Investors show ardor for Ginnie Mae

Who would have thought that dowdy Ginnie Mae funds would be sexy?

How about investors attracted by high returns and top credit quality. They are flocking to them in droves.

Net inflows into the funds are heavy, and investors do not appear dismayed by the prospect that mortgage rates will continue downward – a situation that’s usually bad for such funds.

The U.S. Treasury Department’s move last week to halt the sale of 30-year bonds almost certainly will continue to push mortgage rates down by lowering long-term interest rates.

Interest rates on 30-year fixed-rate mortgages were at a three-year low in the week ended Nov. 2. Thirty-year mortgage rates stood at an average of 6.56%.

But many advisers and analysts say that Ginnie Mae funds are still a good bet. Lewis Altfest, president of L.J. Altfest & Co. Inc. in New York, with $100 million under management, says that he believes Ginnie Mae bonds will continue to be a good alternative to Treasury bonds, whose returns, he says, are “analogous to chump change.”

Year-to-date at the end of October, Ginnie Mae funds were averaging a return of 9.01%, according to Lipper Inc. in New York. U.S. domestic equity funds were down 19.42% for the same period.

That may be surprising since the performance of Ginnie Mae funds – named from the acronym GNMA, or Government National Mortgage Association – is intrinsically tied to mortgage rates, which are already low and may drop even further.

“It’s a little bit perplexing because as rates continue to go lower, the assumption would be that refinancing would result in a lot of these mortgages being prepaid,” says Alan Papier, a Morningstar Inc. analyst.

“But maybe what’s going on here is that investors don’t want to take on a lot of credit risk, and with Ginnie Mae, there really isn’t a lot of credit risk,” he adds.

Principal and interest on Ginnie Mae mortgages are guaranteed by the federal government.

Ginnie Mae bonds are backed by pools of mortgages. When mortgage rates fall, homeowners often refinance mortgages. As a result, investors of mortgage-backed securities get a chunk of their principal back. They then presumably have to reinvest that money at a lower rate.

Fortunately for fund investors looking for total return, a drop in mortgage rates isn’t all bad news, if the fund manager knows what’s going on in the market, says Michael Cheah, lead manager of the $182 million SunAmerica GNMA Fund and a vice president with SunAmerica Asset Management Corp. in New York.

The 27 Ginnie Mae funds followed by Boston’s Financial Research Corp. were able to attract $7.19 billion of net assets year-to-date through the end of September. And through the end of the same period last year, the funds saw outflows of $3.89 billion.

Of those funds, the $18.2 billion Vanguard GNMA Fund, offered by The Vanguard Group in Malvern, Pa., accounts for more than 25% of the assets invested in Ginnie Mae funds. Year-to-date through September, it saw inflows of $3.3 billion. But it’s not the best-performing fund.

It was up 9.37% year-to-date through October, placing it in the 39th percentile of its intermediate-government-bond category, according to Morningstar. Its one-year annualized return of 12.49% placed it in the 59th percentile, and its three-year annualized return of 7.42% placed it in the 5th percentile of its category.

The best-performing Ginnie Mae fund year-to-date through October (up 13.02%) is the $26 million Pimco GNMA Fund, offered by Pimco of Newport Beach, Calif., according to Morningstar.

For that period, it placed in the first percentile of its short-term-bond category. It had a one-year annualized return of 16.83%, placing it in the first percentile and a 9.19% three-year annualized return, placing it in the third percentile of its category.

While both funds invest in Ginnie Mae bonds with coupons below 7%, the Pimco fund is invested in bonds with shorter maturity periods. With falling interest rates, those funds are the most popular.