There has been a great deal of discussion about the BlackRock Legacy Securities Public-Private Trust which is slated to trade as a closed-end fund on the NYSE.  The fund is designed to purchase mortgage-related assets as a part of the government’s PPIP plan.  Let’s take a look at the offering in a couple of different ways.  First let’s survey what some other analysts are saying about the fund itself.

Rachel Haig at Morningstar analyzes the planned fund.  Two points she emphasizes are the leverage (albeit cheap) inherent in the fund and the risk of the government somehow changes the rules of the game midstream.  Her bottom line:

This is a relatively risky investment. While we think the risk of complete default is relatively low, investors must be willing to wait a potentially long time for rewards, and the fund should be used as a satellite holding rather than as a core part of a portfolio.

Brett Arends at WSJ also urges some caution.  He doubts that the fund will really have a chance to buy at distressed prices anymore.  The banks seem content at the moment to keep many of these assets on their balance sheet.  From a portfolio management perspective it may very well be the case that you already have ample exposure to the mortgage markets.  Arends writes:

Americans already have plenty of indirect exposure to mortgage-backed securities through any banking stocks held in their mutual funds. For that matter, there’s a link between MBS prices, the real estate market, and the value of your home. You probably don’t need to double up.

Joe Weisenthal at Clusterstock also weighs in on the fund.  He is worried that the fund might be marketed as a “patriotic” investment to naive investors.  That point aside, the question is whether the fund can really purchase assets at a reasonable price?

If the firm can acquire assets at real bargain-basement prices (even with the leverage taken into account), then there’s little reason to leave a whole lot of upside to the little guy. In other words, as a retail investor, you should have no good reason to believe that the assets they acquire are actually undervalued in any manner.

Joshua M. Brown at The Reformed Broker notes that the target market for this fund, individual investors, is very interested in yield.  It will be interesting to see just what kind of yield this fund generates and whether it can compete with other offerings.  The bottom line being:

It’s too soon to tell if this fund is worthwhile or if it’s just as poisonous as some of the securities it will hold.  Stewardship will be important, but structure more so.

Speaking of structure the second issue we should note that the fund is that it is structured as a closed-end fund.  (Frankly there really was no other viable option.)  There are two very well-documented facts about closed-end funds that we should note.*  The first is that closed-end funds are sold at a premium to net asset value (NAV).  At the fund’s initial public offering the underwriters compensate brokers selling the fund.  This comes directly out of the fund’s pool of assets.

Second closed-end funds in general trade at a discount to NAV.  While in theory and in practice it is possible to observe closed-end funds trading at a premium, it is a relatively rare occurrence.  There already are publicly traded competitors who are in the business of buying up distressed mortgage assets.  While they do not necessarily have the imprimatur of the government, they are out there.

After a cursory search we found a number of potential competitors, including the newly public PennyMac Mortgage (PMT), the Annaly-affiliated Chimera Investment (CIM) and Invesco Mortgage (IVR).  In addition there are a number of other mortgage REITs in regstration as well.

Given this competition it is unlikely that the Blackrock fund will be so unique that it will generate enough interest to trade at a premium to NAV.  Each analyst cited mentioned a number of unknowns about the fund not least of which the ability of the fund to purchase assets at a profitable discount.  That aside the Blackrock fund may turn out to be a great investment, but it may behoove investors to take a wait-and-see approach.  This due in large part because of the closed-end nature of the fund.  In short, you may very well see the fund trading at a discount in the near future.

No position in any security mentioned.  Nothing mentioned herein should be considered investment advice.

*See Berk and Stanton, “Managerial Ability, Compensation, and the Closed-End Fund Discount,”  Journal of Finance, April 2007; and Malkiel and Xu, “The Persistence and Predictability of Closed-End Fund Discounts,”  SSRN, March 2005.


Daniel Indiviglio at Atlantic Business generally “uncomfortable” providing amateurs the ability to invest in risky mortgage assets.  There are of course different classes of toxic assets and the fund’s performance will depend on the kind of assets held.  That being said the fund’s performance will likely be compared to the stock market.

One other reason to wait to buy a fund like this is the simple fact that it is going to take some time for the fund manager to get the portfolio invested.  Until you know what kind of assets they purchase buying the IPO is a bet on Blackrock as a fund manager.  Again, that might be a good bet, or not.

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