Colonial slack on mortgage fund failure disclosure
The Australian Securities and Investments Commission must be wondering over the effectiveness of its efforts to clean up disclosure by issuers of debentures and similar securities, in light of the omissions Colonial First State offered up recently as disclosure on its failed Mortgage Income Fund.
In a derisory two-page press release, Colonial on Tuesday said it would wind up the $852 million fund after making provisions against loans "that had the potential to become bad debts".
The provisions have reduced the income available for distribution to unit holders and Colonial estimated that it would not be able to make a distribution for 18 months.
Mortgage trusts are used as income generating funds and have a big following among retirees, so with the income tap turned off Colonial had no choice but to wind up the fund.
Colonial, in common with the manager of similar trusts, has been dealing with a liquidity squeeze since October 2008, when it imposed limited redemptions. Since then it has been able to pay out $185 million but has not been able to meet redemption demands.
Colonial media contact Matthew Coleman said yesterday provisions represented 4.5 per cent of funds under management. Eighty-five per cent of the $852 million in the fund is in mortgage assets and the rest is in cash.
Tuesday's release said Colonial had "identified a small number of mortgages that had the potential to become bad debts". It is hard to understand how Commonwealth Bank could allow its wealth management division to fob investors off by describing a bad debt expense of 4.5 per cent of the portfolio as small.
It is interesting to discover that mortgage trusts do not make provisions when they write loans. Is an investment in a fund that makes loans any different to a deposit with a bank that makes loans?
The quarterly update on the Mortgage Income Fund and published at the Colonial website for December 2009 does summarise arrears, which were 2.14 per cent, and a label this newsletter's never seen used before of "maturity default", which in December was equal to 6.1 per cent of the portfolio.
Colonial defined a maturity default as a loan where "borrowers failed to repay their loan by the stipulated loan maturity date but are still meeting loan instalments".
The quarterly update also includes, on its opening page, a basic explanation of the reasons for the termination of withdrawals in October 2008, and carried over as boilerplate since then with no update on Colonial's management of the problem.
The question now is whether Colonial's plight is a one-off, which is the industry line, or the start of a trend.
The co-head of fund research at Morningstar, Chris Douglas, said he has taken a lot of calls from mortgage trust managers at other wealth management companies over the past couple of days, assuring him that the asset quality of their funds was secure.
Douglas said: "They say their books are solid and they will not be closing their funds. But I would not have expected this to happen to Colonial."
Coleman said Colonial had no plans to wind up its two other mortgage trusts, which have a total of $1.7 billion of funds. His reason was that the other funds had higher levels of liquidity than the Mortgage Income Fund.
He was not able to provide any information about the quality of the assets in those funds. Surely the regulators should deem that unacceptable.