Drivers of mortgage fund performance

Why are mortgage funds so popular?

Mortgage funds had net inflows through 2002 and 2003 of over $1bn. In New Zealand, mortgage funds are promoted by both banks and fund managers. Large investor inflows are particularly pleasing to banks for two main reasons. Firstly, the securitisation of debt means that they have less debt on their books, are required to hold less idle cash and this increases earnings. (For more on securitisation and how it works, see the FundSource articles from February 11 and 20.) The other bonus is that many of the investors in these mortgage funds previously held term deposits with the banks. Every time their deposit matured they would look around to see what the other banks were offering, and would often switch if they could get a better deal, meaning the bank had to be very competitive to keep the money invested with them. A fund, however, does not have a maturity date, so in theory at least the banks will find it easier to retain the invested funds. Ironically, such large inflows can work against fund managers.

Mortgage funds are attractive to investors in certain environments as they may achieve higher returns than other income investments, such as fixed interest funds and term deposits. The average annual return for a mortgage fund to the end of January 2004 was 3.53%, compared to 3.03% for a fixed interest fund. And perhaps what many investors like most about mortgage funds is the low volatility of returns relative to equities.

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