AGNC Takes Low-Cost Approach to MBS

REIT magazine: November / December 2017

Since its May 2008 IPO, AGNC has generated a total stock return of 357%, compared to 128% for the peer group and 110% for the S&P 500.

In September 2016, American Capital Agency Corp. changed its name to AGNC Investment Corp. (NASDAQ: AGNC) with little fanfare or formality. This was not a branding play for the mREIT, which invests in agency mortgage-backed securities (MBS). Rather, it reflected the company’s internalization of its management structure, says Gary Kain, chief executive officer, president and chief investment officer of AGNC. 

AGNC bought the company that had managed the mREIT, effectively becoming an internally managed REIT in the process. 

The move had a number of implications for investors —most significantly a drop in its operating expenses, net of management fees income, to approximately 70 basis points, Kain says. In other words, AGNC’s shareholders could invest in an actively managed REIT at fees typically seen in passively managed exchange-traded funds. 

The company’s low-cost structure is one of its advantages, according to analyst Bose George of Keefe, Bruyette & Woods, Inc. “It is an attractive way to invest in the agency market,” he says.

But the fees are a sideshow —albeit an important one —for AGNC. The company offers investors a twofold value proposition: expertise in the agency mortgage market and strategies for risk management and hedging. Put together, they have helped deliver a total stock return that has averaged 18 percent per year since the REIT went public in 2008. 

For the most part, AGNC is an agency REIT. Last year, it expanded into mortgage credit investments, but those comprise a small percentage of its portfolio. Even for investors who might fear interest rate risk, now might be a good time to invest in an agency REIT, according to George, who says it is doubtful there will be any meaningful increases in interest rates in the next few years. Like most other mREITs, AGNC hedges against changes in interest rates.

“One reason why we think being an agency REIT makes sense is that most investors have lots of credit risk and pro-cyclical investments tied to the economy in the rest of their portfolio, so an agency mREIT gives investors the benefit of being counter cyclical and the benefit of being one of the few investments that produces an equity-like return and that doesn’t have a big credit component,” Kain says. 

Indeed, recent history indicates the Bethesda, Maryland-based REIT has proven adept in managing both low- and rising-rate environments. It outperformed its peers when rates were low from 2009 through 2013. When interest rates did rise in 2013 with the taper tantrum, AGNC still outperformed its peer group. 

Now the company is getting set to navigate another challenge — or, perhaps, opportunity: the anticipated runoff in the MBS portfolio by the Federal Reserve.

For the last year, spreads on credit-centric fixed-income investments have tightened to multi-year lows. Meanwhile, the funding for agency MBS has remained attractive; spreads have actually widened. This environment positions levered investors such as AGNC for favorable returns, Kain says.

The Fed’s unwinding of its mortgage portfolio also boosts the return profile of agency-focused REITs in the eyes of investors, Kain adds.

“Before, they looked at us as competing with the Fed; now, they are realizing that this large, non-economic competitor is already being priced out of the market. That has been a big tailwind for this space.” 

Column/Department: 

Sign me up for a FREE print subscription of REIT magazine.