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Bing Guan / Bloomberg
It was another challenging period for income investors in a challenging income hunt. But even in difficult times, there are areas in the market where investors can receive a steady income.
Mortgage-backed real estate funds are one such area, as the sector offers near double-digit returns and, in some cases, the potential for significant price increases. This came after the sector got scared at the start of the pandemic due to a series of margin calls from mostly short-term funding that was targeted at the underpriced market during the initial debacle. Since then, many have abandoned market funding.
“They’ve taken a more prudent approach to financing, and with low rates, they can finance their balance sheets really well,” said David Shavel, chief investment officer of Family Management Corp. Barron’s…
Opportunities for mortgage REITs open up as the yield on 10-year Treasuries hovered around 1.25% last week, despite evidence that the Federal Reserve may start slowing bond purchases this year. Rather than focusing on signs that the Fed will abandon its easy money policy, investors have begun to focus more on recent economic data, which showed worsening consumer sentiment and weaker-than-expected retail sales for July.
But despite the disruption last year, REITs holding mortgage debt have proven to be a reliable source of income for investors in the later stages of the pandemic. Many offer a yield of around 10%.
(ticker: MFA) is the one that was recently approved by Wall Street. The New York-based REIT cut its funding cost through securitization, recognizing a 15% decrease in interest costs from the prior quarter. About two-thirds of its asset-based funding is non-market-based, with most of this coming from securitization. The Foreign Ministry plans to complete two additional securitizations in the third quarter.
According to FactSet, the REIT currently yields 8.8% and is worth roughly 0.8 of its book value, just 0.9x below its five-year average and lagging behind the competition. The high yield, coupled with what analysts say is higher than the discount it deserves, creates a great return opportunity.
“With MFA, you get [nearly] 9%, which is low for a REIT, but you buy below book value when MFA has the opportunity to raise its dividend, ”says Eric Hagen, director of research at BTIG. Barron’s… The stock recently traded at $ 4.45 a share, but analysts expect the stock to rally to $ 4.80, suggesting nearly 8% upside potential.
(RWT) is another mortgage REIT of choice for analysts and is the “main idea” of Keefe, Bruyette & Woods. At first glance, this might not be as attractive as MFA given that Redwood brings in 5.9% and is already trading at book value. But KBW was interested in developing Redwood’s business, primarily in the acquisition of CoreVest. The acquisition gave Redwood a stronger foothold in the business lending market, which offers bridging loans for regular investors and single-family rental loans – areas that could help Redwood earn 10% to 12% of its investment portfolio.
“We expect that active mortgage banking, recovery in asset prices and an increase in the number of applications will allow [Redwood Trust] for a solid return on equity and an increase in book value (and possibly dividends), “KBW analyst Bose George wrote last month. Analysts polled by FactSet expect the stock to rise to $ 14 apiece, up 17% from recent trading.
While it can naturally be difficult to find profitability in today’s markets, income-hungry investors may not need to look more than at home.
Write to Carlton English in carleton.english@dowjones.com
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