The quarter-billion dollar loss sustained by Merrill Lynch from trading in mortgage-backed securities in the US must be leading some investors just venturing into mortgage-backed bonds in the UK to have doubts about the stability of the market.
The UK market has seen issues of mortgage-backed securities from two of the non-building society providers of mortgages, National Home Loans and the Mortgage Corporation.
Both the issues were piloted into the market by Salomon Brothers, which leads the world in this type of finance. They attracted cautious welcome from institutions, who will no doubt be very happy with their investments following the fall in UK interest rates.
It appears that Merrill Lynch got itself into problems by splitting, or stripping, the interest element from the capital element and offering them as independent packages.
Merrill is reported to have been successful in selling the interest package, but was stuck with the capital bonds as interest rates rose.
So far, London has not taken the step of splitting the two classes of bond.
In the light of Merrill’s problem, which exposed the unbalanced nature of “stripped” bonds, it looks like being a long time before they arrive in the UK.
