Finding high-quality income streams in the US mortgage-backed security market
WHY A US MORTGAGE-BACKED SECURITY STRATEGY ?
Investing in US mortgage-backed securities (MBS) might sound risky. But these generally high-quality securities have high credit ratings because they are guaranteed by the US government. Unlike those of commercial lenders, an agency MBS has never defaulted.
The asset class has relatively low correlation with other assets and a history of providing strong returns in times of rising rates and market stress.
The agency MBS market is also highly liquid. After US Treasuries, it is the second-largest bond market in the world.
At BNP Paribas Asset Management we want to deliver consistent returns with effective risk management.
Within the mortgage sector, the main risk is whether loans will be repaid early. Prepayment can happen for a number of reasons:
- Refinancing: homeowners remortgage as rates decrease
- Moving: homeowners need to move and remortgage, often for work
- Trading up: home owners need larger or smaller accommodation as family size changes
- Default: homeowners cannot repay their mortgage, so the agency pulls it from the pool but pays the outstanding principal to pool owners
Our focus is therefore on security selection and the characteristics driving prepayment differentials.
In addition, we believe inefficiencies exist within the US mortgage market and continually seek to exploit them. We also believe duration is a low information ratio trade and, for that reason, keep it close to benchmark.
Our well-defined process involves three clearly defined steps:
- Portfolio construction: build a strong foundation of holdings with attractive yield/convexity profiles relative to the benchmark
- Tactical positioning: take advantage of value opportunities and off-benchmark allocation to help boost overall returns
- Security selection: scrutinise underlying collateral of MBS pools. Proprietary tools help identify key characteristics driving prepayment behaviour
This disciplined process enables us to target a diversified portfolio with attractive yield and convexity characteristics.
Our experienced team takes a collaborative approach, with clear accountability and market specialisation.
John Carey, who has 29 years of investment experience, leads the team. He is supported by Matt Slootsky, Michael Naughton and Jane Song. The team is based in New York.
Investments are subject to market fluctuations and the risks inherent in investments in securities. The value of investments and the income they generate may go down as well as up and it is possible that investors will not recover their initial outlay, the strategies described being in risk of capital loss. There is no guarantee that the performance objective will be achieved. Past performance or achievement is not indicative of current or future performance. Reliance upon information in this material is at the sole discretion of the reader. Investment involves risks.