As rating agencies continue to alter the status of tranches of RMBS transactions, investors who have traditionally invested only in securitised assets can look towards the whole loan market to achieve desired yields. Alex Maddox, director of business development and origination at Acenden, discusses how investors can benefit from investing in UK mortgage assets as opposed to RMBS markets

With the financial services sector continuing to rebuild following the financial crisis, investment funds are on the hunt for the highest yield opportunities to ensure investor satisfaction. This remains a core challenge, however, across most investment sectors as absolute yields remain low.

Funds that have typically focused their trading strategies on RMBS are currently facing the difficulty of a series of rating changes. For example, as a result of lowering its long-term issuer credit ratings on a number of banks, S&P in July took various credit rating actions on 181 tranches in 62 European RMBS transactions, lowering the ratings on all tranches.

Given the ratings volatility of securitised assets, investors could consider investing in UK residential mortgage portfolios instead. The whole loan market can offer loss-adjusted yields of between 6% and 10%. This level should appeal to both domestic and international investors.

Changing markets
A number of major foreign and domestic banks are under pressure to deleverage their balance sheets and reduce their risk-weighted assets as applied to non-core activities. In the direct aftermath of the financial crisis there was little desire from banks to sell these portfolios at severely depressed prices.

Now, as the market improves, buyers and sellers are starting to agree on fair prices for books, supported by the increased availability of debt financing for portfolio buyers. As such, banks are now able to sell more of their portfolios off, creating new opportunities for investors.

Another reason for investors interested in the mortgage sector to consider whole loan investment is that in the UK there is a maturing third-party servicing business. With the support of mortgage servicer platforms, funds are able to tackle the regulatory requirements of portfolio ownership, as well as the associated operational challenges.

Drawing parallels to the very sophisticated servicing market in the US, the European equivalent now has companies that focus on this highly specialised segment of mortgage portfolio ownership. As a result, asset managers can invest in portfolios with the peace of mind that a mortgage servicer can engage with borrowers and comply with all FCA mandates for such assets.

One of the regulatory obligations weighing on investors when they purchase residential mortgage portfolios is the full servicing of the individual loans within the book. Naturally, most investment funds lack the large operational capabilities to perform this to a compliant regulatory level.

However, funds can manage this by outsourcing their requirements to a mortgage servicer that can deliver this operational capability from the outset. This is particularly pertinent since regulatory non-compliance can be damaging both in financial terms and from a reputational point of view - something crucial for any investment fund. Portfolio owners can gain further peace of mind from the knowledge that mortgage servicing companies use their operational expertise to ensure that the portfolio remains profitable and generates the expected returns.

Get ahead of the competition
As funds compete strongly to provide robust returns to their investors, the focus is on finding asset classes that are performing reliably. Although in the whole loan market, there are fewer available assets compared to the RMBS market, there is generally a smaller pool of buyers - thereby increasing the opportunities for strategic investors.

This lack of competition can be explained by some funds' decision to stick to their comfort zones and only trade in rated bonds where they have a better understanding of the market. However, if proper due diligence is performed on portfolios, investors can be reassured as to the benefit of investing in the whole loan market. Conducting this research can inform the prospective buyer about key aspects of their potential investment, such as confirming that charge over the property is enforceable, as well as providing a recent valuation of a property.

Specialist value
Given the need to deliver high yield returns for investors, funds should explore all possible avenues to find the best opportunities in the current market. Traditional RMBS investors may not be aware of the value they could achieve by owning portfolios of loans and, beyond that, the available network of mortgage servicers they can draw on if they choose to invest in these assets.

As the 'new world order' of regulation and risk management settles, many funds are finding that the absolute levels of yield from investments are much lower than the pre-crisis era. However, by broadening their view of the investment landscape and considering a move away from securitised assets, they could well identify investments that deliver returns that satisfy fund managers and the investors of the funds they manage.