The Zacks REIT and Equity Trust industry's speedy recovery has been halted of late because of mortgage rates’ volatile trends. Given the clarity on the Federal Reserve’s rate cut trajectory, mortgage rates are likely to decrease gradually. This is expected to lead to a decent increase in loan demand. 

However, the volatile scenario in the fixed-income markets might affect industry players. Companies like Annaly Capital Management, Inc. NLY, AG Mortgage Investment Trust, Inc. MITT and Dynex Capital, Inc. DX are well-poised to navigate industry chaos.

About the Industry

The Zacks REIT and Equity Trust industry comprises mortgage REITs, also known as mREITs. Industry participants invest in and originate mortgages and mortgage-backed securities (MBS), and provide mortgage credit for homeowners and businesses. Typically, these companies focus on either residential or commercial mortgage markets. Some invest in both markets through asset-backed securities. Agency securities are backed by the federal government, making it a safer bet and limiting credit risks. Such REITs raise funds in the debt and equity markets through common and preferred equity, repurchase agreements, structured financing, convertible and long-term debt, and other credit facilities. The net interest margin (NIM), the spread between interest income on mortgage assets and securities held, as well as funding costs, is a key revenue metric for mREITs.

What's Shaping the Future of the mREIT Industry?

Volatile Mortgage Rate to Result in Decent Loan Demand: Mortgage rates have been volatile over the past couple of months. This can be attributed to several macroeconomic factors. Though mortgage rates are declining, they are still higher than last year’s level. However, purchase applications are showing signs of improvement, indicating some latent demand in the market.

With data suggesting that the economy remains on a solid footing, mortgage rates are less likely to decline at a faster pace. The gradual dip is expected to drive mortgage originations at a slower pace than previously expected. 

Nonetheless, as the demand for originations and refinancing improves, this will reduce operational and financial challenges for mREIT industry players, and increase the gain on sale margin and new investment activity.

Industry Resorts to Dividend Cuts as Book Values Erode: Volatility in the fixed-income markets, relatively high interest rates, and the widening of the spread between the 30-year Agency MBS and 10-year treasury rate are affecting valuations of Agency mortgage-backed securities. Agency mortgage REITs are witnessing slight Tangible book value decreases as spreads on benchmark indices have widened but have been more stable than the volatility in 2023. 

Though the central bank lowered interest rates by 100 basis points in 2024, it has indicated fewer interest rate cuts this year, given sticky inflation. This will increase earnings pressure for highly leveraged mREITs. This scenario compels companies to reduce the dividend to a level wherein it can be covered by earnings. This may result in capital outflows from the industry, resulting in greater book value declines for companies in the upcoming period.

Conservative Approach to Impede Returns: The scenario in mortgage markets, restricted financial conditions and resultant lower fixed-income fund flows have strained credit-risky assets. Given this, mREITs are likely to be selective in their investments, resulting in lower portfolio growth. Also, numerous companies have resorted to a higher hedge ratio to reduce interest rate risks. While such moves may seem prudent in the ongoing uncertain times, those will impede industry players’ growth expectations. As companies prioritize risk and liquidity management over incremental returns, at least in the short term, robust returns are expected to remain elusive.

Zacks Industry Rank Indicates Bleak Prospects

The Zacks REIT and Equity Trust industry is housed within the broader Zacks Finance sector. It carries a Zacks Industry Rank #137, which places it in the bottom 45% of 248 Zacks industries.

The group’s Zacks Industry Rank, which is the average of the Zacks Rank of all the member stocks, indicates underperformance in the near term. Our research shows that the top 50% of the Zacks-ranked industries outperform the bottom 50% by a factor of more than 2 to 1.

The industry’s positioning in the bottom 50% of the Zacks-ranked industries is an outcome of the negative earnings outlook for the constituent companies. Looking at the aggregate earnings estimate revisions, it appears that analysts are gradually losing confidence in this group's earnings growth potential. The industry’s current-year earnings estimate has moved 16% down over the last year.

Before we present a few stocks that you may want to consider for your portfolio, let us take a look at the industry’s recent stock-market performance and valuation picture.

Industry Lags Sector & S&P 500

The Zacks REIT and Equity Trust industry has underperformed the broader Zacks Finance sector and the S&P 500 composite in the past year.

The industry has gained 13.3% in the above-mentioned period compared with the broader sector’s rise of 29.6%. Notably, the S&P Index has grown 25.2% over the past year.

Price Performance

Industry's Current Valuation

Based on the trailing 12-month price-to-book (P/BV), which is a commonly used multiple for valuing mREITs, the industry is trading at 0.96X compared with the S&P 500’s 8.88X. In the past five years, the industry has traded as high as 1.15X, as low as 0.39X and at the median of 0.88X.

Price-to-Book TTM

As finance stocks typically have a low P/BV ratio, comparing REIT and Equity Trust with the S&P 500 might not make sense to many investors. A comparison of the group’s P/BV ratio with that of the broader sector ensures that the group is trading at a solid discount. The Zacks Finance sector’s trailing 12-month P/BV came in at 4.18X. This is above the Zacks REIT and Equity Trust industry’s ratio, as the chart below shows.

Price-to-Book TTM

3 mREIT Stocks Worth Watching

Annaly: The company's investment strategy is driven by the prudent selection of assets and effective capital allocation to achieve stable returns. Its investment strategy involves traditional Agency MBSs, which provide downside protection and investments in more non-agency and credit-focused asset classes that enhance returns. Also, a scaled MSR platform will continue to benefit from a low prepayment environment. The company is focusing on improving its capabilities by acquiring newly originated MSRs from its partner network, which will continue to provide a strong advantage in expanding its MSR business. As of Dec. 31, 2024, its investment portfolio aggregated $98.2 billion.

NLY is focusing on the diversification of its investment portfolio. In 2022, the company sold its Middle Market Lending portfolio and exited its commercial real estate business. Through these exits, Annaly was able to enhance capabilities across its core housing finance strategy. In line with this, it allocates capital to residential credit businesses, the MSR platform and Agency MBS. Focus on residential credit will enhance the stability of returns across various rate and macro scenarios.

The company’s 2025 earnings have been revised 9.2% upward to $2.81 per share over the past month. It indicates a year-over-year rise of 4.1%. NLY flaunts a Zacks Rank of #1 (Strong Buy) at present and has a market capitalization of $11.6 billion. You can see the complete list of today’s Zacks #1 Rank stocks here.

Price and Consensus: NLY

AG Mortgage: The real estate investment trust invests in, acquires and manages residential mortgage assets, other real estate-related securities, and financial assets. Its non-Agency RMBS investments include fixed and floating-rate securities, including investment grade and non-investment grade.

In the third quarter of 2024, MITT acquired approximately $150 million of home equity loans and has committed to purchase another $200 million. This segment provides loans to homeowners who have accumulated equity in their properties over the years, and the company is looking to borrow against it to fund home improvement and debt consolidation, among many other uses. AG Mortgage estimates the total addressable home equity lending market to be as much as $2 trillion, which it believes should result in annual loan originations of $200-$300 billion. This rapidly growing segment of the residential mortgage market has offered a significant opportunity for the company to grow.

The company’s 2025 earnings have been revised 3.2% downward to 89 cents per share over the past month. It indicates a year-over-year surge of 106.9%. MITT has a Zacks Rank of #3 (Hold) at present and a market capitalization of $1.26 billion. 

Price and Consensus: MITT

Dynex Capital: This is a mortgage and consumer finance company that uses its loan production operations to create investments for its portfolio. Currently, the company's primary production operations include the origination of mortgage loans secured by multi-family properties and the origination of loans secured by manufactured homes. The company has recently expanded its production activities to include commercial real estate loans and plans to expand into other financial products going forward. 

DX uses certain derivative instruments ("interest rate hedges") to hedge exposure to interest rate risk arising from its investment and financing portfolio.
The company's interest income continues to increase, driven by its purchases of higher coupon investments in the past year. In addition, the Fed’s recent interest rate cuts benefited Dynex Capital's comprehensive income to common shareholders in the fourth quarter of 2024 by lowering its interest expenses related to repurchase agreement borrowings. It reported a net interest income of $5.9 million in 2024 against net interest expenses of $7.9 million in 2023.

The company’s 2025 earnings outlook has been revised 3.7% upward to $1.87 per share over the past month. It indicates a year-over-year rise of 654.3%. DX has a Zacks Rank of #2 (Buy) at present and a market capitalization of $1.06 billion.

Price and Consensus: DX

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AG Mortgage Investment Trust, Inc. (MITT) : Free Stock Analysis Report

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