Covestor manager Lucas Krupinski is shorting U.S. Government debt (ZROZ)

Editor’s note: As of 9/20/11 Lucas Krupinski no longer manages a Covestor model

Covestor model manager Lucas Krupinski works full time in the field of trusts and estates. A number of years ago he became more interested in investment management, so after a bit of self-directed study he formed a state-registered (Florida) investment advisory firm. He describes the first stage in his investment approach:

I read newspaper articles and reputable finance websites to get ideas. I go through company balance sheets and income statements thoroughly, and if anything catches my interest I make determinations from there.

Krupinski manages Covestor’s Small Cap Fundamentals portfolio which

[s]eeks to generate returns through various methods including holding long term positions, trading around short term positions and seeking exposure to investments that generate current income.  Preference given to smaller cap issues, but is not constrained to any set of investments or methodologies.

On April 19, Krupinski shorted the PIMCO 25 Year Zero Coupon US Treasury Index Fund ETF (NYSE: ZROZ). Krupinski recently noted in his monthly commentary:

PIMCO 25+ year Zero Coupon Treasury ETF (NYSE: ZROZ) is a perennial short favorite. I’m making a political statement about debts and deficits, but I don’t think the world will continue to loan us money at 4.5% to 5% for 30 years at a time. As QE2 ends, I can’t help but think that longer term interest rates are in for a steady march upward.

Standard & Poors recently shocked the market by putting United States’ government debt on a ratings watch for a potential downgrade. Paul Ashworth, chief US economist at Capital Economics, said this in the Financial Times:

“Given the size of the US Federal deficit, which will be close to 10 per cent of GDP this year, and the daunting medium-term fiscal challenges, it is hard to argue with S&P’s decision,” he says.

“However, if the rising risk of a downgrade gives the fiscal austerity debate a greater sense of urgency, then it might even turn out to be a positive development.

“In theory, a ratings downgrade would boost the Treasury’s borrowing costs. However, the link is not mechanical. In particular, the downward pressure on borrowing costs from the weak economic and financial environment in which a downgrade takes place could be the biggest factor, as it was in Japan.

“We still expect the 10-year Treasury yield to drop back to 2.5 per cent by year-end, from around 3.35 per cent now.”

Tim Geithner, US Treasury Secretary gives little weight to S&P’s decision, despite the country’s fiscal challenges as he believes a deal is close to being reached:

Mr Geithner said there was “no risk” that the US’s triple A credit rating would be downgraded, in contrast to S&P’s assessment in a note on Monday that implied a one-in-three chance of a downgrade as it switched the outlook for the country’s debt from “stable” to “negative”.

“I think if you listen carefully, the prospects of [a deal] are better today than they’ve been in a long period of time, because people are saying that this is important to do for the economy and we have to start now,” he said.

Mr Geithner’s message was buoyed by Tokyo’s reaction to the S&P move, with a senior official in Japan – the second largest foreign holder of US sovereign debt – saying Treasuries remained “attractive”.

The Chinese government, the top foreign holder of US debt, said: “We hope the US government will take responsible policies and measures to safeguard investors’ interests.”

Sources:

“Will S&P’s move have longer-term US impact?” Dave Shellock. Financial Times, 4/20. http://www.ft.com/cms/s/0/c5db3542-6b5d-11e0-9be1-00144feab49a.html#axzz1K7dhaAeB

“Obama fights back against S&P move” James Politi. Financial Times, 4/19. http://www.ft.com/cms/s/0/2c7dce08-6ab0-11e0-80a1-00144feab49a.html