Passport Capital LLC, the $3 billion San Francisco-based hedge-fund firm run by John Burbank, sold its entire portfolio of mortgage debt backed by the U.S. government in the second quarter, according to a letter to investors obtained by Bloomberg News.
“When we recognized prospects in the agency space had changed, we cut risk,” Passport wrote in the July 31 letter, referring to mortgage securities backed by Fannie Mae, Freddie Mac or Ginnie Mae. The firm retained its holdings of home-loan bonds without government backing, “viewing the prospects there as brighter.”
Hedge funds focused on agency mortgage debt have been roiled since May by lower prices caused partly by signals that the Federal Reserve may soon pare its bond-buying program. Securities known as interest only and inverse IO notes, debt that typically outperforms when interest rates rise, also suffered amid speculation that a potential new overseer for Fannie Mae (FNMA:US) and Freddie Mac could expand the federal Home Affordable Refinance Program.
Passport sold the agency debt in its $162 million M1 fund, a mortgage strategy run by Jeff Kong and Raphael Gonzalez, and in its $1.2 billion Passport Global Fund, which allocates to M1 and is run by Burbank, according to a person familiar with the matter.
During the three months ended June 30, Passport bet against certain real estate investment trusts that buy mortgage debt by using options and equity, the firm said in the letter. Passport largely exited the positions at a profit in early July, which offset some losses in agency securities, according to the letter. Shares of Mortgage REITs, which use borrowed money to invest in home-loan debt, have dropped in the past three months as the falling values of their holdings, amplified by leverage, prompted investors to sell.
Pine River Capital Management LP, whose bets on U.S. home-loan bonds fueled the second-best hedge-fund performance last year, has also bet against some mortgage REITs while wagering on others, Steve Kuhn, the firm’s fixed-income trading head, said last month. Pine River bought shares of mortgage REITs including two run by ex-Freddie Mac portfolio chief Gary Kain, Kuhn said at the time.
Passport Global Fund rose 10 percent this year through June and 19 percent on an annualized basis since inception in August 2000, according to the letter.
Passport had net redemptions of $768 million in the second quarter, the firm wrote in the letter. The withdrawals came after an unidentified sovereign wealth fund shifted its investment strategy and reduced its allocation to Passport in a separate account, according to a person familiar with the matter.
Katrina Allen, a spokeswoman for Passport, declined to comment on the letter.
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