Lower Interest Rates Should Benefit Cherry Hill Mortgage
After holding its key lending rate at a two-decade high of between 5.25% and 5.5% for the last 14 months, the Federal Reserve just announced its first interest rate cut in more than four years: an aggressive half a percentage point, or 50 basis points. This takes the benchmark interest rate down to a range of 4.75% to 5.0%.
And that’s good news for mortgage real estate investment trusts (mREITs) like Cherry Hill Mortgage Investment Corp (NYSE:CHMI).
Why?
Well, high-yield, rate-sensitive mREITs were some of the worst performing REITs during 2022 and 2023. That was when the Fed starting hiking interest rates in response to surging inflation, which was fueled largely by the amount of money that flooded our financial system in response to the 2020 health crisis.
Large quantities of money being introduced into our economy, whether through stimulus checks, Paycheck Protection Program (PPP) loans, quantitative easing, or other pandemic-era policies, were all chasing the same goods and services, driving up prices.
Higher interest rates force the cost of borrowing up, and REITs borrow a lot of money, which cuts into margins and results in reduced profits and free cash flow. While you might think mREITs would all do well in a high-interest-rate environment, that’s not the case.
Higher interest rates can deter individuals and businesses from borrowing money; instead, they wait on the sidelines for interest rates to start falling.
That’s what we’re finally seeing. And it’s great news for mREITs like Cherry Hill.
Cherry Hill Mortgage Investment acquires, invests in, and manages residential mortgages, a growing portfolio of mortgage service rights (MSRs) and residential mortgage-backed securities (RMBS). RMBS make up the majority (72%) of its investible assets. (Source: “Investor Presentation,” Cherry Hill Mortgage Investment Corp, May 8, 2024.)
Decent Second-Quarter Results
Despite the volatile interest rate environment, Cherry Hill reported decent second-quarter results. It reported total income of $6.58 million with earnings available for distribution (EAD) of $0.08 per share and a net loss of $1.9 million, or a loss of $0.06 per share. (Source: “Cherry Hill Mortgage Investment Corporation Announces Second Quarter 2024 Results,” Cherry Hill Mortgage Investment Corp, August 8, 2024.)
It should be noted that the company’s net loss and EAD were each negatively impacted by $0.06 per share by special committee-related expenses.
Commenting on the results, Jay Lown, Cherry Hill’s president and chief executive officer, said, “We continue to proactively manage our portfolio, navigating spread and volatility risks. Notably, we sold approximately $1.2 billion of UPB of low-balance MSRs this quarter, which should enhance our portfolio’s efficiency and reduce servicing costs. Looking ahead, we look forward to completing our internalization, which we anticipate will reduce our expenses and further align us with stockholders.”
The company didn’t provide any guidance, but Wall Street analysts expect Cherry Hill’s 2024 earnings to slip from $0.70 per share in 2023 to $0.64 per share in 2024 before advancing to $0.87 per share in 2025. (Source: “Cherry Hill Mortgage Investment Corporation (CHMI),” Yahoo! Finance, last accessed September 16, 2024.)
CHMI Stock: Quarterly Cash Dividend of $0.15/ Share
Since the partnership went public in 2013, management has paid a dividend every quarter. Some years are better than others. In 2019, 2020, and 2023, Cherry Hill Mortgage stock paid out $1.78, $1.21, and $0.72 per share, respectively. Improving margins and earnings should help juice its dividend payout.
Executives have supplemented that income stream through the occasional special dividend.
Most recently, on September 13, Cherry Hill Mortgage Investment declared a third-quarter dividend of $0.15 per share, or $0.60 per share on an annual basis, for a forward dividend yield of 16.95%.
Cherry Hill Mortgage Stock Has 40%+ Upside Potential
As you can see in the Cherry Hill Mortgage stock chart below, the higher dividend yield is a result of a lower share price. Though it appears as though investors believe that better times are ahead for Cherry Hill.
Despite second-quarter results being less impressive than the company’s first-quarter results, investors didn’t send the CHMI share price lower. They are, more likely than not, waiting to see what the Fed does with interest rates and how the company performs in the back half of 2024.
As of this writing (September 16), Cherry Hill Mortgage stock is trading at $3.56 per share. While it’s down 4.1% year to date, CHMI stock has rallied 13% over the last six months. It’s essentially flat on an annual basis.
Wall Street analysts are bullish on Cherry Hill Mortgage stock’s outlook, providing a 12-month share price target of $5.00 per share. This points to potential gains of approximately 40.5%. Should CHMI hit $5.00 per share, it would still need to rally an additional 75% to reach its March 2019 record high of $8.80 per share.
Chart courtesy of StockCharts.com
The Lowdown on Cherry Hill Mortgage Stock
Cherry Hill Mortgage Investment Corp is an mREIT with a diversified portfolio of residential backed mortgage assets here in the U.S. It also has a strong balance sheet and liquidity position.
While its second-quarter results fell short of analyst estimates, the company realized a net gain of $9.4 million on derivatives and a net realized gain of $0.7 million on investments in MSRs.
Moreover, Cherry Hill sold $1.2 billion in unpaid principal balance (UPB) of low-balance MSRs, which management said should enhance portfolio efficiency and reduce servicing costs.
While investors wait to see how lower interest rates impact the bottom line of an mREIT like Cherry Hill, and Cherry Hill Mortgage stock, they can sit back and take advantage of the company’s reliable, high-yield dividend.