase). This weighted average per share price excludes all dividends received/reinvested. On 6/2/2021, I sold my entire AGNC position at a weighted average sales price of $18.692 per share as my price target, at the time, of $18.65 per share was surpassed. This calculates to a weighted average realized gain and total return of 162.7% and 188.6%, respectively. I held this position for approximately 14.5 months.
On 1/31/2017, I initiated a position in NRZ at a weighted average purchase price of $15.10 per share. On 6/29/2017, 7/7/2017, and 12/21/2018, I increased my position in NRZ at a weighted average purchase price of $15.775, $15.18, and $14.475 per share, respectively. When combined, my NRZ position had a weighted average purchase price of $14.912 per share. This weighted average per share price excluded all dividends received/reinvested. On 2/6/2020, I sold my entire NRZ position at a weighted average sales price of $17.555 per share as my price target, at the time, of $17.50 per share was surpassed. This calculates to a weighted average realized gain and total return of 17.7% and 41.2%, respectively. I held this position, on a weighted average basis, for approximately 20 months.
On 9/22/2020, I once again initiated a position in NRZ at a weighted average purchase price of $7.645 per share. On 1/28/2021, 7/16/2021, and 8/20/2021, I increased my position in NRZ at a weighted average purchase price of $9.415, $9.525, and $9.485 per share, respectively. When combined, my NRZ position has a weighted average purchase price of $8.918 per share. This weighted average per share price excludes all dividends received/reinvested.
On 1/2/2020, I initiated a position in AAIC at a weighted average purchase price of $5.57 per share. On 1/9/2020, 3/16/2020, 9/24/2020, 5/6/2021, 9/2/2021, 9/10/2021, and 11/10/2021, I increased my position in AI at a weighted average purchase price of $5.59, $3.25, $2.53, $3.875, $3.748, $3.75, and $3.752 per share, respectively. When combined, my AAIC position has a weighted average purchase price of $3.448 per share. This weighted average per share price excludes all dividends received/reinvested.
On 10/19/2020, I initiated a position in PennyMac Mortgage Investment Trust (PMT) at a weighted average purchase price of $16.275 per share. On 10/29/2020, 8/12/2021, 8/20/2021, and 11/18/2021, I increased my position in PMT at a weighted average purchase price of $14.90, $18.693, $18.407, and $18.180 per common share, respectively. When combined, my PMT position has a weighted average purchase price of $16.417 per share. This weighted average per share price excludes all dividends received/reinvested.
On 8/24/2021-8/25/2021, I initiated a position in AG Mortgage Investment Trust Inc.’s (MITT) Series B (MITT-B) preferred stock at a weighted average purchase price of $25.245 per share. On 11/19/2021, I increased my position in MITT-B at a weighted average purchase price of $25.100 per preferred share. When combined, my MITT-B position has a weighted average purchase price of $25.145 per share. This weighted average per share price excludes all dividends received/reinvested.
On 9/17/2021, I initiated a position in NRZ’s Series D preferred stock (NRZ-D) at a weighted average purchase price of $24.860 per share. This weighted average per share price excludes all dividends received/reinvested.
Final Note: All trades/investments I have performed over the past several years have been disclosed to readers in “real time” (that day at the latest) via either the StockTalks feature of Seeking Alpha or, more recently, the “live chat” feature of the Marketplace Service the REIT Forum (which cannot be changed/altered). Through these resources, readers can look up all my prior disclosures (buys/sells) regarding all companies I cover here at Seeking Alpha (see my profile page for a list of all stocks covered). Through StockTalk disclosures and/or the live chat feature of the REIT Forum, at the end of October 2021 I had an unrealized/realized gain “success rate” of 96.4% and a total return (includes dividends received) success rate of 96.4% out of 55 total past and present mREIT and business development company (“BDC”) positions (updated monthly; multiple purchases/sales in one stock count as one overall position until fully closed out). Both percentages experienced a modest increase, when compared to April-May 2020, as a direct result of the recent market rally countering previous fears/panic surrounding the COVID-19 pandemic. In addition, in early April 2020, I initiated several new positions and increased several existing positions (utilizing a large amount of capital) at attractive-very attractive prices. I encourage other Seeking Alpha contributors to provide real time buy and sell updates for their readers which would ultimately lead to greater transparency/credibility. Starting in January 2020, I have transitioned all my real-time purchase and sale disclosures solely to members of the REIT Forum. All applicable public articles will still have my prior “main ticker” and current sector purchase and sale disclosures (just not in real time).
Table 4 – AGNC + NLY Seeking Alpha Recommendations (July 2020 – November 2021 Timeframe)
(Source: Table sourced from Seeking Alpha; “Bearish” indicator included by me directly from the REIT Forum’s weekly subscriber recommendation article series; week of 6/4/2021 for AGNC and week of 6/11/2021 for NLY)
Lastly, I just want to quickly highlight my/our AGNC and NLY Seeking Alpha recommendation ranges over the past year or so. Simply put, my/our “valuation methodology” has correctly timed when both AGNC and NLY have been undervalued (a BUY recommendation; bullish), appropriately valued (a HOLD recommendation; neutral), and overvalued (a SELL recommendation; bearish). The same holds true when going back to 2019 and 2020 (both pre-COVID-19 where I/we had a SELL recommendation on both AGNC and NLY and post the initial onset of COVID-19 where I/we had a STRONG BUY recommendation on both AGNC and NLY). A contributor’s/team’s recommendation track record should “count for something” and should always be considered when it comes to credibility/successful investing.
Each investor's BUY, SELL, or HOLD decision is based on one's risk tolerance, time horizon, and dividend income goals. My personal recommendation will not fit each reader’s current investing strategy. The factual information provided within this article is intended to help assist readers when it comes to investing strategies/decisions. Please disregard any minor “cosmetic” typos if/when applicable.
I am currently "teaming up" with Colorado Wealth Management to provide intra-quarter CURRENT BV and NAV per share projections on all 20 mREIT and 15 BDC stocks I currently cover. These very informative (and “premium”) projections are provided through Colorado's S.A. Marketplace service. In addition, this includes additional data/analytics, weekly sector recommendations (including ranges), and exclusive "rapid fire" mREIT and BDC chat notes/articles after earnings. For a full list of benefits I provide to the REIT Forum subscribers, please see my profile page.
