2023-07-11 16:46:16 ET
Summary
- The SPDR Portfolio Mortgage Backed Bond ETF aims to provide broad exposure to U.S. agency mortgage backed securities.
- SPMB's holdings are all rated AAA, indicating low default risk, however, yields may be lower due to limited credit risk and the current inverted yield curve.
- Despite recent challenges in the MBS market, SPMB is now attractive as the economy moves into a recession.
Launched by State Street Global Advisors and managed by SSGA Funds Management, Inc., SPDR Portfolio Mortgage Backed Bond ETF ( SPMB ) seeks to provide broad exposure to agency mortgage backed securities in the United States. SPMB uses a market value methodology in weighting and selecting its holdings, and it seeks to track the performance of the Bloomberg U.S. MBS Index using a representative sampling technique. The fund was launched in 2009 and has accumulated an AUM of $4.34 billion. The fund is rebalanced on the last business day of each month.
Holding Analysis
As mentioned earlier, SPMB invests in agency mortgage backed securities of the U.S. investment grade bond market. The fund invests in a total of 2,209 holdings and has an average maturity of 8.64 years.
The fund is skewed towards the State Street Institutional Liquid Reserves Fund, with a weighting of nearly 6%. Its top 10 holdings constitute roughly 12% of its entire portfolio.
Since the fund invests in agency mortgage-backed securities, the quality of its holdings is 100% of the highest investment grade of AAA. These bonds typically have a lower risk of default but also may have lower yields than less creditworthy bonds. Within SPMB, bonds also have a wide range of maturities, with a predominant focus on 7-10 year maturities. A comprehensive breakdown can be seen below.
Why Invest MBS: Low Expenses, Low Risk, With Lower Yield
Agency mortgage backed security funds are known to be very safe investments as they have limited credit risk because of their relationship with the U.S. government and the U.S. Treasury. These bonds are issued by one of two government-sponsored enterprises (Fannie Mae or Freddie Mac) and are all rated of the highest investment grade quality of AAA. These funds provide stability, liquidity, and have favorable valuations during times of uncertainty and volatility. However, because of its limited credit risk as a result of backing by the U.S. government, these funds may produce lower yields than other less creditworthy bonds, such as corporate bonds. These bonds also typically have lower costs when lenders and borrowers make large transactions, as seen in SPMB's low expense ratio of 0.04%. Many of SPMB's closest peers also have relatively low expense ratios.
As for yields, MBS typically carry higher yields than U.S. Treasuries, but right now, agency MBS yields have been unfavorable as a result of the inverted yield curve persisting for the past year. Short maturity bonds have reported the highest yields, with long-term bonds reporting lower yields. Traditionally, the yield curve is upward-sloping, where longer-term securities yield more shorter-term securities. SPMB invests a substantial portion, 52%, in 7-10 year bonds and a slightly lower 32% in 10-15 year bonds, making the yield slightly lower than average at this time. SPMB has a 30-day SEC yield of 2.97%, which is considerably lower than many of its peers. Below is a table of SPMB's closest peer ETFs and their respective 30-day SEC yield.
iShares GNMA Bond ETF ( GNMA ) | 3.52% |
Janus Henderson Mortgage-Backed Securities ETF ( JMBS ) | 4.73% |
iShares MBS ETF ( MBB ) | 3.00% |
Vanguard Mortgage-Backed Secs Idx Fund ETF ( VMBS ) | 3.32 |
Slump in the MBS Market
The U.S. Agency MBS market has experienced a slump in 2022 and into 2023 as a result of headwinds in the U.S. housing market. The slump was exacerbated by the failure of several regional banks in the US, including Silicon Valley Bank, Signature Bank, and First Republic Bank. In fact, the issuance of global MBS reached a 23-year low in the first quarter of 2023 as mortgage rates increased and property sales and refinancing decreased. As seen in the graph below, global MBS issuance decreased to a low of $100 billion, which is its lowest point since 2000. Ultimately, this decline in MBS issuances can lead to a reduced availability of credit, making it more difficult for home-owners and property developers to secure financing. This vicious cycle can likely lead to lower MBS issuances in the near future.
Despite the record low MBS issuances and its projected contraction over the next 2 years, the actual supply of MBS on sale is expected to increase dramatically over the period. This rise in supply can be mainly attributed to the Federal Reserve's monetary tightening policy intended to combat inflation. In attempting to reduce inflation, the Fed's aggressive interest rate hikes in the past few months along with its reduction in its purchases of MBS have led to this increase in supply. The spread between MBS prices and the underlying mortgages is increasing, which is another headwind for the agency MBS market.
As Recession Looms, Agency MBS Outperform
While it is true that agency MBS has been sluggish in the past year, I believe that these securities will have favorable opportunities as the economy looms closer to a recession. U.S. agency MBS have historically outperformed during recessions, and they also may benefit from the eventual pause of interest rate hikes. The Fed has already slowed down hikes dramatically from months earlier, and this may be an indication of interest rates nearing its peak before dropping down to normal levels.
Since the inception of MBS in the late 1970s, there have been six recessions, and in every recession, the agency MBS index reported positive total return rates over the 12 months that followed the onset of the recession. Moreover, these bonds have also outperformed investment grade corporate bonds by an average of 370 basis points during these times.
Investment Opinion
I am sensing that government-guaranteed agency MBS bonds should experience an uptrend in the near future, if not the coming months. The MBS market has likely rebounded from its slump in the past year and a half, and it should benefit from a higher probability of a recession. These bonds continue to offer favorable yields while being some of the safest instruments one can buy during times like this. That's also not to mention the favorable valuations these securities offer. Ultimately, as the economy slows down and enters a recession, high-quality debt instruments like MBS will grow increasingly favorable among investors who are seeking a safe, yet high-yielding investment to ride out the recession. I rate SPMB a Buy.
For further details see:
SPMB: Purchase Agency MBS Bonds To Ride Out The Recession