Mortgage Bonds Are Finding Ready Buyers in REITs Flush With Cash

Mortgage REITs are significantly increasing their acquisition of US home loan-backed bonds, with net purchases projected to reach $30 billion (Barclays) to $50 billion (Goldman Sachs) this year, marking the highest pace in at least six years. This surge is driven by attractive valuations in mortgage debt securities and enhanced cash positions from rallies in the REITs' own shares, indicating robust institutional demand for these assets.

Analysis

Mortgage REITs (mREITs) are re-emerging as a dominant buyer of mortgage-backed securities (MBS), with projected net purchases for the current year estimated between $30 billion (Barclays) and $50 billion (Goldman Sachs). This purchasing volume represents the highest level in at least six years, indicating a significant shift in market dynamics and a strong source of institutional demand for agency mortgage debt. The primary drivers for this accelerated acquisition pace are twofold: the relatively inexpensive valuation of these securities and the mREITs' enhanced capital-raising ability, fueled by recent rallies in their own equity prices. This dynamic suggests that mREITs are effectively capitalizing on favorable market conditions, leveraging their improved balance sheets to acquire assets they perceive as undervalued, a trend last seen with such intensity before the pandemic.

Key Decisions for Investors

• The strong purchasing activity and improved capital positions of mortgage REITs suggest a constructive outlook for the sector, warranting consideration for increased exposure to well-capitalized mREITs.
• Investors should recognize the significant technical support for the mortgage-backed securities market, as the $30-$50 billion in projected net buying from REITs could provide a floor for prices and potentially drive appreciation.
• Monitor the equity performance of the mREIT sector and spreads on MBS, as the thesis relies on their continued ability to raise capital and the persistence of attractive asset valuations.