With sturdy July job numbers supporting speculation of a Federal Reserve interest rate hike later this year, high-yield mortgage-backed real estate investment trust-related exchange traded funds are retreating.
On Friday, the Market Vectors Mortgage REIT Income ETF (NYSEArca: MORT) dipped 0.8% and the iShares Mortgage Real Estate Capped ETF (NYSEArca: REM) fell 0.9%. Over the past three months, MORT decreased 4.0% and REM declined 5.0%.
The mREIT investment strategy also pays high dividends, which has attracted a lot of fixed-income investors. REM comes with a 13.91% 12-month yield and MORT has a 10.64% 12-month yield.
However, high-yield mREITs are pulling back on increasing Fed rate hike speculations. On Friday, the government revealed a gain of 215,000 jobs in July, close to average monthly payroll employment growth this year, reports Jon Hilsenrath for the Wall Street Journal.
The improved labor market helps support the Fed’s plan for raising short-term interest rates this year, possibly in September, as some officials have hinted at.
However, a higher interest rate environment means lower profits for mortgage-backed REITs. The mREITs invest in financial firms that borrow at short-term rates and buy long-term mortgage securities, profiting on the spread, reports Eric Balchunas for Bloomberg.
“Many mortgage REITs… invest in MBS backed by the government or government agencies and use leverage to capitalize on the arbitrage spread between short- and long-term interest rates,” according to Morningstar analyst Robert Goldsborough. “Because these MBS are generally high quality, these mortgage REITs face little to no credit risk. Instead, they’re very susceptible to rising interest-rate risk and a flattening yield curve.”
Goldsborough, though, notes that rising rates may not be all negative for mortgage REITs as costs may be diminished in a rising rate environment if long-term rates rise faster than short-term rates, or a steep yield curve, which would help maintain greater spreads.
Nevertheless, traders are still growing wary of the asset and are cutting back exposure. For instance, REM has lost $80 million to outflows since Memorial Day.
iShares Mortgage Real Estate Capped
For more information on real estate investment trusts, visit our REITs category.
Max Chen contributed to this article.