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Most of the damage from the mortgage-backed securities crisis has occurred behind closed doors. An exception is Queen’s Walk Investment, a London-listed vehicle, now the subject of an excruciating public post-mortem. The entrails look scary but also suggest that other funds, without the constraints imposed by being quoted, may be worse off.
Queen’s, managed by Cheyne Capital and floated in late 2005, invested in the riskier tranches of securitised US, UK and European mortgages. In early 2006, the shares traded at a premium of more than 25 per cent to net asset value of about €500m, reflecting the superficially attractive 13 per cent gross yield of the vehicle’s assets. By this week, losses in the UK and US had cut NAV by 27 per cent from December’s level.
What went wrong? Leverage was embedded both in the securities and at the vehicle level. That meant, roughly, a 1 per cent move in a mortgage portfolio’s value would cause a 30-40 per cent hit to equity. Asset quality was poor and bizarre: in the UK, perhaps a fifth of NAV derived from expected charges on people who paid off mortgages early.
Yet the picture could have been worse. US subprime was only about a fifth of assets at the peak. Nor was Queen’s much exposed to the riskiest mortgages originated in 2006. As a quoted entity, its NAV calculations, largely based on models rather than observed prices, faced some external scrutiny – although the discount the shares now trade at relative to NAV suggests market scepticism.
Being publicly listed also gave Queen’s “permanent capital”. There was no vicious circle of declining values, leading to client redemptions, leading to forced asset sales. And gearing at the vehicle level, at one-third of assets at its peak, was low. Incredibly, Queen’s Walk has almost certainly been more cautious than many unquoted peers.
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