Does Historic Cheapness Of Agency Mortgage-Backed Securities (MBS) Indicate Funding Stress? Dave Goodson, Professor Jeremy Siegel, Jeremy Schwartz, and Jack Farley

Episode Summary

Executive Summary: The conversation centered on the “higher-for-longer” rates backdrop, with Jeremy Siegel arguing the Fed is on hold and stocks still look attractive versus bonds. Dave Goodson then detailed how securitized markets are being reshaped by high rates, extreme cheapness in agency MBS, selective opportunity in non-agency RMBS/CMBS, and rising caution in CLOs, emphasizing that technicals and relative value now matter as much as fundamentals.

Main Topics: Fed policy and the higher-for-longer rate environment (Priority: 5/5): Siegel said the Fed is unlikely to hike at the next meeting because the market has already repriced policy, while bond yields are still pressuring long-duration assets and mortgage rates are constraining housing. Stocks vs. bonds as long-term assets (Priority: 5/5): Siegel argued that stocks remain preferable to bonds because equities still offer a sizable real earnings yield premium, while bonds have lost some of their traditional hedge value amid inflation fears. Agency mortgage-backed securities look historically cheap (Priority: 5/5): Goodson said agency MBS spreads are extremely wide versus history and versus Treasuries, driven by rate volatility, weak technicals, and the absence of key buyers like the Fed and banks. Non-agency RMBS and consumer credit resilience (Priority: 4/5): Goodson emphasized that non-agency residential mortgage risk still looks attractive because borrowers generally have low fixed mortgage rates, high home equity, and strong payment capacity. Commercial MBS stress is concentrated in office (Priority: 4/5): He described CMBS as being in a late-cycle trough-finding phase, with office properties the key source of toxicity, while multifamily, industrial, retail, and some hotel exposures appear more attractive. CLOs and rising caution on floating-rate corporate borrowers (Priority: 4/5): Goodson said CLO debt has performed well due to floating-rate income, but the underlying leveraged loan borrowers face increasing stress, making CLOs less compelling than other securitized sectors. Market technicals, bank demand, and Fed QT matter (Priority: 4/5): Both speakers stressed that price dislocations are being driven by technical supply-demand factors, including bank buying patterns, Fed quantitative tightening, and reduced valuation-insensitive demand.

Key Arguments: Siegel argued the Fed is effectively on hold because higher bond yields are already tightening financial conditions, while real economic data have not yet weakened enough to force action. Siegel said stocks still deserve a premium over bonds because the equity earnings yield remains attractive relative to TIPS and nominal Treasuries. Goodson argued agency MBS are in extreme relative-value territory, with spreads near the widest percentiles of the past five years. Goodson said the absence of the Fed and banks as major buyers has amplified mortgage cheapness and made technicals a major driver of pricing. Goodson maintained non-agency RMBS remain supported by strong borrower balance sheets, low mortgage rates on existing loans, and meaningful home equity. Goodson said CMBS opportunity exists, but mainly by avoiding office exposure and focusing on better-positioned property types. Goodson warned that CLOs are more exposed to deteriorating corporate fundamentals because leveraged borrowers are absorbing rising floating-rate costs. Goodson suggested securitized assets can offer attractive income and diversification, making a meaningful allocation sensible in fixed-income portfolios.

Data Points: Fed meeting expectation: No rate move on November 1 - Siegel said the market had virtually concluded the Fed would hold rates. 10-year Treasury yield: Touched/exceeded 5.0% - Siegel highlighted the sharp rise in long-end yields. 30-year mortgage rate: Reached about 8.03% - Siegel said mortgage commitments briefly hit 803 basis points. Initial jobless claims: Below 200,000 - Cited by Siegel as evidence of no clear labor-market weakness. Q3 GDP expectation: 4.4% to possibly near 5% - Siegel said growth remained strong ahead of the GDP report. Earnings beat rate: 78% - Siegel cited strong early earnings results for the S&P 500. S&P valuation: About 17x next year's earnings - Siegel used this to argue equities still look reasonable. Real return on 10-year TIPS: About 2.5% - Siegel compared this with equity earnings yields. Equity earnings yield: About 5.5% to 6% - Siegel used this to show stocks still offer a premium. Agency MBS share of securitized markets: About $9 trillion outstanding - Goodson described agency MBS as the largest securitized sector. Nominal agency MBS spread to Treasuries: Approaching 200 bps - Goodson said this is about double the usual level. Option-adjusted spread on current coupon agency MBS: Approaching 80 bps - Goodson described this as historically cheap. Agency MBS cheapness percentile: Wider than 99% of occurrences over the last five years - Goodson framed current pricing as extreme. Agency MBS yield level: Roughly 7% to 8% total income opportunity - Goodson said the combination of yields and spreads creates attractive carry. Subordinate residential mortgage spreads: Over 400 to 500 bps - Goodson said lower-tranche risk in strong housing credits can pay much more. Potential income on some IG-rated subordinate bonds: Approaching double digits - Goodson described the return profile on riskier but still IG-rated tranches. Loan default rate at start of year: Below 1% - Goodson said loan defaults began the year abnormally low. Loan default rate currently: Around 2% - Goodson said defaults have risen but remain below long-run crisis levels. CMBS return outlook: Double-digit returns over the next two years - Goodson said opportunities exist if investors avoid office exposure. Recommended securitized allocation: 5% to 10% minimum - Goodson suggested a meaningful portfolio toehold.

Pivotal Quotes: "Forever is a long time, Jeremy. Longer and forever, there is a difference." — Jeremy Siegel: Siegel pushed back on the idea that high rates will remain elevated indefinitely. "Bonds as a hedge for equity risk and credit risk are impaired right now." — Dave Goodson: Goodson explained why current rate volatility changes fixed-income portfolio construction. "We are in the last five years, we have not seen this space trade this cheaply in over 99% of occurrences." — Dave Goodson: Goodson summarized the extreme cheapness of agency mortgage-backed securities.

Implications: Listeners should view securitized credit as a highly differentiated opportunity set: agency MBS offers extreme relative value, RMBS and selected CMBS remain attractive, and CLOs deserve more caution. For portfolios, duration risk and technicals now matter as much as credit fundamentals.