uploads///MFA Credit exposure

MFA Financial Keeps Swapping Interest Rate Risk for Credit Risk



MFA Financial’s credit and interest rate risk

When people typically think of mortgage REITs, they inevitably think of the giant agency REITs such as Annaly Capital Management (NLY) and American Capital Agency (AGNC). These REITs are heavily exposed to agency MBS (mortgage-backed securities), which means the US government guarantees the principal and interest. This guarantee means these REITs bear no credit risk. In essence, they’ve swapped credit risk for interest rate risk.

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Note that some mortgage REITs, such as Capstead Mortgage Corporation (CMO) and Hatteras Financial Corp. (HTS), invest in agency adjustable-rate securities. They have less interest rate risk and bear no credit risk. Investors interested in trading the REIT sector as a whole can look at the iShares Mortgage Real Estate Capped ETF (REM).

MFA Financial (MFA) invests heavily in nonperforming and re-performing MBS. Nonperforming mortgage-backed securities contain mortgages that are currently not paying interest and are being worked out with the servicer. They make their returns as the mortgages underlying the loan are modified or the home is foreclosed upon.

To understand the difference between the two types of MBS, consider that Annaly Capital Management might be buying a Fannie Mae 30-year MBS for 104, knowing that eventually it will receive 100 for it. However, it will get interest in the meantime. These bonds are highly sensitive to interest rates because of varying prepayment speeds. On the other end of the spectrum, MFA Financial might buy a nonperforming MBS pool for 77 cents on the dollar and hope to get 100 for it as the underlying mortgages are modified or foreclosed. The interest rate risk for these sorts of MBS tends to be low or at least much lower than the risk for 30-year fixed-rate MBS.

MFA Financial prepares for rate liftoff

MFA Financial has been increasing its book of nonperforming and re-performing MBS, and as a result, it’s much better positioned for a rising interest rate environment. Investors interested in making directional bets on interest rates can look at the iShares 20+ Year Treasury Bond ETF (TLT).


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