Description

ANH is an MBS REIT that is currently trading at approximately 87% of book value. Historically, the stock has traded from .5x-1.7xbook. For those not familiar with passive mortgage reits, the stocks are essentially interest rate plays. ANH buys mortgage backed securities on the open market and makes a spread based upon the yield of those securities and its funding costs. These companies were punished during the fed tightening cycle and although ANH has recovered somewhat in 2006, it still is a good value. The company consists of two parts, Anworth which invests in agency MBS and its Belvedere subsidiary which invests and securitizes jumbo prime loans.

The reason ANH has lagged its other mortgage peers is that unlike its peers the company was the only passive mortgage reit to not significantly restructure its balance sheet. During fed tightening, many mortgage REITs had portfolios that were valued at a discount due to rising rates. Companies such as NLY, MFA, and LUM took permanent impairment charges as they sold these underwater assets and used the proceeds to buy new securities. ANH did not do this, and as a result have weathered harder spread compression than others. The company did recently take a charge of .22cents for selling securities in the 2q, however management stated that this was done due to the price being offered for the securities, not because they felt they had to sell. No further asset sales were said to come. Management stated that they will make the .22 cents back over the next 6 quarters with the new assets they purchased with the proceeds of the sale, so it should be a wash. With passive mortgage REITS, their portfolios are marked to market when reporting book value on a GAAP basis. Any impairment in its portfolio is marked in “Accumulated Other Comprehensive Loss Consisting of Unrealized Losses” on the balance sheet. As of 2Q06, for ANH this number was approximately $85million (or ~$1.87 per share). As its assets re-price to higher yields, this number will reverse, and be added back into the book value. So although ANH is trading at 87% of its book value, if you take the AOCI account under consideration you have a stock that is trading at closer to 74% of book value. If management does not restructure any further (which they have committed to not doing) book value increasing to this level takes little more than the time for the assets to re-price.

Any and all recovery would be further accelerated by a fed easing as the company’s funding costs reset at a rate faster than their portfolio yield (there is an approximate 15 month gap), leading to spread expansion in this environment. Even if ANH only recovers the AOCI account and trades at the new book value (~$11) instead of a premium to book, an attractive return can still be had.

Catalyst