Pacific Investment Management Co., seeking to raise $600 million for a fund that would invest in residential mortgages, agreed to slash its management fee should the fund suffer losses.
Pimco REIT Inc., which filed for an initial public offering in April, disclosed last week that its annual management fee would decline to 1.0 percent from 1.5 percent if the fund loses money over a one-year period. Newport Beach, California-based Pimco’s prior filings with the U.S. Securities and Exchange Commission didn’t call for any change in the fee, which is based on shareholders’ equity.
Pimco and its New York-based rivals Avenue Capital Management and Angelo, Gordon & Co. are among investment firms creating real estate investment trusts, or REITs, that could help provide home loans if government-sponsored enterprises Fannie Mae and Freddie Mac curtail financing. The rush to seize this opportunity is creating a glut of mortgage REITs, forcing some to make concessions to attract capital from institutions.
“Investors have complained that you shouldn’t be able to earn a fee if the entity is losing money,” said Merrill Ross, a REIT analyst at Wunderlich Securities Inc., a regional brokerage based in Memphis, Tennessee. “But no one has ever offered this as a resolution before.”
The potential for such losses was displayed in June, when credit markets tumbled following the Federal Reserve Bank of New York’s attempt to sell mortgage bonds acquired in the 2008-2009 rescue of American International Group Inc. (AIG) The New York Fed halted the bond sales because of “prevailing market conditions,” it said in a June 30 e-mail.
Fund Raising Slows
Mortgage REITs led by Annaly Capital Management Inc. (NLY) and American Capital Agency Corp. (AGNC) raised almost $6 billion through share sales in December, January and February, helping to bolster the market for mortgage-backed securities.
Fund raising has become more difficult. AG Mortgage Investment Trust Inc., a REIT run by Angelo Gordon, priced a $110 million IPO last week after cutting the offering’s size from earlier estimates of as much as $300 million. Angelo Gordon agreed to pay the $6.4 million underwriting fee for the IPO, an expense that typically would have been borne by the REIT itself in prior years.
“It’s a tough market to get these REITs out because there are a lot of them out there,” said Bose George, a mortgage REIT analyst at Keefe Bruyette & Woods in New York. “But if the GSEs become a smaller part of the market, which presumably they will, there is enormous opportunity.”
As government-sponsored enterprises, Fannie Mae and Freddie Mac own or guarantee more than half of all U.S. home loans. The companies, which the government chartered to inject capital into the housing market, were taken under federal control in 2008 amid mounting losses from failing subprime mortgages.
Pimco will levy a management fee equaling 1.5 percent of the REIT shareholders’ equity, or three times the 0.50 percent of net assets that some of the firm’s mutual funds, such as Pimco Mortgage-Backed Securities, charge institutional investors. The fund will also pay part of its profits, based on a formula in the offering documents, as a performance fee to the management company.
Pimco revised the terms of the management fee in a June 29 SEC filing, saying it would be cut to 1 percent of shareholder equity should cumulative core earnings be negative for any four quarters ending with the period in which the fee is due to be paid. The fee would stay at 1 percent until the fund was profitable for four consecutive quarters.
For the fund’s first year the management fee will be held at 0.5 percent, the amended filing said. The REIT’s investments will include bonds backed by commercial and residential mortgages, according to the filing.
Mark Porterfield, a Pimco spokesman, declined to comment.
Scott Simon, who will co-manage Pimco REIT, also declined to comment. Before joining Pimco in 2000, he was co-head of mortgage-backed securities pass-through trading at Bear Stearns Cos., according to Pimco’s website.
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