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Presenting Our New Scenarios and Optimized Portfolios

- "Our new three-month curve and spread scenarios are dominated by a bullflattener,
positing the economy on a trajectory towards a double dip, and a bearish scenario, steepening sharply at the front end, that figures in improved economic data. The other two, more mild, scenarios are also a bear-steepener and a bull-flattener. With the Fed likely to be on hold for an extended period, the curve is anchored at the front end."
- "We recommend our Maxmin portfolio for the next three months. We project it will outperform the BIG Less Credit Index by 0.06–0.07% across our scenarios. Our solutions take advantage of the steep Treasury curve to garner roll-down return. Recognizing tight spreads and a bias towards wider spreads in our scenarios, our portfolios tend to underweight mortgages."
- "We glean the following themes from the analysis of our new scenarios:
• Duration and Curve. Our optimized portfolios tend towards being long duration. With the curve steep, taking advantage of rolldown is a common theme. To that end, the Maxmin portfolio holds large positions in six- and 30-year Treasuries. Nine- and 3.5-year Treasuries are also popular for garnering roll-down return. Overweights in the 30-year part of the curve take advantage of 10s/30s flattening in three of our four scenarios.
• Spread and Convexity. Our Maxmin and hedged portfolios are short spread duration and avoid negative convexity. The portfolios tend to overweight agencies on a market value and spread duration basis –underweight bullets on a spread duration basis but maximally overweight callables. The solutions underweight mortgages on a market value and spread duration basis.
• Maxmin Portfolio Performance. Our previous recommended portfolio, the Maxmin, trailed the index by 0.12% over the period. Being negatively convex and the rally in rates accounted for most of the underperformance. As expected, carry boosted returns."
Citigroup Bond Portfolio Analysis Quarterly 20100721

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