APS Asset Management has been swapping out of Treasuries and agencies and into low investment-grade corporates, which currently show spreads far above historical norms. Chris Caputo, head of a $300 million taxable fixed-income portfolio, points in particular to spreads on the intermediate-maturity paper of such retailers as J.C. Penney (Baa3/BBB-) and Sears Roebuck (A3/A-), which at one point late last year were 600 to 1,000 basis points over Treasuries. Even today, he says, they trade at 90-120 basis points over the curve, roughly double their historical average. "They're screaming to be bought," he says.
The firm is focusing on the five- to seven-year year area, in part because clients require intermediate maturities, but also because that maturity range is the cheapest, owing to the shape of the curve, Caputo says. He has already boosted his corporate allocation from 30% to 50% of the portfolio, and will continue to purchase corporates, $500,000 to several million dollars at a time, until spreads return to normal levels. He has been selling Treasuries and agencies in part to retain his MBS holdings, much of which are discounted and have thus been paying him back at par as they pre pay.
Caputo expects 50-75 basis points of easing from the Federal Reserve in the coming months, on the view that the economy has slowed but hasn't stopped. December new orders for durable goods rose when many expected them to fall, and the stock market, after falling toward the end of 2000, has held steady so far this year, he notes. The remainder of the Austin, Texas-based firm's portfolio is allocated 30% to MBS and 10% each to Treasuries and agencies. Duration is neutral the portfolio's primary benchmark, the 3.42-year Lehman Brothers Intermediate Government/Credit Index.