The 2018 mREIT Outlook: One of Cautious Optimism

REIT magazine: January/February 2018

With 21 years of experience, the past dozen as managing director of Keefe Bruyette & Woods, Bose George has been a trusted financial analyst and a go-to voice for the mortgage finance sector. His coverage includes mREITs, mortgage banks, mortgage servicers, mortgage insurers and title insurers. George sat down with REIT magazine prior to the holidays to discuss his expectations for mREITs in 2018.

Q: What is your forecast for mREITs for 2018?

We’re selectively recommending a few mREIT names, but broadly, somewhat cautious on the space. We have rates going up the end of 2017 and then again in 2018, and the curve flattening a little bit. With that backdrop, it’s not a bad outlook for them. They should continue to earn at similar levels, but it’s not a great outlook either.

Q: How is that different from what we saw in 2017?

It’s not all that different. In 2017, the expectation in some ways was worse. Going into the year after the election, there was an expectation that rates could move up a lot more meaningfully, both short rates and long rates.

The sentiment on this sector was probably a little worse, and one reason I think the sector has done reasonably well in 2017 is that the expectation on rates had become a lot more benign. Now that sentiment has changed to some degree, and we think that is being driven by the political momentum surrounding tax reform.

Q: Are there any concerns about financial instability because of the rates?

Right now, the concerns are somewhat muted. Since the Fed is expected to move rates up at a modest pace and unwind the portfolio at a modest pace, the market seems to be comfortable that the changes are going to have limited impact on the markets and volatility is going to remain low.

We’re hoping that is the case. We are a little cautious just because volatility is already extremely low, and so some of these actions could increase volatility. Also, there are external factors that could increase volatility, as well. Things in the political arena that create uncertainty could impact what happens on the bond markets, as well.

Q: Are there any warning signs that you’re keeping your eye on; any downside risks you’re worried about?

The prices of most assets, including mortgages, are very high. Spreads are very tight, and in that kind of environment, you do worry that if something destabilizing happens, you could have big sell-offs. So, we’re broadly worried, but I can’t say we’re focusing on anything in particular because I feel like the problem with high prices seems to be a universal problem. It seems like every asset class is expensive.

Q: What would be your biggest piece of advice for mREIT investors in 2018?

Despite our caution, given our expectation on rates, it seems like a decent sector to have some exposure to because the return looks reasonable, especially if there’s volatility in the broader markets. The risk obviously is that the economy hugely outperforms and rates go up a lot, then the sector gets hurt, but that’s not our general expectation.

Given our view that we’re probably in this environment where we muddle along for a while, I think some exposure to the sector makes sense.