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Bond Yields Fall Due to Overseas and Commodity Weakness

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Basis for long-term interest rates

Ten-year bond yields influence everything from mortgage rates to corporate debt. Now, they’re the benchmark for long-term US interest rates. Some investors might remember when the 30-year bond was the benchmark, but that changed in the 1990s. When investors want to know what’s going on in the bond market, they want to know where the ten-year bond is trading.

It’s important to note that short-term rates are still important, particularly LIBOR. It’s the base rate for most short-term rates. Rate information is relevant to REITs like American Capital Agency (AGNC), Annaly Capital Management (NLY), Redwood Trust (RWT), and MFA Financial (MFA).

Investors can trade the REIT sector through the iShares Mortgage Real Estate Capped ETF (REM) or the whole financial sector through the S&P SPDR Financial ETF (XLF).

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Bond yields fall as economic weakness continues

After closing out the prior week at 1.92%, bond yields, as tracked by the iShares 20+ Year Treasury Bond ETF (TLT), fell by 8 basis points last week to close at 1.84%. The jobs report showed wage inflation. This should prompt the Fed to hike rates in March. Stocks fell and the flight to quality trade pushed yields lower.

Problems in the high-yield market can spill over into the Treasury market as investors move their assets to safe havens like Treasury bonds. High-yield funds are facing outflows. Leveraged buyouts are getting put on hold or scrapped. The Dodd-Frank Act decimated trading desks and market-making activity. This left the market crowded with sellers and very few buyers. While this could impact the value of some structured products, it shouldn’t impact most REITs in vanilla mortgage-backed securities.

The mortgage REIT sector has been relatively underleveraged since the “taper tantrum” of 2013. The biggest change in the sector has been the move to swap interest rate risk for credit risk. Mortgage REITs have dry powder—undrawn capital—if they want to build up their balance sheets again.

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