MREIT Stocking Stuffers

A Handful of Mortgage REIT Fixed-to-Float Preferreds Offer Attractive Short-term Yields

Among the (very) few advantages the individual investor has is the ability to take on positions that would be "sub-scale" for institutional investors. Such is the case with this small-handful of Mortgage REIT Fixed-to-Float preferreds that begin floating in the first half of next year.

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A little like the scratchers you might find in your stocking, these are not the most exciting opportunities in the market, but they are unique securities that I believe offer a little juice for those looking for yield.

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This post is inspired by Convexity Maven (Harley Bassman) who annually releases his own "Stocking Stuffer" post full of mind-bending rate related trade ideas. I will lean heavily on Harley's "REIT Money Machine" as well as the explanation of his "A New Issue MBS Strategy" in this post. I highly recommend reading both!

I will also share Harley's mantra which absolutely applies to the securities below:

Position sizing is more important than entry level.

I'm going to focus on three residential mortgage REITs: Annaly Capital Management ( NLY 0.00%↑ ) , Cherry Hill Mortgage Investment Corporation ( CHMI 0.00%↑ ) & AGNC Investment Corporation ( AGNC 0.00%↑ ) . All three of these REITs deal primarily in Agency MBS. This is important as these loan pools are backed by the full-faith and credit of the US Government. For a more thorough exploration of the MBS market, go back and read "The Invention" 👇

Mortgage REITs make money by leveraging and subsequently hedging a portfolio of MBS. As such, they face no credit risk within their Agency MBS loan pool portfolio. MREITs do face the risks of their funding costs changing, equity market volatility and the marked-to-market risks of their hedging programs. Their high leverage combined with execution risks around hedging turn the risk-free agency holdings into a proper equities in the MREIT wrapper with the accompanying volatility and high-yields.

In periods of low rates, low volatility or tight spreads, Mortgage REITs will issue Preferred Equity as a way of "locking in" a portion of their capital costs. As businesses that make most of their money explicitly from net interest margin, investors are not willing to take on this interest rate risk in perpetuity.

Often a feature of these preferreds is a period of fixed dividend yield after which the dividend begins to float in reference to a benchmark rate, formally LIBOR now SOFR.

These three mortgage REITs all have preferred series that are going to begin floating in the first half of 2024 and are eligible for redemption on the float date.