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When Annaly Capital Management (NYSE: NLY ) announced last November its intention to add some commercial flavor to its stable of residential securities, some questioned the sagacity of its bid to purchase CreXus Investments (NASDAQ: CSX ) . Considering Annaly's long history of conservative, low-risk investing in agency-only, residential mortgage-backed securities, investor discomfort was just about guaranteed.
Now that a few weeks have passed, things are looking less spooky, as commercial paper has been hitting the headlines with its newfound popularity. But, just because hedge funds are hot to get their mitts on commercial MBSes, does that mean mortgage REITs should jump on the bandwagon, too?
The answer to that question appears to be a resounding, "Yes!"
Starwood reflects heady commercial market
Starwood Property Trust (NYSE: STWD ) , which originates and invests primarily in commercial mortgages and other commercial debt, showed up on fourth-quarter earnings day with an astounding 38% jump in non-GAAP core earnings in the last quarter of 2012 compared to the year-ago quarter, and a 37% increase in net income.
Having its finger on the pulse of commercial real estate and mortgage activity is what Starwood does best, and it has been very busy recently making deals to expand its reach. The company originated over $1 billion in loans just in the fourth quarter of 2012, and in January, Starwood agreed to purchase LNR Property in a deal that a Stifel Nicolaus analyst characterized as "major-league transformative."
Starwood's CEO Barry Sternlicht notes that money is moving out of fixed income and into real property as values rise. According to Bloomberg, commercial property prices have risen 38% over the past two years.
What this means for Annaly
Obviously, Annaly's management has been scoping the commercial sector, as well. CreXus is within the Annaly family and is managed by FIDAC, an investment advisement company created by Annaly founder Michael Farrell. FIDAC, which was bought by Annaly in 2004, also manages Chimera Investment (NYSE: CIM ) , that roguish hybrid mREIT that can't seem to get its accounting house in order. Since the same people who manage Annaly have also overseen CreXus since 2009, there is some real familiarity between the companies.
So, at least to me, it seems that Annaly's purchase of CreXus is less a panicked reaction to the Fed's open-ended QE3 program and more of a well-considered move. After all, Annaly has always had the option to branch out of agency-only paper if "compelling other long-term investment opportunities" came along. From what I can see, the nascent CMBS market is about as compelling as it gets.
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