Good for ↑
10-year yields at 4.97% are hurting mortgage REITs, which hold long-dated mortgage bonds funded with short-term loans. Investors expect yields to keep rising. If Treasury Secretary Bessent buys back bonds to cap yields, REITs holding government-backed mortgage bonds would gain most, with more room to rise than to fall.
Source: Investing.com ↗
A Treasury buyback would cap long-term yields, and investors have already crowded into Treasuries on that idea. The VIX, a gauge of expected stock swings, is only 15.8. Bond yields reflect worry about heavy Treasury supply, not panic. The bigger effect may be on agency mortgage REITs, which hold mortgage bonds backed by Fannie Mae and Freddie Mac. Their shares assume yields stay above 5% for good. These companies fund long-dated mortgage bonds with short-term repo loans. When the 10-year yield jumped to 4.97%, those bonds lost value, and interest rate swaps only partly offset it. The gap between what the bonds pay and what the loans cost also narrowed. That hit came from rates, not bad loans. Treasury could buy back 10-30 year bonds, which its worry about yields above 5% makes plausible. Mortgage bond spreads would then likely tighten fast, since those bonds are priced off the 10-year yield and hedging sales would stop. A 30-40 basis point fall in yields could restore 5-10% of book value and make their dividends look better against safe bonds.
Most investors expect yields to keep climbing toward 5% and possibly past it, driven by worries about the budget deficit, oil at $100 a barrel and sticky inflation. Rate-sensitive sectors like real estate are being sold without much distinction. The common view is to favor bonds that mature soon and stay away from mortgage REITs.
Why that may be wrong
Investors are treating one week's 4.5% jump in yields as the start of a new era. They are not allowing for the chance that policymakers respond. Treasury buybacks are a known tool, set up in 2023, and Bessent has spoken publicly about managing yields. Yields above 5% carry a high political cost, such as mortgage rates above 7.5%, a frozen housing market and soaring interest costs on federal debt. That gives Treasury a strong reason to act. Investors treat the path of yields as outside anyone's control, when it partly depends on policy choices now under active debate.
The case fails if Bessent clearly rules out buybacks or Treasury says it will not step in. Mortgage REITs would then lose more book value. Watch for a Treasury press release or Bessent testimony to Congress confirming no buyback program soon. Also, if oil stays above $100 and the next consumer price index report, due within weeks, comes in hot, the Fed could not ease policy, and that support would be gone.
Treasury buybacks are a blunt tool that could signal fiscal desperation and even push yields higher, by eroding trust in US budget discipline. Japan's experience capping yields showed that defending a ceiling can need ever larger, unsustainable intervention. The weakest assumption is that Bessent has both the political will and the firepower to bring yields down much. If the deficit is running at 7% or more of GDP, with oil at $100, buybacks would be fighting a flood of new bond supply. A hot August consumer price report showing core inflation speeding up above 3.5% would undo this view. Any Treasury move would then look like policy bent to fund the debt, and could spark a bond sell-off anyway.
The closest case is September-October 2022. UK government bond yields jumped above 4.5%, and the Bank of England launched emergency bond purchases. UK pension funds using liability-driven investment strategies were hit hardest, with a mismatch much like mortgage REITs face now. After the Bank stepped in, UK real estate investment trusts and other rate-sensitive stocks rebounded as yields fell back. When a credible authority signals a yield ceiling, the assets hit hardest tend to bounce back fastest, as traders betting on further falls buy back at once.
10-year yields at 4.97%, up 4.5% in a week, are pushing down prices of agency mortgage bonds. Mortgage REITs, which fund long-dated bonds with short-term loans, are losing book value, and the whole sector is being sold.
Treasury Secretary Bessent may buy back long-dated Treasuries to cap yields. If he does, agency mortgage bond spreads would tighten at once, as hedging-driven selling stops. A ceiling on yields would also remove the worst-case fear that was driving forced selling of mortgage REITs.
Mortgage REITs holding mostly Fannie Mae and Freddie Mac bonds, rather than riskier credit, gain most from falling yields. A 30-40 basis point drop from 5% would restore 5-10% of book value and make dividends look better against safe bonds. Traders who bet against these shares would buy them back, adding to the rise. These companies are valued as lasting losers, yet what hurts them is the level of yields, now near the point where political pain could prompt policymakers to act.
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