Renewed interest in mortgage funds
Latest FundSource research shows that mortgage funds continue to attract significant fund inflows.
Tuesday, April 9th 2002, 10:20AM
by Rodney Harris
Latest FundSource research shows that mortgage funds continue to attract significant fund inflows. For the 2001 year, the New Zealand mortgage sector had the highest quarterly inflows of any sector. The catalyst for this popularity in mortgage funds can be attributed mainly to the general decline in global equity markets over past two years, starting from the March 2000 technology and media melt down.
The source
While specific research is not available, one can make inferences
about where the inflows are coming from. The following points
outline possible sources:
- Banks such as ASB, WestpacTrust and BNZ have captured the majority of the industry's mortgage inflows. These inflows are mostly likely the result of aggressive "over the counter" (i.e. teller) selling where banks have cannibalised existing funds held in term deposits. Supporting this is the low interest rate environment where investors are more likely to look at higher yielding low risk alternatives.
- With the exception of NZ mortgages and international equity, all other sectors had static or negative inflows. New money and money being transferred within the industry was directed more towards the "safer" sectors, cash and mortgages.
The mortgage trend?
Are inflows into the mortgage sector likely to persist? Given
the uncertainty in investment markets at the beginning of 2002
the mortgage sector is expected to attract further inflows throughout
the March quarter. However, with economists predicting a strong
economic recovery, it is unlikely that the magnitude of future
inflows will be as great, due to the expected increase in risk
appetite throughout 2002.
Performances
Mortgage investments are generally considered a relatively lower-risk
investment, which offer a set or floating rate of return, historically
exceeding that of money market funds. Mortgage rates, set or floating,
are at a margin above the 90-day bank bill rate. The consistent
and stable performance of funds in the NZ Mortgage Unit Trusts
and GIF's sector is outlined below as at 28 February 2002.
Due to the lack of variability in returns
the best performers are those that had the lowest management expense
ratios (MER's). The top-performing funds on a three-year and five-year
basis were the Perpetual Trust Mortgage Fund followed by the Guardian
Mortgage Fund. Both funds have relatively low MER's by sector
comparison (0.89% and 0.90% post-tax respectively).
Future returns from mortgage funds are strongly linked to future
movements in the 90-day bank bill rate. Given the recent increase
in the 90-day rate, performances on both cash and mortgage funds
are expected to improve. Although, MER's largely explain the performance
discrepancies, consideration should also be placed on the quality,
experience and track record of the mortgage manager including
portfolio risk and investment process factors.
Portfolio considerations include the following: what authorised
investments are permitted by the fund; priority of mortgages allowed,
for example first, second, third mortgages; portions of holdings
in fixed interest securities; geographic and sectoral spread of
mortgages; breakdown between floating and fixed mortgages; number
and size of mortgages held; policy towards gearing and foreclosure;
percentage of funds which can be lent on any one mortgage and
whether the fund has a lock-in period.
Investment process considerations include the following factors: credit assessment criterion; the means of sourcing mortgages; the thoroughness of valuations undertaken upon properties; and the extent to which mortgages are covered by mortgage insurance.
Mortgage funds in a portfolio context?
Mainstream mortgage funds are considered to be stable investments
with volatility in returns matching those of cash funds. A large
number of redemption's can present liquidity problems for mortgage
funds; thus they are not an optimal structure if the fund's investors
have short-term investment horizons.
From an asset allocation perspective, mortgage funds would predominantly be regarded as cash due to the low volatility of returns. In summary, mortgage funds are best suited to medium to long-term investors who are looking for a higher yielding alternative to cash.
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Note: All returns are shown post tax (33%) and fees. Closed funds and funds under $10m were omitted. Funds that do not have a 3 year performance history do not have a quantitative star rating.
This article was contributed by FundSource analyst, Rodney Harris
| « Portfolio Talk: Paul Harrison | Mortgage funds to suit all investor profiles » |
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