Fund Profile & Commentary
30 September 2008
Mortgage Income Fund
Issued by Colonial First State Investments Limited ABN 98 002 348 352, AFSL 232468. The investment information in this option profile is historical, produced as at the date specified above. We may change asset allocation and securities within the option at any time. Past performance is not an indicator of future performance for this option or any other option available from Colonial First State.
3 months (%) Total Distribution Return Growth Return UBS Australian Bank Bill Index 1.77 1.77 0.00 1.93
1 year (%) 6.20 6.20 0.00 7.65
3 years (%) pa 5.84 5.84 0.00 6.69
5 years (%) pa 5.67 5.67 0.00 6.25
7 years (%) pa 5.46 5.46 0.00 5.82
10 years (%) pa -
Inception (%) pa 5.54 5.54 0.00
Returns are calculated on an annualised basis using exit price to exit price with distributions reinvested for investments, net of taxes payable, management but excluding contribution fees, member fees, adviser service fees and individual taxes (if applicable) and plan services fees (For Employer Super only). The ‘distribution’ component represents the amount paid by the way of distribution, including ne realised capital gains.
Investment objective
To provide a consistent monthly income, while minimising the risk of capital loss, by predominantly investing in a broad selection of Australian-based mortgages, fixed interest investments and cash.
Key data
Size of Management Date option ($m) cost* established $912.52m 1.15% Aug 1999
* Management costs include management fees, estimated performance fees (if applicable), investment expenses and custody fees but do not include contribution fees, transaction costs or additional service fees which may also apply. Please refer to the PDS for full details of the applicable fees and costs.
Investment strategy
The fund’s strategy is to invest in a broad selection of Australian-based mortgages, fixed interest investments and cash, placing emphasis on the management of credit risk. The fund does not purchase securities that give rise to material currency risk and
Special information Investment category
Fixed interest and cash 1 2 3 4 5 6 7 Range Cash and fixed interest 0% - 100% Benchmark 100% Important change effective 24 October 2008 Colonial First State has suspended applications, withdrawals and switches relating to this option. We are writing to investors about what this decision means for them. We will continue to make pension payments and pay distributions to investors. Our intention is to process withdrawals on a quarterly basis, from the available cash from the fund.
Minimum suggested time frame
3 years
Investment ranges
8 This decision has nothing to do with the overall underlying strength and 9 quality of the investments held by this option, which are unchanged. 10 Why take this action?
Income distributions
Cents per unit Total 07/08 Total 06/07 5.77 5.72 Franking level 0.00% 0.00% Realised capital gain 0.00% 0.00%
We have been prudently managing the option and, until Friday 24 October 2008, have been well placed to process withdrawals and switches. This situation has changed suddenly as most funds in the market with mortgage investments suspended withdrawals. By suspending this option, we can take a measured approach to processing withdrawals. Colonial First State’s decision has been made in the best interests of investors to ensure all investors are treated fairly. If there is anything you would like to discuss please contact your financial adviser or call us on 13 13 36, Monday to Friday, 8am to 7pm, Sydney time.
Investment Allocation
Allocation Mortgages Mortgage backed securities 80.5% 19.0% Value $734.21m $173.56m
FS1822
Fund Profile & Commentary
30 September 2008
Mortgage Income Fund
The Colonial First State Income option (“Option”) may have a significant exposure to mortgage investments. The following tables and graphs provide a summary of the mortgage fund that the option invests into:
Mortgage split by nature of development What are Mortgage Investments?
Mortgage investments are generally investments with an exposure to a portfolio of mortgages. The investment may be direct or indirect. Industry and regulators have identified and developed a number of benchmarks that apply to unlisted mortgage investments. Information on these benchmarks is set out below. The benchmarks are as follows: Type Construction Improved Industrial Improved Office Improved Residential Improved Retail Pre-development Land Specialised Vacant Land Number of mortgages Value ($m) % of value
5 233 140 53 232 7 9 1
$13.04 $501.21 $515.67 $89.37 $758.31 $37.10 $17.33 $0.97
Construction
0.67% 25.93% 26.68% 4.62% 39.23% 1.92% 0.90% 0.05%
Liquidity
An option uses cash to fund its operations including making loans, meeting withdrawals and paying distributions. If sufficient cash is not available this may affect the ability to meet funding obligations, withdrawals, operational costs and the level of distributions. For the purposes of this benchmark, liquidity is the proportion of cash or cash equivalents held by a fund/option. Generally, we endeavour to manage these types of liquidity risk through the following processes: • adopting liquidity risk measures and profiles including the terms of redemption, changes in market liquidity conditions and funding provided to the fund; • managing the terms of agreements with lenders and investors to best protect the fund’s interests; • applying credit and lending principles and agreements including those terms which will impact funding and the overall risk of the fund including hedging cash flows; • monitoring events which may increase liquidity risk; and • reviewing alternative sources of funding.
1% 2%
0% 1% 26%
Improved Industrial Improved Office
38%
Improved Residential Improved Retail Pre-development Land Specialised
5%
27%
Vacant Land
Mortgage split by type
Type Residential Commercial Industrial Retail Other Number of mortgages Value ($m) % of value
53 140 233 232 22
$89.37 $515.67 $501.21 $758.31 $68.44
4.62% 26.68% 25.93% 39.23% 3.54%
Scheme borrowing
We generally do not borrow on a long term basis but may borrow on a short-term basis for settlement purposes or in unusual or extraordinary circumstances.
3.5%
4.6%
Residential
26.7% 39.2%
Commercial Industrial Retail Other
Portfolio diversification
We aim to ensure that we hold exposure to a sufficiently diversified pool of mortgages to reduce the impact of any one group of mortgage investments on risk or returns. These mortgages are diversified by geographic region and by property type/sector. There are geographic limits (loan security property locations) for each state as a maximum of the total Fund value. In addition there are limits placed on the holdings in each of the various property sectors (ie Industrial, Office, Retail and Residential). The maximum size of any individual loan exposure is to be limited to the lesser of $100m or 10% of the total fund value. We currently do not invest in, nor do we have a policy of investing in, unlisted mortgage schemes operated by other responsible entities. The fund uses interest rate swaps to manage interest rate volatility.
25.9%
Fund Profile & Commentary
30 September 2008
Mortgage Income Fund
Loans where interest has been capitalised
Number of mortgages Value ($m) % of value
Proportion of total loan monies lent
Value ($m) Largest borrower Ten largest borrowers % of value
6
$23.46
1.21%
$69.25 $449.12
3.58% 13.84%
Nature of security for loans
Nature of security First mortgage Second mortgage Other Number of mortgages Value ($m) % of value
Undrawn loan commitments
Nature of security Approved but not advanced Funding commitments in place Number of mortgages Value ($m) % of value
680 0 0
$1,933.00 $0.00 $0.00
100.00% 0.00% 0.00%
2 6
$57.63 $3.06
2.98% 0.16%
Proportion of loans in default or arrears
Duration < 30 days < 30-60 days < 60-90 days 90+ days Number of mortgages Value ($m) % of value
Maturity profile
Time to maturity < 1 year 1 – 2 years 2 – 3 years 3 – 4 years 4 – 5 years > 5 years Number of mortgages Value ($m) % of value
5 3 3 8
$5.95 $25.37 $62.72 $31.42
0.31% 1.31% 0.32% 1.63%
8.7%
102 163 194 150 69 2
$246.42 $497.16 $479.38 $416.33 $293.08 $0.64
12.75% 25.72% 24.80% 21.54% 15.16% 0.03%
< 30 days
15.2%
0%
12.7%
< 1 year 1 – 2 years 2 – 3 years 3 – 4 years 4 – 5 years > 5 years
45.7% 36.7%
< 30-60 days < 60-90 days 90+ days
21.5%
25.7%
9.0%
LVR for loans
LVR 0% – 10% 10% – 20% 20% – 30% 30% – 40% 40% – 50% 50% – 60% 60% – 70% 70% – 80% 80% – 90% 90% – 100%
0% 20.4% 0% 0%
24.8%
Number of mortgages Value ($m) % of value
Mortgage split by geographic region
$0.21 $2.87 $23.38 $89.89 $123.98 $288.40 $1,009.94 $394.34 $0.00 $0.00 0.01% 0.15% 1.21% 4.65% 6.41% 14.92% 52.25% 20.40% 0.00% 0.00%
State NSW Vic Qld WA SA Tas ACT NT
0.9% 2.0% 20.5%
11 9 21 39 70 105 338 87 0 0
0.2% 1.2%
Number of mortgages
Value ($m)
% of value
354 130 175 7 5 4 4 1
0.2% 1.7% 0.1%
$1,080.05 $361.66 $395.68 $39.44 $17.84 $4.36 $32.95 $1.02
NSW Vic Qld WA SA Tas 55.9% ACT NT
55.87% 18.71% 20.47% 2.04% 0.92% 0.23% 1.70% 0.05%
0% – 10% 10% – 20% 20% – 30%
4.7% 6.4% 14.9%
30% – 40% 40% – 50% 50% – 60% 60% – 70% 70% – 80%
18.7%
52.3%
Fund Profile & Commentary
30 September 2008
Mortgage Income Fund
Fixed rate
Interest rate >9.00 8.51-9.00 8.01-8.50 7.51-8.00 7.01-7.50 6.51-7.00 <6.50 Number of mortgages Value ($m) % of value Security properties are valued on the following basis: - ‘as is’ basis – all valuations; - ‘as if complete’ basis for construction loans in addition to the ‘as is’ basis; - ‘vacant possession’ basis for owner occupied properties.
15 14 34 44 86 30 2
Number of mortgages
$31.34 $70.23 $126.08 $104.17 $232.72 $154.22 $27.18
Value ($m)
1.62% 3.63% 6.52% 5.39% 12.04% 7.98% 1.41%
% of value
Lending Principles
We only provide loans which meet the following general criteria: • mandatory registered first mortgage security over real property is held; • borrower has a demonstrated ability to meet loan obligations; • a satisfactory valuation is carried out by one of the qualified and independent Colonial First State panel valuers ; • due diligence review of loan funding proposal inclusive of full financial analysis/assessment, credit reference checks, review of security property valuation/s. On establishment of a new mortgage, the applicable maximum loan-tovaluation ratios (LVRs) will generally apply: - 75% for improved property; - Maximum LVR of 70% will apply for construction type lending (based on lesser of hard cost or end valuation ‘upon completion’); - Maximum 60% for any owner occupied property transactions.
Variable rate
Interest rate >9.00 8.51-9.00 8.01-8.50 7.51-8.00 7.01-7.50 6.51-7.00 <6.50
299 141 15 0 0 0 0
$579.90 $551.81 $55.36 $0.00 $0.00 $0.00 $0.00
30.00% 28.55% 2.86% 0.00% 0.00% 0.00% 0.00%
38.6%
Distribution Practices
Fixed rate Variable rate
61.4%
An investor’s entitlement to distributions will be based on the income which is earned. Our policy is to only distribute income that has been earned. We do not forecast distributions.
Withdrawal Arrangements
Withdrawal requests are generally processed within seven working days. Generally, a further period of up to 60 days is allowed for withdrawals under the managed investment scheme Constitution . In some circumstances the maximum period allowed for withdrawals may be extended for up to a further 28 days. Withdrawal requests made for a non-superannuation or non-pension investment option which is illiquid can only be made in accordance with the Corporations Act. This restricts your ability to withdraw from the managed investment scheme option. If the option becomes illiquid we will inform you in writing. An option may experience difficulty in selling an asset for cash without an adverse impact on the price received. This risk may particularly affect your ability to withdraw your investment from a fund/option that has significant investments in mortgages. Where a fund or option is suspended, restricted or terminated we may not process withdrawal requests and your regular withdrawal plan from this fund or option will stop. Any decisions whether to process withdrawals or partial withdrawals will be made in the best interests of investors as a whole, and if any payment is to be made, then the exit price used to calculate this payment will be the one determined at the time payment is made.
Related Party Transactions
We may be involved in related party transactions. Any related party transactions are completed on an arms length basis and are assessed against the market to ensure that they are completed on commercial terms. We may put in place arm’s length commercial arrangements with major banks or financial institutions to purchase mortgage assets from us.
Valuation Policy
We use a panel of external valuers to provide sworn valuations over security property. Appointment to the panel is subject to defined primary criteria based upon minimum qualifications, experience, references, minimum professional indemnity insurance cover etc. Valuations are dated no longer than three months prior to the advance of any loan funds. We aim to spread the valuations between valuers dependent upon location and specialty of the valuer/firm (e.g. large retail). When mortgages are renewed we prefer to rotate the valuer if possible so that consecutive valuations are not obtained from the same valuer. Sworn property valuations from panel valuers are instructed (under comprehensive defined formal instruction) and obtained at the inception of each loan (dated within three months at the date of funds being advanced) and again when each loan is assessed at the time of loan term expiry/renewal. Outside of these times, if we consider it warranted, we obtain additional valuations which would normally be at the expense of the borrower.
Credit Risk
Mortgage investments are also exposed to credit risk. This is the risk that a party to a credit transaction fails to meet its obligations such as when a borrower defaults in payment under a mortgage, mortgage backed security or a fixed interest security. Further information to help you understand credit risk and mortgage investment risk is outlined in the Understanding Investment Risk section in Part 1 of the PDS.
Fund Profile & Commentary
30 September 2008
Mortgage Income
Market Review
Key economic data released in Australia during the September quarter indicated that in the 12 months to June 2008 inflation had moved up to 4.5% while economic growth had slowed from 4.2% to 2.7%. This prompted the Reserve Bank of Australia (RBA) to reduce interest rates from 7.25% to 7%, and they were subsequently reduced to 6% in October. The RBA is forecasting that inflation will fall below 3% during 2010 despite firm commodity prices, job growth, wages growth, tax cuts and infrastructure spending. It believes that high interest rates, weak home lending, lower retail spending and the global financial crisis could slow demand. Consequently, the market is expecting more rate cuts. The sub-prime inspired credit crisis is still negatively affecting short-term borrowing. Lenders remain wary about parting with their cash, and continue to demand higher interest rates than six or nine months ago. Term deposits and other domestic bank accounts are insufficient to provide Australia’s banks with the quantity of money they need to meet their lending requirements. Consequently, they have to raise money via offshore borrowing, and offshore rates have increased dramatically due to the credit crisis. In offshore markets, inflation concerns gave way to heightened worries about global economic growth. Early in October, the US, UK and European central banks all cut rates by 0.5% in a coordinated global action.
Fund performance and outlook
Recent returns have been negatively affected by the financial market volatility. Since the beginning of the year there has been a quite dramatic tightening in the property lending market, which has led to falls in the market value of mortgage-backed securities. Nevertheless, the investments continue to earn stable, reliable interest income. The current interest rates on mortgage and mortgage-backed securities have risen to their highest levels since 1995, and are currently averaging around 8% pa. This should mean that clients can expect a higher level of income in the future, which will more than compensate them for any short term capital losses. These capital losses are temporary as at maturity the principal of each bond will be repaid in full. Furthermore, any new inflows into the fund will be used to buy new securities that deliver higher interest, adding to future returns for the fund. The large mortgage portfolio comprises 680 individual loans for a total of $1.9 billion and remains highly diversified across the following sectors: o o o o o o o o Industrial Office Residential Retail Construction Pre-development Land Specialised Vacant Land 25.93% 26.68% 4.62% 39.23% 0.67% 1.92% 0.90% 0.05%
Currently 39% of the Fund’s mortgages are at a fixed rate with 61% variable. To achieve our objective of low volatility all fixed rate loans are swapped out to floating rates.
.
This document provides general advice only and is not personal advice. It does not take into account your individual objectives, financial situation or needs. Product Disclosure Statements (PDSs) for all Colonial First State products are available at colonialfirststate.com.au or by contacting Investor Services on 13 13 36 or from your financial adviser. You should read the relevant PDS and assess whether the information in it is appropriate for you, and consider talking to a financial adviser before making an investment decision. Commonwealth Bank of Australia and its subsidiaries do not guarantee the performance of Colonial First State’s products or the repayment of capital by the products. Investments in these products are not deposits or other liabilities of the Commonwealth Bank of Australia or its subsidiaries and investment type products are subject to investment risk including loss of income and capital invested. Information used in this publication, which is taken from sources other than Colonial First State is believed to be accurate. Information provided by the Investment Manager are views of the Investment Manager only and can be subject to change. Subject to any contrary provision in any applicable law, neither Colonial First State nor any of its related parties, their employees or directors, provides any warranty of accuracy or reliability in relation to such information or accept any liability to any person who relies on it.