Understanding Mortgage REITs: Opportunities and Risks
This month, a unique asset class has garnered attention among investors—mortgage real estate investment trusts (REITs), known for their attractive dividend yields. As investors navigate a volatile market, these entities provide a distinct alternative to traditional equity REITs.
What are Mortgage REITs?
Mortgage REITs operate by holding mortgages and mortgage-backed securities, enabling them to finance real estate properties while lending money to developers and other entities. Unlike equity REITs, which focus on purchasing properties and collecting rent, mortgage REITs specialize in the financing side of real estate.
Recent Highlights in the Market
Notably, the spotlight was shone on mortgage REITs by influential investor Bill Gross. He shared on the social media platform X, “I own [mortgage] pass-thru REITs like AGNC yielding 13% that will do well at 4.25 on the 10 year but it’s hard to believe that yields go lower without visible progress on inflation.” Currently, AGNC Investment boasts a compelling dividend yield of around 14% and has increased by about 12% in 2025, an appealing option given that the S&P 500 has declined more than 3% during the same period.
The Risk-Reward Dynamic
Investors must approach mortgage REITs with caution. As Philip Blancato, chief market strategist at Osaic, emphasizes, “You have to understand what you’re buying.” The leverage inherent in mortgage REITs, often ranging from five to seven times the equity, can amplify both potential returns and risks. The use of high levels of debt makes them more susceptible to market fluctuations.
- Interest Rate Sensitivity: The duration risk associated with long-term mortgages can expose mortgage REITs to volatility as interest rates fluctuate.
- Credit Quality: These trusts have the option to invest in high-quality agency mortgages or chase higher yields with riskier options that carry a greater chance of default.
Blancato warns of potential pitfalls: “There are some train wrecks out there—companies that made the wrong interest rate bet.” Understanding these risks is critical, especially for investors who rely on consistent portfolio income.
Current Market Conditions
As interest rates remain a key factor, mortgage REITs may perform better in a stable interest rate environment. Presently, the 10-year Treasury yield stands around 4.2%, down from a high of 4.8% earlier in the year. Some mortgage REITs, such as Annaly Capital Management, which has risen nearly 19% and offers a 13% dividend yield, are thriving, alongside Dynex Capital, which has seen an 11% increase paired with a 14.5% dividend yield.
Investment Considerations
Investors interested in mortgage REITs should carefully evaluate their portfolios. Knowledge of the underlying assets and their risk profiles is crucial:
- Opportunities in higher quality credits and shorter duration securities
- Understanding the trade-off between seeking yield and the risk associated with potential capital depreciation
Blancato advises, “Make sure they own Treasurys, look for duration that’s relatively short, and don’t go for the biggest yield.” Mortgage REITs should ideally occupy a small percentage of an investment portfolio due to their heightened risk profile; they can serve as a supplementary source of income rather than a primary investment.
Conclusion
While mortgage REITs present the allure of high dividend yields, potential investors must remain vigilant about the associated risks. A thorough understanding of each REIT’s strategy and risk characteristics is essential before diving into this complex segment of the market.
