Bill Armstrong, portfolio manager at Principal Global Investors in Des Moines, Iowa, will swap $504 million, or 7% of the firm's portfolio, from Treasuries and agencies into corporates. He will reduce exposure to Treasuries and agencies by 4% and 3%, respectively. The move will be triggered by a military showdown with Iraq, he says, as the initial reaction to this geopolitical event will be a flight to quality, causing both Treasury and agency bond prices to rally and leading the 10-year Treasury yield to drop to 3.75%. Last Monday, the 10-year Treasury yielded 4%.
Armstrong reasons that later on this year, corporate spreads will tighten due to the economic recovery and the reduction of geopolitical tensions. He will replace five- to 10-year Treasuries with corporates of the same maturity to reduce duration as he expects the yield curve to flatten over the course of the year.
Armstrong declined to name specific corporate bonds. But, he says he likes domestic banks, as a sector, because consumers and corporations will be paying off their debt when the economy recovers, which will reduce risk exposure for banks. In addition, banks such as Citibank or Bank of America have well diversified lines of business and manage their risk well. Armstrong also likes energy. He says the recent rise in the price of oil is a factor of growth for oil companies as it provides cash flow and profitability.
Armstrong manages a $7.2 billion portfolio. He allocates 37% to residential mortgage-backed securities, 30% to corporates, 12% to Treasuries, 9% to agencies, 5% to commercial mortgage-backed securities, 5% to asset-backed securities and 2% to cash. The fund is neutral its bogey, the 3.85-year Lehman Brothers aggregate index.
