Potential US downgrade may not disrupt REIT MBS investments
Even if lawmakers fail to reach a compromise on the debt ceiling, leading to a sovereign rating downgrade, the agency mortgage-backed securities real estate investment trust model is likely to remain stable and viable, according to analysts at Keefe, Bruyette & Woods. The investment bank said there are three possible scenarios with the deadline looming. The most likely is where lawmakers reach an agreement, but the country's sovereign debt is still downgraded on or after Aug. 2. The remaining two scenarios include reaching an agreement with no subsequent downgrade and failing to reach an agreement, forcing a downgrade. KBW admitted "agency MBS REIT prices have suffered as these companies appear to be vulnerable on both sides of their balance sheets if there is a sovereign default or ratings agency downgrade." However, analysts do not doubt the REITs viability under all three possible scenarios. "If U.S. Treasuries are downgraded, Ginnie Mae MBS, which have a full faith and credit guarantee, would be downgraded automatically and GSE MBS which are unrated but have an implicit triple-A rating would see a similar reduction from the perspective of the market. However, we believe that the practical impact of this is limited," KBW said in its report. KBW Market Strategist Mark Pawlak estimates a downgrade of U.S. sovereign debt to double-A from triple-A would increase yields for agency MBS by 10 to 20 basis points. "We think that MBS rates would head up the same amount as Treasuries but MBS spreads over Treasuries would remain roughly unchanged. This type of move would have a minimal impact on book value," according to KBW. The fate of Fannie Mae and Freddie Mac in the event of a downgrade would not change dramatically. "The GSEs are currently in conservatorship and that status would change to receivership if there is a government default which prevents the Treasury from funding further losses at the GSEs," KBW wrote in its report. "However, this would only occur if the default persists." If the GSEs are forced into receivership, the impact on the agency MBS market will be limited since the conservator's role is to maximize value and there is no requirement to quickly offload assets if that destroys value, the research firm concluded. Write to Kerri Panchuk.