You may have come across the acronyms, “ABS” and “MBS”, and wonder if they may be describing alphabet soup.

They are non-traditional, interest-bearing debt securities created from the pooling of:

• mortgage-related financial assets, including residential and commercial mortgage loans, and hence mortgage-backed securities, or MBS.
• non-mortgage financial assets including auto loans, personal loans and credit card receivables, and hence asset-backed securities, or ABS.

So why do some fund managers choose to invest in securitised debt^{1, 2}, and what are the roles ABS and MBS could play in an investment portfolio?

1. Diversified income sources and risks

When seeking yield³ in periods of market stress, securitised debt such as ABS and MBS could help diversify income sources and risks. Agency MBS, for example, have exhibited uncorrelated returns to risk assets such as developed market equities and US credit or corporate bonds, and could act as a hedge to portfolios.

Still, securitised assets of all kinds were marked down earlier this year as a result of forced liquidations of leveraged investors in the space, and thus did not provide the diversification we would have expected. The various liquidity support programmes put in place by the US Federal Reserve and other central banks have gradually calmed the markets, and securitised assets such as MBS have been delivering positive performance in recent months^4,5.
 

Diversifier in times of market stress⁵

^{5. Source: J.P. Morgan Asset Management, Bloomberg. Calendar year returns. Data as of March 2020. Indices used: MSCI World Index (Net) US dollar (USD), Bloomberg Barclays US MBS Index USD, Bloomberg Barclays US Credit Index USD. Past performance is not a reliable indicator of current and future results. Indices do not include fees or operating expenses and are not available for actual investment. The US MBS Index showed a year-to-date return of 3.7% as of 04.09.2020.}

Unlike equities and corporate bonds, which are more closely tied to corporate balance sheets, securitised debt’s underlying assets are mostly loans extended to individuals - this means tapping into the balance sheets of consumers. And they are largely supported by trends in US consumption strength and declining household debt⁶.

2. Resilience in market downturns

Securitised debt also demonstrated resilience⁴ in market downturns. During periods when the S&P 500 Index delivered negative returns of more than 5%, ABS, non-agency commercial MBS and non-agency residential MBS have demonstrated more resilience compared to equities and high-yield (HY) corporate bonds⁷.

An allocation to non-agency mortgages could help manage portfolio volatility.

Returns⁸* during periods of S&P 500 drawdown (> -5.0%)

Provided for information only to illustrate asset class trends in specific market conditions not to be construed as research or investment advice. Past performance is not a reliable indicator of current and future results.

3. Relatively consistent returns⁴

Historically, securitised debt have broadly generated relatively consistent returns. Agency securitised debt, for example, are issued or guaranteed by US government-related bodies. They demonstrate defensive characteristics and could be considered as an alternative to US Treasuries. With opportunities for relatively attractive yield versus US Treasuries, US MBS have demonstrated lower volatility⁴.

Volatility of US MBS and Treasuries⁹

Conclusion
 

In uncertain markets, building portfolio resilience helps navigate changing market conditions. With relatively low correlation to risk assets, securitised debt could help diversify income sources and risks in the search for yield³.

Provided for information and educational purposes only based on market conditions as of date of publication, not to be construed as investment recommendation or advice. Forecasts/ estimates may or may not come to pass.

Diversification does not guarantee investment return and does not eliminate the risk of loss.

1. For illustrative purposes only based on current market conditions, subject to change from time to time. Not all investments are suitable for all investors. Exact allocation of portfolio depends on each individual’s circumstance and market conditions.
2. Securitisation is the process in which certain type of assets, such as mortgages or other types of loans, are pooled so that they can be repackaged into interest-bearing securities. Examples of securitised debt include MBS.
3. Yield is not guaranteed. Positive yield does not imply positive return.
4. Past performance is not a reliable indicator of current and future results.
6. Source: FactSet, FRB, J.P. Morgan Asset Management, Bureau of Economic Analysis. US household debt service ratio was 9.6% for 2Q 2020 versus 13.2% for 4Q 2007. US household net worth for 2Q 2020 was about US$114.7 trillion versus US$71.3 trillion for 3Q 2007. 1Q 2020 figures for debt service ratio and household net worth are J.P. Morgan Asset Management estimates. Data reflect most recently available as of 31.07.2020.
7. High-yield credit refers to corporate bonds which are given ratings below investment grade and are deemed to have a higher risk of default. For illustrative purposes only, exact allocation of portfolio depends on each individual’s circumstances and market conditions. Yield is not guaranteed. Positive yield does not imply positive return.
8. Source: J.P. Morgan Asset Management, Bloomberg; data as of 31.03.2020. CMBS: Commercial MBS, RMBS: Residential MBS. Indices used: S&P 500 Total Return Index, Bloomberg Barclays US Corporate High Yield Index, Bloomberg Barclays US Securitised: ABS Index, Bloomberg Barclays Non-Agency CMBS Agg Eligible TR Index, Markit iBoxx Broad US Non-Agency RMBS Index. Indices do not include fees or operating expenses and are not available for actual investment.
*Returns calculated using monthly data. Past performance is not a reliable indicator of current and future results.
9. Source: Bloomberg, J.P. Morgan Asset Management; data from 31.12.1999 to 30.06.2020; calculated using monthly total returns in USD. Indices used: Bloomberg Barclays US MBS Index (MBS), Bloomberg Barclays US Treasury Index (US Treasuries).

Investment involves risk. Not all investments are suitable for all investors. Past performance is not a reliable indicator of current and future results. Please refer to the offering document(s) for details, including the risk factors. Investors should consult professional advice before investing. Investments are not similar to or comparable with fixed deposits. The opinions and views expressed here are as of the date of this publication, which are subject to change and are not to be taken as or construed as investment advice. Estimates, assumptions and projections are provided for information only and may or may not come to pass. This document has not been reviewed by the SFC. Issued by JPMorgan Funds (Asia) Limited.