Mortgage-backed securities (MBS) are a relatively avenue for investors looking for additional income and the FlexShares Disciplined Duration MBS Index Fund (NasdaqGM: MBSD) is among the ETFs providing access to this asset class.
MBSD, which holds nearly 460 bonds, has a 30-day SEC yield of 2.19% and a weighted average effective duration of 3.08 years, according to issuer data. MBSD’s duration is among the lowest in the MBS ETF category.
The Fed has been on a mortgage bond buying spree since May with a goal of $30 billion in purchases in mind, according to a MarketWatch report. ETF investors can put mortgage bond funds on their radars as the central bank takes on this hefty endeavor and ramps up their purchases through the end of the year.
The purchase of mortgage bonds was something the Fed implemented over 10 years ago during the financial crisis in 2008—of course, mortgage-backed securities at the time were deemed as toxic assets that helped cause the crisis. The goal was to spur demand for the securities by purchasing them at distressed prices offered by secondary mortgage market players Fannie Mae and Freddie Mac.
MBSD “seeks investment results that correspond generally to the price and yield performance, before fees and expenses, of the ICE BofAML®, Constrained Duration US Mortgage Backed Securities Index,” according to FlexShares.
The MBS Creation
MBS are created when an entity acquires a bundle of mortgages and then sells the securities. Most MBS are seen as “pass-through” security where the principal and interest payments are passed through the issuer to the investor.
While MBS may offer modestly higher yields relative to U.S. Treasuries, the mortgage-backed bonds are exposed to prepayment risk – if rates dip before the security’s maturity, a homeowner can refinance debt, causing an investor to get back the principal early and reinvest it in a security with a lower yield.
Most funds typically trade securities taken from the three prominent agencies – Ginnie Mae, Fannie Mae and Freddie Mac. These agency securities usually come with high-quality ratings and are explicitly or somewhat implicitly backed by the U.S. government.
MBSD is up 2.55% year-to-date.
The opinions and forecasts expressed herein are solely those of Tom Lydon, and may not actually come to pass. Information on this site should not be used or construed as an offer to sell, a solicitation of an offer to buy, or a recommendation for any product.