Today (Thursday) Franklin Templeton Investment Services launches a W350 billion ($270 million) fund seeded entirely by the Korean Development Bank (KDB) that will invest in domestic high-yield debt in a bid to jolt the secondary market to life. Good Morning Securities is the fund's distributor.
Franklin Templeton approached KDB about three months ago to propose the fund, says Kim Dong-il, Franklin Templeton's head of fixed income. The government-owned policy bank has helped underwrite debt for much of corporate Korea and its bottom line has become a deep hole in tandem with the increase of domestic bankruptcies. Because the Republic has no secondary market to speak of, KDB has been saddled with unwanted high yield paper.
On the other side of the coin, institutional investors such as domestic life insurance companies face a different problem: insufficient asset returns. Kim says that, on average, many large insurers have long-term liabilities of 7.5% to policy holders, but nothing in the Korean investment world is currently providing a return above 7%. Before the Asian crisis, on the other hand, domestic interest rates were high and some short-term fixed-income investments yielded up to 17%.
Since then, and especially in the wake of last week's terrorist attacks, interest rates have fallen. The central bank yesterday just cut another 50 basis points, bringing interest rates down to 4.67%, an all-time low. So institutions are now desperate for an investment with some kind of pick-up.
The Templeton fund, however, is not leaping into high yield full on. It will also invest on behalf of KDB in equities and a range of fixed-income instruments, from bonds rated triple-A to single-A. But the bulk will be in debt, with a W50 billion cap on the equities portion.
Kim says the key to making the fund work will be good research finding those companies that have good prospects but are tagged with the same ratings as the dogs. "If we can reduce the default rate in our portfolio below the market average, we will outperform," he says.
The KDB fund is closed for three years, although it will hold any securities it is unable to liquidate at that time until they mature. The management fee is 30 basis points, low by international standards but average for Korea. Franklin Templeton hopes if this fund is a success, it will be able to market similar ones to its clients.