Mortgage securities offer structured-credit investors the best opportunity to get returns in a low- yield environment, while keeping volatility risk under control, according to Christian Zugel, founder and chief investment officer of Zais Group LLC.
Alt-A and prime mortgage assets are “the one sweet spot we like the most,” Zugel, who oversees $6.4 billion at Red Bank, New Jersey-based Zais, said in an interview today on Bloomberg Television’s “Market Makers” with Erik Schatzker and Stephanie Ruhle. “We think housing has found support, the economy is chugging along and you can predict very accurately, in our opinion, what your final cash flows will be.”
Zugel, whose Zais Opportunity Fund manages a $418 million structured-credit portfolio that has returned 78.5 percent a year over the last three years and was ranked No. 1 on Barron’s Top 100 Hedge Funds list, said he takes a more conservative approach to investing, shunning collateralized loan obligations in favor of mortgage securities, which he believes have a better chance of withstanding even in a “doom-type scenario.”
These worst-case economic conditions, which Zugel defines as the U.S. unemployment rate jumping to 15 percent and the housing market plunging as much as 20 percent, wouldn’t hurt the value of Alt-A and prime mortgage securities because “you’re buying legacy bonds that were issued at par many, many years ago, some go back to 2003, 2004.”
“You can buy them at 70, 80 cents” on the dollar today “and you are highly likely to receive principal payments and coupons as these bonds pay off,” Zugel said.
While the days of getting 80 percent returns on securities backed by Alt-A and prime loans “are over,” investors that can earn 5 percent without risking losing their money if the U.S. experienced another recession are in “a good position,” Zugel said. Most of his institutional clients seek returns of 8 percent, he said.