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Subprime Cheap to Buyers With Long View, Pine River Says

Institutional mortgage-bond buyers consider securities backed by subprime home loans issued during the housing boom as worthwhile investments, Pine River Capital Management LP’s Steve Kuhn said.

“Almost to a person, everyone who’s a serious analyst in this market thinks they are cheap if you can hold the bonds to a three-to-five year horizon,” Kuhn, head of fixed-income trading at the hedge fund, said today in an interview on Bloomberg Television’s “InsideTrack” with Erik Schatzker and Stephanie Ruhle. “The concern is maybe they can get cheaper.”

Bruce Richards of hedge fund Marathon Asset Management LP and mortgage-investment company Ellington Financial LLC, overseen by Michael Vranos’s firm, are also seeing value in the $1.1 trillion market for non-agency U.S. mortgage securities which don’t have government backing, after some of the debt slumped to the lowest in two years. Some types have dropped as much as 40 percent since their highs in the first quarter, Richards said Dec. 1 on Bloomberg Television.

Banks dumping securities to improve their capital ratios and to comply with the so-called Volcker rule restricting the risks brokers can take with their own money have helped roil the market, said Kuhn, whose Minnetonka, Minnesota-based firm oversees $5.4 billion and invests in mortgage debt.

Capital Cushions

Concern that European lenders will off-load more non-agency securities to boost their capital cushions has left the debt stalled even during periods when broader markets post gains, Bank of America Corp. and Barclays Capital analysts said in Dec. 9 reports. Those European banks hold about 169 billion to 249 billion euros ($221 billion to $326 billion) of U.S.-dollar denominated securitized debt, including more than 60 billion euros of residential-mortgage securities, Morgan Stanley analysts estimated last month.

Subprime debt offers yields of 12 percent to 13 percent assuming 80 percent of the underlying borrowers default, with recoveries of 25 percent, Kuhn said.

“At the prices they’re trading now, you do not have to have a pair of rose-colored glasses to think you can do well here,” he said.

Certain originally AAA rated subprime securities issued in 2006 have lost about 21 percent this year, including price declines and coupon payments, after gaining 45 percent last year, according to a Dec. 9 report by JPMorgan Chase & Co.

Returns on some types of senior securities backed by so-called prime-jumbo mortgages ranged from as much as 3 percent to negative 3 percent this year, the report showed. Similar bonds tied to so-called Alt-A loans gained as much as 2 percent to a decline of 5 percent, while notes backed by option adjustable-rate mortgages lost between 3 percent and 6 percent, the data show.

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