Credit Suisse Downgraded 3 Mortgage REITs On Compression In Yield Curve, Widening Of Agency MBS Spreads

February 1, 2015

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With a compression in the yield curve and a widening of Agency MBS spreads, Credit Suisse sees strong challenges for mortgage REITs ahead for 2015.

In a report published Monday, research analysts Douglas Harter, Sam Choe and Matthew Freedman look into the sector, which, despite the backdrop, still offers attractive investment options like PennyMac Mortgage Investment Trust (NYSE: PMT), Two Harbors Investments Corp (NYSE: TWO) and New Residential Investment Corp. (NYSE: NRZ). However, the firm decided to trim its target prices for the sector by an average of 4 percent.

In addition, a “challenging new investment environment” led to a downgrade of three stocks to Underperform as analysts expect “these names to underperform the mortgage REIT peers from a total return viewpoint.” The demoted stocks are: Armour Residential REIT (NYSE: ARR) and Cypress Sharpridge Investments Inc (NYSE: CYS) and New York Mortgage Trust, Inc. (NASDAQ: NYMT).

Credit Suisse’s analysts cite the following reasons for the downgrades:

Armour Residential REIT: “The combination of a negative duration and relatively long dated hedges lead to book value underperformance in a flat curve environment. This combined with a below average historical risk-adjusted return profile lead us to a lower valuation.”

Cypress Sharpridge Investments: “With above average economic return volatility we expect CYS to continue to have one of the lower price to book multiples among the Agency-only REITs leading us to believe the total return will underperform peers.

New York Mortgage Trust: “The continuation of a tight credit spread and low yield environment will make it challenging for NYMT to meaningfully expand core EPS in order to cover the dividend without relying on gains. This coupled with the highest price to book in our residential mREIT coverage cause us to see relative underperformance.”

The research firm also cut down its price targets for Armour Residential, from $4.25 to $3.25, while maintaining its $8.50 target for Cypress Sharpridge and $7.50 target for New York Mortgage Trust.