Fixed Income  

Jonsson backs US sub-prime sector

Jonsson backs US sub-prime sector

Neuberger Berman’s Jon Jonsson has placed large bets on US sub-prime mortgage securities as he allocates a fifth of his Global Bond Absolute Return fund to the infamous asset class.

Around 20 per cent of the £107m portfolio is exposed to US sub-prime mortgages issued before the 2008 financial crisis.

Mr Jonsson, who co-manages the fund with Andrew Johnson, said the exposure to sub-prime mortgages would add around 4 per cent a year in risk-adjusted returns, with low volatility.

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The 20 per cent exposure is achieved through investment bank-designed mortgage-backed securities (MBS), which bundle up residential mortgages into a fixed income product.

Once a focal point of the US fixed income market, the bonds’ reputation slumped as they sold off amid fears of rising defaults from sub-prime customers in the build up to the financial crisis.

Many investors continue to avoid the bonds as a result, meaning Mr Jonsson’s MBS were available at what he called a significant discount.

However, the manager said improvements in the US economy made the bonds less risky as there was less of a chance borrowers will default on the loans.

“[The bonds are] attractive because people are getting jobs; ability to pay is improving as energy prices come down; and house prices are going up, so you get fewer losses. Fundamentals are very strong in our view and technicals are quite positive by the fact that there is no new issuance in this sector,” Mr Jonsson said.

“Just because they caused problems when house prices collapsed eight years ago doesn’t mean they’re risky today. I think house prices have corrected and people have got jobs so it’s very different than buying prior to the financial crisis – you can’t really compare it with buying them today.”

Interest rate rises are also not expected to be a concern, as Mr Jonsson noted that mortgage contracts in the US are longer term than those in the UK, and that many have been able to refinance on favourable terms.

Elsewhere, the fund has also drastically increased its weighting to high yield, moving from a 10 per cent short in 2014 to a current exposure of 40 per cent. Some 10 per cent has been added this year. The holding is made up of bonds split between the US and Europe.

“It’s been a difficult quarter. In our view, the price movements were quite technical and far exceeded what was indicated by any underlying fundamentals, whether it was recession risk or default risk, so we saw it as a huge opportunity.”

The move was made at the expense of hard currency emerging market exposure, not due to a negative stance on the sector, but because high yield appeared more attractive.

The manager also likes financials, a sector that has become more attractive due to regulators forcing banks to be better capitalised.

“Within the investment grade space, we think financials are the most attractive area given that regulators are on our side – forcing banks to be more conservative and hold more cash. So forcing them to be more bond-friendly, basically.”