About Mortgage Funds

A lower-risk, higher return investment

A mortgage fund is a diversified pool of mortgages that can hold conventional mortgages, including residential, industrial, and commercial, both first and subsequent-security, and CMHC-insured mortgages. The fund might also invest in government bonds or hold cash. The objective of mortgage funds is typically to provide relatively high yields while preserving underlying capital.

Depending on its asset mix, mortgage funds are generally a lower-risk investment than equity funds, and can offer superior, more predictable returns. They provide diversification to traditional equity and fixed income portfolios, and are a means to participate in real estate markets without directly investing in property.

What is the difference between a real estate investment trust (REIT), mortgage investment corporations (MICs), and mortgage fund?
Most REITs are publicly traded shares of a company whose primary business is buying, owning, and managing groups of income-producing properties such as apartment buildings. Income in the form of rent or leases is distributed to investors as dividends.

Mortgage Investment Corporations are similar to mortgage funds, but have additional restrictions with respect to the types of mortgages it can invest in. At least 50% of its assets must be in residential mortgages.

RRSP eligibility and tax treatment
Most mortgage funds are 100% RRSP, RRIF, RESP, and TFSA-eligible. Outside of a registered fund, distributions are received as interest income, which is treated favourably by Canada Revenue Agency compared to income.*

Who should invest in mortgage funds?
Mortgage funds are appropriate for investors seeking higher yields and interest income compared to money market and fixed income investments, and for those who are seeking a consistent stream of income. Most funds are suitable for investors with a low tolerance for risk.

What to consider when investing in a mortgage fund
Before investing in a mortgage fund, the following fund information should be reviewed and evaluated:

·        What is the maximum loan value on any one property?

·        What is the maximum percentage or dollar value that can be invested in any one mortgage?

·        What are the lending guidelines for commercial and industrial mortgages?

·        Where are the mortgages located?

·        Do the managers have personal equity in the fund?

·        How experienced are the managers in originating mortgages?

These details are published in the fund’s Offering Memorandum.

What are the risks of mortgage funds?
The main risks associated with mortgage funds are credit and interest rate risks. Credit refers to the borrowers’ ability to pay and can change with borrower circumstances. Fluctuating interest rates can affect how borrowers repay or refinance their loan. Funds that carry mortgages with shorter terms are less affected by interest rate risk.

The yield of a mortgage fund also depends in part on the fund manager finding quality mortgages that meet the fund’s investment criteria. An experienced lender with an excellent track record, and established relationships with brokers and developers, would be in a better position to originate these mortgages than a less experienced lender.

Finally, investments in mortgages are affected by general economic conditions, local real estate markets, demand for leased space, and fluctuations in occupancy rates, and operating expenses. By their nature, mortgages are relatively illiquid investments. However a fund that invests in short-term mortgages gives the fund managers more flexibility to adjust the fund’s mortgage portfolio in response to market conditions.