This research report was produced by The REIT Forum with assistance from Big Dog Investments.

The topics we discuss are going to be extremely relevant to the residential mortgage REITs. The table below uses BV as of Q2 2020 (if the company has reported earnings):

Ticker

Company Name

Focus

Price to Trailing BV

BV Q2 2020

Price

ORC

Orchid Island Capital

Agency

0.98

$5.22

$5.12

DX

Dynex Capital

Agency

0.96

$16.69

$15.97

AGNC

American Capital Agency Corp.

Agency

0.88

$15.86

$13.94

NLY

Annaly Capital Management

Agency

0.85

$8.39

$7.11

ARR

ARMOUR Residential REIT

Agency

0.85

$11.11

$9.39

CMO

Capstead Mortgage Corporation

Agency

0.81

$6.79

$5.51

TWO

Two Harbors Investment Corp.

Agency

0.71

$7.24

$5.17

CHMI

Cherry Hill Mortgage Investment

Agency

0.67

$13.41

$9.04

AI

Arlington Asset Investment Corporation

Agency

0.47

$5.63

$2.67

MITT

AG Mortgage Investment Trust, Inc.

Hybrid

0.99

$2.75

$2.71

IVR

Invesco Mortgage Capital

Hybrid

0.86

$3.17

$2.73

EFC

Ellington Financial

Hybrid

0.82

$15.68

$12.86

CIM

Chimera Investment Corporation

Hybrid

0.79

$10.63

$8.39

WMC

Western Asset Mortgage Capital Corp.

Hybrid

0.64

$3.17

$2.02

MFA

MFA Financial

Hybrid

0.63

$4.51

$2.82

ANH

Anworth Mortgage Asset Corporation

Hybrid

0.58

$2.85

$1.66

PMT

PennyMac Mortgage Investment Trust

Multipurpose

0.84

$19.39

$16.26

NRZ

New Residential Investment Corp.

Multipurpose

0.76

$10.77

$8.23

NYMT

New York Mortgage Trust

Multipurpose

0.60

$4.35

$2.60

REM

iShares Mortgage Real Estate Capped ETF

ETF

MORT

VanEck Vectors Mortgage REIT Income ETF

ETF

Note: There are three mortgage REITs we need to highlight here:

  • Two Harbors – We are using Q2 2020 book value adjusted to add back the $.54 per share as a result of terminating the management agreement for cause. If this decision was made prior to the end of Q2 2020, it would’ve raised BV accordingly. This is equivalent to GAAP book value excluding the $.54 charge recorded during Q2 2020.
  • AG Mortgage Investment Trust – We are using the Q2 2020 book value reported by management, which does not deduct the value of accrued dividends for preferred shares. If the preferred dividends were paid, it would reduce common book value under these calculations. This method is accepted under GAAP.
  • MFA Financial reports “GAAP book value” and “economic book value”. We’ve chosen to use the GAAP book value to remain consistent.
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Price-to-Book Value

The next image provides a graphical representation:

Price to book ratios for mortgage REITs

Source: The REIT Forum

Remember that these are price-to-trailing-book ratios. They are not using estimates of current book value. Book values have changed even during Q3 2020.

Dividend Yields

You absolutely should not value mortgage REITs based on dividend yield. Consider it as part of the process, but don’t ever try to simply “buy yield”. Dividend yields often come up in the comments, so I added a chart for dividend yields:

Chart

Source: The REIT Forum

This chart is still in the same order as the prior chart. Consequently, you know the highest price-to-book ratios (using trailing GAAP book value) for each segment will be at the left. If you see a mistake, please feel free to say something. Occasionally, the data for dividend rates requires a manual update.

Earnings Yields

One of the next things investors may ask about is the yield using core earnings. This chart puts together the core earnings based on the consensus analyst estimate. Beware that the consensus estimate may not always be the best estimate.

Chart

Source: The REIT Forum

Consensus estimates aren’t always the best and there are ways to increase “Core Earnings” through accounting decisions or modifying hedges. Consequently, investors should still take these values cautiously. We do not depend on the consensus estimate to make decisions.

PennyMac Mortgage Trust

We purchased 337 shares of PennyMac Mortgage Investment Trust (PMT) at $16.31. To be precise, $16.3066 per share.

Index Card

The index card is shown below:

Source: The REIT Forum

Execution

Our execution is shown below:

Source: Fidelity

Returns on Positions

Our open positions are shown below:

The green box highlights the newest position.

Now, when we provide our returns on open positions publicly, sometimes readers simply assume that we just close any position in a loss. That would be a terrible investing technique. So, in the interest of transparency, here are our closed trades in mortgage REITs:

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Source: The REIT Forum

That chart only goes up through the end of 2018. However, we have limited space in one image (some readers are on mobile or have smaller screens). We’ve traded mortgage REITs quite a bit. So, here is another image to demonstrate the rest of the trades:

Source: The REIT Forum

Since evaluating every single trade would take quite a bit of time, here are some quick figures. On the closed positions, our losses on trades had a total of $16,765 and our gains had a total of $74,994. That’s a pretty good record, especially given the mediocre performance of the sector over that time period.

PMT and Mortgage Servicing Rights

One of the unique aspects of PMT is its ability to create MSR investments:

Source: PMT

Since PMT involves MSRs, when I’m considering some peers, I often think of New Residential (NRZ), Cherry Hill Mortgage (CHMI), and Two Harbors (TWO). Each of those 3 mortgage REITs also owns MSRs (mortgage servicing rights), which I would expect to increase correlation with PMT.

Forbearance for Homeowners

One of the risks for investors buying a mortgage REIT which invests in MSRs is the possibility of more homeowners becoming delinquent. That doesn’t mean that the homeowner is necessarily in trouble, it simply means they haven’t been making payments. Remember that homeowners can enter forbearance under the current rules. Investors in MSRs still want a way to evaluate the percentage of loans that are behind on payments. The percentage delinquent for PMT declined from 6/30/2020 to 7/31/2020, which is pretty nice:

Source: PMT

$100k Chart

The $100k chart demonstrates how much needed to be invested on any prior day (at the closing price) to reach $100k as of today (10/19/2020 during market hours):

Source: The REIT Forum

PMT is the black line with some circles added for emphasis. We’ve included the other 3 mortgage REITs that we think of when we talk about MSRs tossed AGNC (AGNC) into the chart simply because it is one of the largest mortgage REITs.

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The Plunge and Q3

While PMT was punished harshly during the plunge, it also had a nice recovery. Going into the Q2 2020 earnings release, the market’s expectations were through the roof. When PMT delivered an outstanding quarter, it still wasn’t good enough to satisfy investors and PMT began to decline. That matched our expectations, as we called PMT out for being too expensive going into the earnings release.

Today, with a much lower price, there is more reason for optimism. Scott was quite positive in his comment to subscribers:

Source: The REIT Forum

Conclusion

We’re treating this as a trading position. PMT offers investors a significant upside thanks to trading at a price-to-book ratio of only .78 (using Scott’s recent BV estimates). That puts shares deep into our bullish range and gives them a very reasonable risk/reward profile.

Ratings:

Our method works. We know because we buy the same shares we recommend. We track our results on a real portfolio and we compare our returns with the major ETFs for our sector:

Those four ETFs are:

  • MORT – Major mortgage REIT ETF
  • PFF – The largest preferred share ETF
  • VNQ – The largest equity REIT ETF
  • KBWY – The high-yield equity REIT ETF

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Disclosure: I am/we are long NLY-F,NLY-I,AGNCO,ARR-C,TWO-E,TWO-A,NYMTP,NRZ-C,TWO-B,NRZ-B,TWO-C,NYMTM,NRZ,AGNC,NLY,NYMT,GPMT,SLRC,PMT. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Additional disclosure: As a reminder, Scott Kennedy also is an author for the REIT Forum. You may see his commentary featured in our articles and may notice an extremely high amount of overlap in our ratings, so subscribers reading this article should see Scott’s latest REIT Forum sector update for more detail.



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