Impact investing has grown beyond equity investments to include opportunities through fixed income investments. Along with green bonds, affordable housing investments are increasingly in the news and, not surprisingly at IMPACT, we believe the business case for these investments in appropriate circumstances, supports the buzz. In this blog and an upcoming companion, we’ll outline the opportunities presented by the affordable housing investments IMPACT pioneered 20 years ago.
The state of mortgage-backed securities.
A decade ago, loose lending standards, underwriting done on a pro forma basis, and high loan-to-value transactions in the mortgage-backed industry contributed to the economic crash of 2008. Since that time, U.S. financial markets are once again reaching record highs and the U.S. mortgage market is no exception. In 2018, mortgage debt outstanding exceeded $15 trillion for the first time1 and the U.S. Mortgage-Backed Securities (MBS) and Commercial Mortgage-Backed Securities (CMBS) markets have grown to make up 30% of the Bloomberg Barclays U.S. Aggregate Index2.
Today, the U.S. mortgage-backed securities industry is more highly regulated, the underlying loans are healthier, and the industry has re-established itself as a significant part of the U.S financial market. Given the characteristics that exist today, the mortgage-backed sector looks very different than it did ten years ago—as, we believe does the risk/reward analysis for its affordable housing subset.
Impact investment performance—a snapshot.
Mortgage-backed securities products are considered spread products because investors expect their yield to exceed that of US Treasuries. MBS investors receive additional yield in exchange for accepting additional risks –including prepayment and credit risk– which vary depending on the type of underlying mortgage asset. The following chart illustrates the spread between treasuries and various asset classes over the last 10 years.
For purposes of this chart, IMPACT Multifamily Affordable Program interest rate spreads are calculated weekly based on interest rate spreads quoted at the beginning of each week. Interest rate spreads are affected by a variety of factors and assumptions.
IMPACT Multifamily Affordable Housing Loans have produced a spread over U.S. Treasuries that has exceeded, at times, that of conventional MBS investments—and even investment-grade U.S. corporate bonds over the ten year time frame set forth in the chart above. The yield of affordable housing investments has generally exceeded other fixed income sectors and has a lower correlation to many of the Bloomberg Barclays U.S. Aggregate sectors during the past approximately ten year period. Volatility of affordable housing mortgage loans, represented by the standard deviation of its option-adjusted spread, has been only marginally higher than that of the overall index, while averaging significantly more yield during the same period3.
Volatility is influenced by a variety of factors and may change over time.
Given the relative spreads and underlying risks, we believe debt products collateralized by affordable housing can offer institutional investors the opportunity to benefit from attractive yields as they embrace purpose-driven investing. We also believe they can offer a measure of insulation from stock market declines. At IMPACT, we refer to this opportunity as “investing without compromise”—a philosophy that has driven our investment innovation for over 20 years.
Performance backed by sound stewardship.
Since 1998, IMPACT has its foundation rooted in some of the very practices that the mortgage-backed industry finally implemented after the 2008 recession. These include: the discipline to pass on loans that don’t meet our disciplined underwriting standards; seeking to avoid periods when credit terms soften; and a focus on the long term with transparency and accountability to promote alignment with our stakeholders.
This foundation allowed IMPACT to avoid the loan delinquencies and losses that characterized the downturn while our portfolio performed well throughout. In fact, our affordable housing lending platform has not suffered a realized loss of principal or interest through five securitizations totaling nearly $800 million mortgages at issuance through August 31, 2018.* Our disciplined underwriting combines with the potential for financial performance that requires “no compromise” for institutions as they gain entry into purpose-driven investing.
In our next blog, we’ll continue our analysis of the opportunity presented by impact investments tied to affordable housing with a look at diversification.
Thoughts? We’d love to hear from you at info@impactcapital.net.
1 Source: The Federal Reserve Bank
2 Source: Bloomberg Barclays as of August 31, 2018
3 Source Bloomberg Barclays with calculations by IMPACT as of August 31, 2018
* This figure does not reflect unrealized losses or realized losses at the securitization trust level of approximately $340,000. Investors are subject to the risk of loss.