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Baltimore Firm To Add Spread Product

Cavanaugh Capital Management is looking to swap 13% of its portfolio, or $43 million, out of government securities and into mortgage-backed securities, corporates and taxable municipals. Jim Dugan, manager of a $334 million taxable fixed-income portfolio, says the firm wants to pick up additional yield as the economy gains steam. Dugan planned to begin the trades last week, and continue over the next two weeks. He says Cavanaugh will look to sell seven- to 10-year maturities to buy in the three- to five-year range because the steepness of the curve at the short-end will allow him to gain additional yield while reducing duration risk. He says he is not waiting for further signs of economic stability to make the trade, but only to find the product he is looking for.

Of the $43 million, Dugan wants to add some $22-26 million to 15-year well-structured PACs with 6% coupons to reduce extension risk. Dugan says he prefers a current to slight premium because he is not convinced the recovery will be robust, and he wants to guard against prepayments if interest rates spike upward.

With the additional money, Cavanaugh will buy corporates, taxable municipals or both, depending upon what looks attractive at the time. With regard to corporates, the firm will look only at single-A issues.

At a duration of 4.0 years, Cavanaugh is short its bogey, the 4.65-year Lehman Brothers aggregate index. It allocates 28% of its assets to taxable municipals, 22% to MBS, 20% to U.S. agencies, 13% to Treasuries, 8% to cash, 7% to corporates and 2% to asset-backed securities.

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