As we’ve noted previously, due to the combined factors of reduced bank buying, sustained higher interest rate volatility, poor technicals associated with ongoing FDIC sales and the historic inversion of the treasury yield curve, agency mortgages offer valuations not seen in many years. Mortgages also offer particular value relative to investment grade (IG) credit. Indeed, this relative value has only grown more compelling as investment grade credit spreads tightened over the past quarter.
Figure 1: MBS Spreads against Investment Grade Corporates
Sources: Bloomberg and MacKay Shields. Past performance is not indicative of future results
Importantly, opportunity within the mortgage sector is specific to recently issued bonds created at current interest rates rather than those produced at very low rates during the pandemic era of Federal Reserve dominance of the mortgage market. The enormous production at very low rates and the rapid rise in rates over the last year has created two distinct markets. Bonds 2-4.5% coupons produced during the period of low interest rates and active Federal Reserve buying. This segment of the market represents more than 75% of the mortgage bonds included in the Bloomberg Aggregate Index and trade at yield spreads ranging from 58 – 107 basis points over treasuries. Meanwhile, recent production coupons between 5 - 6.5% trade at yield spreads to treasuries ranging from 126-180 basis points.
Figure 2: Agency Mortgage Passthroughs - Value in Higher Coupon
As of September 20, 2023
WAC = weighted coupon; OAD = option-adjusted duration
Source: Bloomberg; Fannie Mae Agency mortgage backed securities
Past performance is not indicative of future performance.
We view more recently issued bonds as a unique and significant opportunity to reduce credit risk while increasing income potential and liquidity in portfolios.
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MacKay Shields LLC is a wholly owned subsidiary of New York Life Investment Management Holdings LLC, which is wholly owned by New York Life Insurance Company. "New York Life Investments" is both a service mark, and the common trade name of certain investment advisers affiliated with New York Life Insurance Company. Investments are not guaranteed by New York Life Insurance Company or New York Life Investments.
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About Risk
The principal risk of mortgage-related and asset-backed securities is that the underlying debt may be prepaid ahead of schedule, if interest rates fall, thereby reducing the value of the fund’s investment. If interest rates rise, less of the debt may be prepaid and the fund may lose money
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COMPARISONS TO AN INDEX
Comparisons to a financial index are provided for illustrative purposes only. Comparisons to an index are subject to limitations because portfolio holdings, volatility and other portfolio characteristics may differ materially from the index. Unlike an index, individual portfolios are actively managed and may also include derivatives. There is no guarantee that any of the securities in an index are contained in any managed portfolio. The performance of an index may assume reinvestment of dividends and income, or follow other index-specific methodologies and criteria, but does not reflect the impact of fees, applicable taxes or trading costs which, unlike an index, may reduce the returns of a managed portfolio. Investors cannot invest in an index. Because of these differences, the performance of an index should not be relied upon as an accurate measure of comparison.
The following indices may be referred to in this document:
Bloomberg U.S. Credit 5-10 Year Index
The Bloomberg U.S. Credit 5-10 Year Index measures the performance of the U.S. corporate and a non-corporate component with maturities of 5-10 years that includes foreign agencies, sovereigns, supranationals, and local authorities. It is a subset of the U.S. Government/Credit Index and the U.S. Aggregate Index.
“Bloomberg®”, “Bloomberg Indices®”, Bloomberg Fixed Income Indices, Bloomberg Equity Indices and all other Bloomberg indices referenced herein are service marks of Bloomberg Finance L.P. and its affiliates, including Bloomberg Index Services Limited (“BISL”), the administrator of the indices (collectively, “Bloomberg”) and have been licensed for use for certain purposes by MacKay Shields LLC (“MacKay Shields”). Bloomberg is not affiliated with MacKay Shields, and Bloomberg does not approve, endorse, review, or recommend MacKay Shields or any products, funds or services described herein. Bloomberg does not guarantee the timeliness, accurateness, or completeness of any data or information relating to MacKay Shields or any products, funds or services described herein.
“New York Life Investments” is both a service mark, and the common trade name, of certain investment advisors affiliated with New York Life Insurance Company.
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