Unlike hedge funds and other investment vehicles, mortgage real estate investment trusts are subject to a ‘good asset’ test that limits the majority of their investments to real estate assets.
Some housing market reform proposals rely in part on selling off the credit risk associated with mortgage-backed securities, at times in ways that raise questions as to whether the assets would satisfy the ‘good asset’ test.
As a result, panelists at the Mortgage Bankers Association Secondary Conference examined various models of risk sharing as well as private transactions in the context of ensuring maximum liquidity.
“Other opportunities are starting to become more apparent such as securitization 2.0, which we are looking closing at. We would purchase whole loans, securitize them and end up with a package of securities, but not end up holding the balance of things that don’t make a whole lot of sense,” said Scott Ulm, co-CEO of ARMOUR Residential REIT, Inc (ARR).
Thus, investors are looking to mREITs to step in to fill the void of the contraction of Fannie Mae and Freddie Mac’s mortgage-backed securities volume and the funding of those components.
Over the last three years, mREITs have raised $40 billion of equity capital in this sector, Ulm explained.
“This is one of the areas of the capital market that can produce returns, attract capital in size and will continue to grow for a while,” he said.
However, the issue of using mREITs to slowly pull private capital back into the market involves the restructuring of the complex rules and ancient policies that apply to these firms.
“If we want to bring private capital back into the market we need to modernize our rules. It’s difficult because over time private letter rulings have set the bar of what type of assets are good REIT assets, and which aren’t,” said Richard King, CEO of Invesco Mortgage Capital (IVR).
He added, “So just clarifying what currently works and what doesn’t work would be beneficial.”
Kevin Grant, founder and CEO of CYS Investments (CYS), echoed the need for modernized rules, stating, “Regulators haven’t kept up with how the modern securities market works.”
With a lack of updated rules, mREITs are at a stand still in terms of being a dominant driver of bringing private capital back into the secondary market.
Nonetheless, if Congress can issue a final destination of the mortgage finance system, investors truly believe that the future of mREITs is made up of capability and opportunity.
“There’s this likelihood that mREITs are increasingly likely to be apart of the solution in housing reform as long as Congress makes appropriate decisions,” Ulm explained.