Net Interest Spread

What is net interest spread?

Net interest spread is the difference between the yield a company earns on interest-producing assets and the cost of the financing used to hold them. It is especially important for mortgage REITs that borrow money to own mortgage-backed securities or mortgage loans.

How it works

Start with the yield on the assets, then subtract the cost of funding. If a mortgage portfolio earns 5.5% and the related borrowing costs 4.0%, the simple spread is 1.5 percentage points.

The published measure may be more involved. A company may include or exclude the effect of interest-rate hedges, premiums and discounts on securities, cash balances, or particular financing arrangements. For that reason, investors should read the company’s definition and avoid treating similarly named figures as automatically comparable.

A simple example

A mortgage REIT earns 6.0% on its assets and pays 4.5% on its financing. Its simple net interest spread is 1.5 percentage points before other costs and adjustments. If financing resets to 5.2% while asset yield stays at 6.0%, the spread narrows to 0.8 percentage points.

The Fly High perspective

Fly High uses the company-specific earnings measure that management identifies as the source of the dividend. Net interest spread helps explain why that earnings measure is moving, but it does not replace the four-quarter earnings estimate or the dividend coverage calculation.

This article is for general education. It is not personal investment advice or a recommendation to buy or sell any security.