What happened
Shares of the mortgage real estate investment trust (mREIT) AGNC Investment (AGNC 0.89%) are trading nearly 3% higher as of 10:04 a.m. ET today after getting an endorsement from Bill Gross, also known as the Bond King.
So what
As an mREIT, AGNC uses debt and leverage to invest largely in agency mortgage-backed securities, which carry a guarantee from the U.S. government. But these bonds can still lose value if interest rates rise, which has happened rapidly this year as the Fed has tried to combat high inflation.
Bond values have an inverse relationship with bond yields, so as yields have risen, bond values have been crushed. In the industry, investors refer to what has gone on this year as mortgage spreads (the difference between the yield on a 30-year mortgage and a yield on the 10-Year U.S. Treasury) widening, and spreads not too long ago widened to levels not seen since the Great Recession.
As a result, AGNC has seen its book value crushed this year. It has also started to report quarterly losses. Both equity and earnings help support the dividend, which is now extremely high at 12.45%. Investors fear that if things keep trending this way, the dividend will have to be cut.
Gross said AGNC will be able to benefit if mortgage spreads tighten next year, and they've begun to tighten recently.
Now what
Gross is absolutely right that AGNC will benefit from tightening mortgage spreads. However, I would expect Q4 earnings to still be challenging because funding costs will be higher and spreads did widen for part of the quarter.
Ultimately, while Gross could very well be right, I think a lot still needs to play out. That's why I am somewhat optimistic about spreads tightening but can't make a firm buy recommendation, given the riskiness of the stock.
There are other factors to be aware of, such as the demand for agency mortgage-backed securities with the Fed no longer buying them and actively letting them run off its balance sheet.
