Bonnie Mitra, portfolio manager at AMR Investment Services, will rotate 8% of the firm's portfolio, or $400 million, from mortgage-backed securities into an equal mix of agencies and high-quality corporates. The move, not triggered by any particular event, is a defensive play in anticipation of rising interest rates that adversely affects extension-risk sensitive MBS, says Mitra. He predicts higher interest rates by year-end as a result of an economic recovery stimulated by a fiscal package. He also sees an end to the Treasury rally once the uncertainty over a war with Iraq is lifted and the conflict resolved. By the end of the year, the 10-year Treasury yield will increase to a 4.5-5% range, he predicts. Last Monday, the 10-year Treasury yielded 3.95%.
Mitra will sell lower-coupon MBS first, given their longer duration versus higher coupon counterparts. As an example, he will liquidateFannie Mae and Freddie Mac 15-year 5% coupons or 30-year 5.87% coupon bonds. He will hold on to pass-throughs guaranteed by Ginnie Mae, however, which tend to pre-pay less due to the smaller size of the loans backing them.
With the proceeds, Mitra will buy a mix of very short-term double-A rated corporates and 18-month term agency bonds. The mix will allow the firm to keep duration to its seven-month current level. Mitra says he will buy financial sector credits as there is ample supply in this sector to fit his double-A criteria. He cites Citicorp (Aa2/A+), Wachovia Bank (Aa2/A+), Bank of America (Aa1/AA-) or Wells Fargo (Aa1/AA-), as likely purchases. He will be particularly interested in buying floating bank corporate notes indexed to three-month LIBOR, which the reset protects against interest rate risk. The 18-months agencies he plans on buying will only have interest rate risk exposure to six months, he says, as he does not foresee the Federal Reserve increasing rates before January of next year.
Based in Dallas, Mitra manages a $5 billion portfolio. He allocates 55% to corporates, 25% to agencies, 18% to MBS and 2% to cash. The firm uses both the six-month Treasury bill and the Lipper ultra-short fund index, which has a nine-month duration, as its benchmarks.
