Principal Capital Management is considering bringing its MBS allocation up to an index-weighting of 35%, from its current underweight of 28%, a move that would add up to $320 million. Portfolio manager Lisa Stange, part of a team that manages a $4 billion "core-plus" portfolio, says a decision will be made when the April prepayment figures are released. She argues that once the figures are out in the latter part of May, a majority of eligible homeowners will have refinanced their mortgages, thus normalizing prepayment speeds. With the refi wave cresting, this will improve the technical situation in the current coupon sectors. She declines to speculate on what paper she would buy to bring her allocation up to a market weighting.
Stange has also been buying corporate paper, especially in the utility and telecom sectors, on the view that the market has over-reacted to recent events in both arenas. She sees the utility sector as an example where the market has oversold numerous credits because of fears related to the situation in California, as well as concern about excessive deregulation. An example of her strategy here is the recent purchase in the primary market of the 6.75% Kinder-Morgan senior unsecured notes of '11 (Baa1/A-) at 188 basis points off the 10-year. She is comfortable with the position because the company is in the natural gas pipeline business, and has absolutely nothing to do with regional utility problems.
In the telecom sector, Stange has added a position in the 7.25% Qwest Capital Funding notes of '11 (Baa1/BBB+), at 220 basis points from Treasuries. Unlike many similarly rated credits, this paper has lagged the broader corporate rally, given the supply of telecom paper that's hit the market over the past several weeks. Still, she says that its spread level more than compensates for the sector's excessive volatility. Another credit Stange has added is the 5.80% GMAC notes of '03 (A2/A). The basis for this trade was a comparison between this paper, at 138 basis points off the two-year note, and similar duration ABS, which was trading at 75 off the curve. Given her comfort with GMAC's credit profile, she reasons that she is picking up 60 basis points in spread without sacrificing liquidity or safety.
The Des-Moines based fund has an asset allocation of 45% corporates, 28% MBS, 10% Treasuries, 5% CMBS, 5% ABS, 4% agencies and 3% cash. The fund is neutral in duration to its benchmark, the Lehman Brothers Aggregate, at 4.53 years.
