Volatile markets and low interest rates have investors looking for relative stability and income. While GNMAs may help those seeking these traits, many are understandably confused about what GNMAs are and what role they could play in a portfolio.
- Demystifying GNMA bonds: A brief look at the Government National Mortgage Association and the risk-return profile of their securities
- Event risk mitigation: GNMAs have a solid, long-term track record when equity and credit market volatility rises
- Refinancing can be a risk and an opportunity: How active management of a GNMA strategy can mitigate and even capitalize on refinancing risk
- GNMA as a complement: Pairing an actively managed GNMA strategy with a short-term bond approach
- Knowing the risks: How various rate environments and mortgage-market dynamics can impact GNMA’s performance
- Voya’s approach to managing GNMAs: Intense focus on selection and diversification
Demystifying GNMA bonds
GNMA bonds are any privately issued mortgage-backed securities guaranteed by the Government National Mortgage Association (GNMA, also known as “Ginnie Mae”) to have timely repayment of principal and interest. GNMA is a wholly owned government agency established in 1968 to guarantee mortgage-backed securities for single-family and multi-family loans insured by various government agencies. GNMA bonds are the only mortgage-backed securities that enjoy the full faith and credit of the United States government.
Investors seeking relative safety typically consider U.S. Treasuries or Money Market funds, or maybe even cash under the mattress as their go-to. Unfortunately, the income offered by these approaches—especially from the mattress-stuffing strategy—is close to zero because interest rates are currently near historic lows. But while GNMA-backed mortgage bonds are guaranteed by the U.S. government, they can offer extra yield at the same time (Figure 1).
Figure 1. With the Right Manager at the Helm, a GNMA Strategy Can Offer Attractive Yield Over Treasuries With a Similar Risk Profile.
GNMAs as an anchor during market events
With equity market volatility now the norm and not the anomaly, GNMA’s potential to deliver risk mitigation and yield through a multitude of market environments could help clients navigate the uncertainties ahead.
Since 1990, GNMA bonds have achieved positive returns in every calendar year when equities were negative, not to mention the peak-to-trough periods for both the 2008 financial crisis and COVID-19 market dislocation. Few, if any “low-risk” bond sectors have delivered this protection historically, including short-term bond strategies.
But a bond sector and strategy are only as good as the manager at the helm. Consider:
- Since January 2000, the S&P 500 has posted 25 negative quarters—the Voya GNMA Income Fund has posted positive returns in 22 of those 25 periods when the S&P 500 was down.
- During these periods, Voya GNMA Income also outperformed many of the ultrashort and short-term bond funds that investors rely on for downside protection.
- In fact, during extreme periods of volatility—like the 2008 crisis and the recent COVID-19 dislocation—ultrashort and short-term strategies, which often include more credit risk than investors realize, experienced returns, while Voya GNMA posted positive returns (Figure 2).
Figure 2. GNMA has outperformed when equities and credit decline
Refinancing can be a risk…and an opportunity
Perhaps the best, yet least appreciated feature of GNMA funds is the amortization of mortgage principal. This allows actively managed GNMA funds to potentially take advantage of rising rates, something most fixed-rate bond funds cannot do. For example, if an investor owns a typical bond fund and rates rise, the manager must sell the lower-yielding bonds at market value-sometimes at a loss-in order to take advantage of a higher-yielding instrument. However, GNMAs can benefit from amortization of monthly principal because when homebuyers make their mortgage payments, some of the proceeds go to interest and some go to principal; meaning that GNMA fund managers receive principal back on a frequent basis, and can redeploy the capital potentially to higher-yielding GNMA mortgages.
Complement your low-risk allocation with Voya GNMA Income
Investors often rely on short-term bond strategies to provide downside protection during periods of extreme market volatility. However, during both the Great Financial Crisis of 2008 and the recent COVID-19 dislocation, short-term bonds posted negative returns, adding to investors’ overall portfolio drawdown (Figure 3).
Figure 3. Pairing Voya’s GNMA Fund with a short-term bond strategy can better insulate a portfolio against interest rate and credit risk
The complement is in the differences:
Short-term bond features
- Short duration provides protection from rates
- Viewed as high quality/safe
- Typically multi-sector portfolios, underweight risk-free assets
- Provide competitive income
Risk mitigated = Duration
Risk taken = Credit
- Duration profile fluctuates, currently very low
- 100% AAA - rated bonds
- Single sector exposure, backed by US government entities
- Provide competitive income
Risk mitigated = Credit
Risk taken = Prepayment
Knowing the risks; knowing your manager
While refinancings can present opportunities for GNMAs and they can manage well during periods of shifting interest rate, these dynamics are not without their risks, giving the fixed coupon structure of the asset class. Indeed, these risks, among others, are why GNMAs offer premiums over Treasuries. If mortgage rates fall, some homeowners will refinance; as those mortgages are paid off early and GNMA managers get the principal back, they must reinvest in new mortgages—potentially at lower rates given the rate environment—which can decrease yields.
Rising interest rates can be a risk, too. But the degree to which depends on the GNMA strategy and the manager at the helm… and the velocity of the rate movement (Figure 4):
Figure 4. While rising rates pose a risk to GNMA funds, the asset class has generally adapted well in past periods of rising rates
When rates rise, prepayments may slow, causing duration and interest rate sensitivity to increase, which may cause price declines. But an actively managed GNMA strategy led by a highly experienced team can respond to shifting rates, helping to further insulate investors from prevailing interest rate volatility.
With more than a 30-year track record, the Voya GNMA Income Fund strategy is designed to harmonize a wide array of top-down and bottom-up inputs, both fundamental and technical.
The Voya GNMA Income Fund team relies on a highly seasoned and nimble process that relies on security selection to help stay ahead of prepayment risk trends.
1 The Adviser has contractually agreed to limit expenses of the Fund. This expense limitation agreement excludes interest, taxes, investment-related costs, leverage expenses, and extraordinary expenses and may be subject to possible recoupment. Please see the Fund’s prospectus for more information. The expense limits will continue through at least 2021-08-01. Expenses are being waived to the contractual cap.
2 Includes maximum 2.50% sales charge.
3 Class R6 Inception 07/31/2020. Historical performance shown for Class R6 shares reflects the historical performance of Class I shares for those periods prior to the inception date of Class R6 (represented by italicized text). Historical performance of Class R6 shares likely would have been different based on difference in share class expense ratios.
4 Bloomberg Barclays U.S. GNMA Index
Past performance does not guarantee future results. Current performance may be lower or higher than the performance information shown. The Investment return and principal value of an investment in the portfolio will fluctuate, so that your shares, when redeemed, may be worth more or less than their original cost. For performance information current to the most recent month-end, please visit, www.voyainvestments.com.
Total investment return at net asset value has been calculated assuming a purchase at net asset value at the beginning of the period and a sale at net asset value at the end of the period; and assumes reinvestment of dividends, capital gain distributions and return of capital distributions/allocations, if any, in accordance with the provisions of the dividend reinvestment plan. Net asset value equals total Fund assets net of Fund expenses such as operating costs and management fees. Total investment return at net asset value is not annualized for periods less than one year. Performance does not account for taxes. Returns for the other share classes vary due to different charges and expenses.
An investor should consider the investment objectives, risks, charges and expenses of the Fund(s) carefully before investing. For a free copy of the Fund’s prospectus, or summary prospectus, which contains this and other information, visit us at www.voyainvestments.com or call (800) 992-0180. Please read the prospectus carefully before investing. prospectus, which contains this and other information, visit us at www.voyainvestments.com or call (800) 992-0180. Please read the prospectus carefully before investing.
The S&P 500 Index is a gauge of the U.S. stock market, which includes 500 leading companies in major industries of the U.S. economy. The Bloomberg Barclays U.S. Aggregate Bond Index is composed of U.S. securities in Treasury, Government-related, Corporate and Securitized sectors that are of investment-grade quality or better, have at least one year to maturity, and have an outstanding par value of at least $250 million. The Bloomberg Barclays U.S. Corporate Bond Index is the component of the Bloomberg Barclays U.S. Aggregate Index that comprises? OR consists of? OR is composed of? U.S. investment-grade corporate bonds. The Bloomberg Barclays U.S. Government/Credit 1–3 Year Bond Index is comprised of U.S. Treasury, Agency and corporate bonds with maturities at least one and not more than three years. The Bloomberg Barclays U.S. GNMA Index is comprised of U.S. mortgage-backed pass-through securities, which carry the full faith and credit guaranty of the U.S. government through the Government National Mortgage Association (“GNMA” or “Ginnie Mae”). The Credit Suisse Leveraged Loan Index represents tradable, senior secured U.S. dollar-denominated below-investment-grade loans. All loans are funded-term loans with a tenor of at least one year and are made by issuers domiciled in developed countries.
US Short-Term Bond Category: Short-term bond portfolios invest primarily in corporate and other investment-grade U.S. fixed-income issues and have durations of one to 3.5 years (or, if duration is unavailable, average effective maturities of one to four years). These portfolios are attractive to fairly conservative investors because they are less sensitive to interest rates than portfolios with longer durations. US Ultrashort Bond Category: Ultrashort bond portfolios invest primarily in investment-grade U.S. fixed-income issues and have durations typically of less than one year. This category can include corporate or government ultrashort bond portfolios, but it excludes international, convertible, multisector, and high-yield bond portfolios. Because of their focus on bonds with very short durations, these portfolios offer minimal interest-rate sensitivity and therefore, low risk and total return potential. Morningstar calculates monthly breakpoints using the effective duration of the Morningstar Core Bond Index in determining duration assignment. Ultrashort is defined as 25% of the three-year average effective duration of the MCBI.
Investment Risks: All investing involves risks of fluctuating prices, and the uncertainties of rates of return and yield inherent in investing. As interest rates rise, bond prices fall, reducing the value of the Fund’s share price. To the extent that the Fund invests in asset-backed, mortgage-backed or mortgage-related securities, its exposure to prepayment and extension risks may be greater than investments in other fixed-income securities. While the Fund invests in securities guaranteed by the U.S. government as to timely payments of interest and principal, the Fund shares are not insured or guaranteed. Other risks of the Fund include but are not limited to: Credit Risks, Extension Risks, Other Investment Companies’ Risks, Prepayment Risks, U.S. Government Securities and Obligations Risks and Securities Lending Risks. Investors should consult the Fund’s Prospectus and Statement of Additional Information for a more detailed discussion of the Fund’s risks. An investment in the Fund is not a bank deposit and is not insured by the Federal Deposit Insurance Corporation, the Federal Reserve Board or any other government agency.
Duration is the weighted measure of the length of time the bond will pay out. The SEC 30-Day Subsidized Yield (%) highlighted in the disclosure in Figure 1 is a standardized yield calculation created by the SEC that reflects the income earned during a 30-day period, after the deduction of the fund’s net expenses (net of any expense waivers or reimbursements). SEC 30-Day Unsubsidized Yield (%) a standardized yield calculation created by the SEC, it reflects the income earned during a 30-day period, after the deduction of the fund’s gross expenses. Negative 30- Day SEC Yield results when accrued expenses of the past 30 days exceed the income collected during the past 30 days.
For financial professional use only. Not for inspection by, distribution or quotation to, the general public.