London boutique TwentyFour Asset Management is launching one of the UK’s first retail residential mortgage-backed securities funds. Opening in mid-July and distributed by Gemini Investment Management, the fund will be listed in the sterling corporate bond sector with an expected initial yield of 7 per cent. While competing against corporate bonds, its managers claim the portfolio will feature issues of higher quality and greater liquidity than corporate debt.
According to Mark Holman, managing partner at the firm, RMBS funds fit in between gilts and AAA-rated corporates within the fixed- income spectrum. As they are floating rates, they do not carry the same interest rate and inflation risks of other fixed interest investments, he adds.
RMBS funds are not well known to the retail market but have been used for years by institutional investors, including central banks, says Holman. That is because the asset class tends to trade close to the gilt market and offers a stable, predictable yield. Typically, RMBS funds trade around 10 basis points over Libor but have now moved to around 700 basis points, highlighting the current income opportunity in the asset class.
Holman says: “The credit crunch caused heavy selling of all assets regardless of quality, forcing spreads to unprecedented levels. Despite the economic backdrop, these deals remain robust and continue to withstand stringent stress tests.”
The RMBS market is larger than many would think, with around 1,100 bonds and some £1 trillion of issuance. TwentyFour’s portfolio, the monument bond fund, will feature around 40-45 names rated either AAA or AA and will be predominantly exposed to the UK market. It will also feature exposure to the Netherlands and Australia, two regions well experienced in this area.
RMBS funds are interest-bearing bonds backed by the cashflow of a ringfenced pool of residential mortgages. This trust has a substantial cushion should the value of the homes fall or if there are foreclosures.
Ben Hayward, one of the fund’s managers cited the example of a trust that is more than £40bn in size, consisting of over 400,000 loans with an average size of £142,000. The current loss rate on those loans is around 0.06 per cent a year but the trust has a profit cushion, meaning it could withstand a loss level six times that before it would have any impact. Bonds issued from this trust are typically rated AAA, he says.
“We stress-test for all scenarios and even if house prices declined 60 per cent and there was a 25 per cent rate of foreclosures it would not have an impact on those bonds rated AA.”
Also entering the market is another alternative investment choice as Zurich-based Sustainable Asset Management brings its water and energy equity funds to the UK market.
Head of wholesale at SAM Marc-André Hug notes: “When you launch a thematic fund, you had better be sure the theme will be around for the next decade or longer.” SAM’s water portfolio, which invests in global water-related securities and themes, is one such theme that is unlikely to go away soon, he says.
He says: “Water is scarce and there is no substitute for it. We either have too much water – floods – too little drinking water or it is too polluted. We are overexploiting this resource that cannot renew itself fast enough. But the world does have the means and technologies to tackle these issues.”
Hug points out that a growing world population, mostly due to emerging market regions, is placing increased pressure on water supplies. At the same time, most nations are contending with an ageing infrastructure, he says, citing the replacement of London’s Victorian water mains as a prime example. Pollution also plays a role in the supply problem and Hug says that in China, a quarter of its rivers are rated five, meaning the water is unfit for anything connected to human consumption, including irrigation.
With a universe of 150 stocks and holding a portfolio of 60 companies, SAM’s water fund currently has 30 per cent invested in water treatment stocks, such as purification. Around 40 per cent is in distribution and management firms, such as pipes, while 20 per cent is in what the team defines as demand-side efficiency, such as metering. A further 10 per cent is with companies such as irrigation firms.
With regard to SAM’s smart energy fund, analyst Jean-Francois Meymandi also points to a supply/demand inadequacy underscoring its investment theme. He noted the fund is about making money not about being green, and as such it does not just invest in new energy alternatives. That said, the fund does have a substantial weighting to that area of the market as pressure on legislation in renewable energy increases and competitiveness grows. “We are overweight Chinese solar at the moment because the region is building huge capacity as they want to be energy-independent,” he says.
With the specialist and corporate bond fund sectors already showing increasing interest from investors, new entrants such as these portfolios will certainly widen the choices available to advisers. Many remain wary of the stockmarket at the moment but the continued rally is creating interest once again in long-term investment stories.