Federated Investors: Getting Back to Structure


With so much emphasis and intense focus placed lately on the current liquidity problem existing in the mortgage-backed securities market, portfolio managers at Federated Investors feel that certain opportunities for value - particularly in structured product sectors - are often neglected.

"Everybody has been so focused in on liquidity that I think some investors ignore the fact that collateralized mortgage obligations often make sense in a portfolio," said Kathleen Foody-Malus, vice president and MBS department head at Pittsburgh-based Federated.

"I believe that there are certain select opportunities available when you take the stance that, yes, I am going to have this in my portfolio', and if I look at it over a three-month or six-month horizon holding period, there are times when structure can really help your portfolio," she added.

While she does not necessarily suggest putting a whole portfolio into collateralized mortgage obligations, Foody-Malus definitely believes that investors will be rewarded over time for buying structured product.

Though only 5% to 8% of the $5.34 billion she manages in mortgage assets consists of CMOs, she believes that the obsession with liquidity in the current marketplace blindsides investors when it comes to their avoidance of structure.

"Everyone is so focused on, oh, I have to own the current coupon,' that you forget about these other sectors," Foody-Malus said. "When there is such a focus on liquidity, you can have other parts of the mortgage-backed market get out of line, or you can have dislocations going on. But CMOs make sense if they are at the right levels.

"If all the ducks are lined up, it should work."

The Ginnie Mae Fund

Unlike other investment companies, Federated's departments are divided up very specifically by product type, so each money manager has a particular area of expertise.

For example, Foody-Malus invests in strictly agency mortgages, while the asset-backed department handles non-agency mortgages. Other Federated departments deal with money markets, equities, international bonds, high-yield paper and corporates.

Additionally, there is one "multisector" area within the company that periodically flips between mortgages, asset-backed securities, corporates and Treasurys.

Out of the company's total assets of $119 billion, it holds $5.7 billion in mortgages, the majority of which being managed by Foody-Malus.

The MBS department is slightly overweighted in the Ginnie Mae sector nowadays, mainly because one of its primary holdings is the Ginnie Mae Fund, Foody-Malus notes.

Across the board, the company focuses largely on bonds with coupons of 6.5% and 7%, although it also has minimal exposure to 7.5% and 8% coupons.

"We like Ginnie Maes as opposed to the conventional sector just because of what happened with spread relationships between Fannie Mae and Ginnie securities earlier this year," Foody-Malus noted. "Our view was, when that [Ginnie] sector turns around, it will turn around very quickly."

According to Foody-Malus, Ginnie Maes got very expensive versus conventionals last October. "It was at ridiculous levels back then. And now, I think we're going in the other direction, where we've overshot the mark."

When an investor is looking at where his or her durations are, or where they are targeting them to be, they are looking at Ginnie Maes looking much cheaper when compared to Fannies, Foody-Malus added.

Illiquidity, I Hate Thee

The liquidity crunch in the market is something that frustrates Foody-Malus to no end, mainly because it has become very difficult to entice investors back into the mortgage marketplace.

"If you look at the mortgage-backed market - and here we are saying that we represent value - and you look back at spreads for the past 13 years, even on a nominal basis, you see that we've gone through many crises," said Foody-Malus. "There was the first refinancing wave of the 80s, then there was the thrift crisis of the late 80s and early nineties, and then there was the third and fourth quarters of last year.

"And so it is just so hard now to lure people back to mortgages."

According to Foody-Malus, a large part of the reason for this is that there is a huge amount of volume currently in sister products, such as asset-backeds and corporates.

"People are just trying to figure out, Which asset class do I favor?," she said.

"What lures liquidity back? If I knew that answer, I'd be all over it like a cheap suit."

Adding to liquidity concerns, of course, is the Y2K issue. Foody-Malus notes that Federated has committed substantial assets to make sure that it is completely Y2K compliant, but one can never know when a glitch comes up.

Further, the company is very cognizant of Y2K from an investment standpoint and it has been talking to shareholders to figure out what their needs will be.

And, indeed, it is all about the shareholders, Foody-Malus says. In essence, the Street is not holding the same types of positions that they held a year ago at this time, and even hedge funds went away, so companies such as Federated have investors and shareholders that they have to be concerned about.

Therefore, the liquidity concerns in the mortgage market have affected the company from a business perspective.

"I like mortgages," Foody-Malus asserts."I just need somebody else to like mortgages!" - AT