First Source Corp. recently added to its U.S. agency allocation by 3-5%, or $18-30 million, raising money for the purchase by selling Treasuries and using cash from mortgage prepayments. The bulk of the purchases were 15-year callable debentures. Paul Gifford, portfolio manager of $600 million in taxable fixed-income, says the firm made the trades to increase its income, because callable agencies trade at a considerable spread to Treasuries. He did not reinvest in mortgage-backed securities because he wanted the guaranteed call protection that agencies provide.
Now that it has built up its callable agency allocation, First Source will reinvest in the mortgage market as future MBS pay down, buying pass-throughs and collateralized mortgage obligations with 5% to 5.5% coupons. Gifford says the firm will not buy lower coupons due to possible extension risk as prepayments slow. First Source has an additional $50-60 million in mortgage pass-throughs and collateralized mortgage obligations in various stages of prepayment.
At a duration of 3.3 years, the South Bend, Ind., money manager is short its bogey, the 3.7-year Lehman Brothers Intermediate Government/Credit Index. First Source allocates 30% to Treasuries, 30% to agencies, 27% to corporates, 10% to MBS and 3% to asset-backed securities.
