Of course, other observers argue that these instruments are inherently unstable and subject to wild fluctuations in market value and distribution ratios. The still-recent memory of the housing collapse and subsequent financial crisis underscores these concerns. Like most derivatives, mortgage-backed securities carry more risk than run-of-the-mill financial instruments like Treasury bonds and certificates of deposit. High yields compensate for some of this risk.
In this regard, these three specific REITs are quite interesting. American Capital Agency Corp. (NASDAQ:AGNC) and New York Mortgage Trust, Inc. (NASDAQ:NYMT) are essentially pure plays on the mortgage-backed security market, and Invesco Mortgage Capital Inc (NYSE:IVR) is heavily invested in the MBS space as well. Accordingly, these REITs’ fortunes are inextricably tied up with the performance of the overall MBS market.
Recently, REITs have seen uneven performance thanks to persistent uncertainty about the state of the Federal Reserve’s quantitative easing program. Experienced market-watchers and amateur bloggers alike have astutely noted that QE has been quite beneficial for the MBS space and other semi-liquid or non-liquid asset classes. Many of these observers fear that the Fed’s long-awaited “tapering” will dry up the supply of money that has flowed into these vehicles. However, it seems unlikely that the Fed will shut off the tap all at once. Moreover, months of steadily improving data now point to a rapidly recovering housing market. Even if the Fed shuts off the spigot towards the end of 2013 or during the early part of 2014, the move might not have the impact that naysayers fear. At the same time, these names are unlikely to appreciate in value at a rapid clip. Investors who seek capital gains rather than steady dividend yields should look elsewhere.
In sum, these three REITs offer some clear advantages. These include high dividend yields, predictable returns and stable business models. However, they also face downside risks in the event of a sudden halt to the Fed’s quantitative easing program or an unexpected pullback in the housing market. Although these names are not suitable for investors who seek organic growth and eschew dividends, they may represent solid opportunities for long-term investors and advanced traders who seek the inherent hedging power of a double-digit yield.
The article MBS REITs Look Good Now, But Can Their Performance Hold Up? originally appeared on Fool.com and is written by Mike Thiessen.
Mike Thiessen has no position in any stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. Mike is a member of The Motley Fool Blog Network — entries represent the personal opinion of the blogger and are not formally edited.
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