AGNC Option Bears Understand the Interest Rate Impact

It was on January 10, 2022, that I reviewed a bearish combo on AGNC Investment Corp (NASDAQ: AGNC) in the nightly video. Since that day there have been several other bearish option trades on AGNC that have been significant. Another one of those trades happened today and happens just before their corporate earnings on February 1. The bearish posturing can be attributed to bearish earnings expectations, but also the expected interest rate policy from the Fed.

Let’s take a closer look at the impact of Fed policy and today’s activity.

AGNC and the Federal Reserve

It’s important to understand how to evaluate a company fundamentally. However, REITs can be difficult since the emphasis is more on cash flows than earnings. A REIT like AGNC doesn’t invest in real estate, but rather mortgages. You may wonder how a company can pay out a 9.7% dividend yield when mortgage rates have been mostly below 3% for a while now. The answer to the question is leverage.

These types of investments take a relatively stable return and leverages it. If you look at the last earnings report, you’ll find that the company has leverage of 7.5x tangible net book value "at risk" as of September 30, 2021.

As the Fed raises rates, there are three areas of direct risks to AGNC.

1. Mortgage rates increases causing lower yielding mortgage debt held by AGNC to lose value
2. Higher rates cause the borrowing costs to increase both directly by raising the Fed Funds rate and indirectly through rising risk spreads.
3. If the economy stagnates, the risk of mortgage defaults increase.

As you can see, the table is set for potentially all three risks to get triggered in the coming year. This has happened at other points in the past for these types of products, and the moves can be very unforgiving.

AGNC UOA

Today’s options activity for AGNC saw puts sizzle at 3.38 times the 5-day average put volume at the time of this writing. The call volume was below average at 0.961 for a put-to-call ratio of 2.448. Looking at the put activity, 56% of the puts were filled at the ask, which is an indication put buying. Around 28% of the put volume occurred between the market and 15% at the bid.

Here is a breakdown of the unusual option activity (UOA) for today:

• 16,000 4 FEB 22 $14.50 puts mostly BOT in 1 print of 7,025 contracts @ $0.14 to $0.19

The use this week’s expiration encompasses the earnings report. That may reflect institution’s bearish expectations. Either way, it’s reflected the overall bearish sentiment that has been building in recent weeks.

Conclusion

The $14.50 strike price represents a critical level of support for AGNC. The put activity today reflects the expectation that the level will break, and the downtrend will continue. Obviously, the earnings result is unknown, and any trade can prove to be wrong in hindsight. However, the bigger picture and likely trend in AGNC is very likely skewed to the downside.

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