Making a Killing in Mortgages
TCW’s chief investment officer, Jeffrey Gundlach, sees opportunities in the mortgage mess fallout
by Christopher Palmeri
BW Magazine
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linkedin connections As chief investment officer for money management firm TCW, Jeffrey Gundlach presides over some $127 billion in assets. But it is the mortgage market where Gundlach spends most of his time, and where he has been reaping big profits lately. His $1.8 billion TCW Strategic Mortgage-Backed Securities portfolio, which he manages on behalf of institutional investors, returned 23% for the year ending in June. It was a great performance for any manager, but a particularly strong showing for someone investing in one of the most turbulent sectors of the markets.
A main source of that gain: a smart play in securities backed by Fannie Mae (FNM) and Freddie Mac (FRE). Last year, Gundlach stocked up on longer-term bonds issued by the government-sponsored enterprises. “We bought securities positioned for the Federal Reserve to cut rates, that had no credit risk,” he says. In June 2007, Gundlach publicly aired his concerns about the mortgage market. At a Morningstar (MORN) investment conference, he stood up to call the subprime mortgage market “a total unmitigated disaster.”
Gundlach still sees rough times ahead. While the mortgage market rose on the news that the government was taking over Fannie Mae and Freddie Mac, he thinks the bigger issue is that “there are many troubled institutions that probably won’t get a bailout. There are many that, if they had to mark investments to market, would likely be insolvent.”
Nevertheless, the money manager sees value among the carnage. He’s buying mortgage securities concentrated in some of the most troubled housing markets. “We’re buying things like Wells Fargo (WFC) or Countrywide (BAC) mortgage-backed pass-throughs [securities that pay investors a piece of homeowners’ mortgage payments every month] and getting 6% coupons at prices in the $60s,” he says. “They don’t have the government guarantee, but they have a lot of cushion. If I buy a security at 67 cents on the dollar—even if a third of the loans defaulted and we lost everything on those loans—we’d still get our 67 cents back.” Individuals can buy Gundlach’s TCW Total Return Bond Fund (TGLMX), which takes a less risky approach and was up 7.8% for the year ending June 30, placing it in the top 3% of U.S. mortgage funds, according to Lipper.
The strategy sounds chancy. But to the 48-year-old money manager, it’s “a once-in-a-generation buying opportunity.” Gundlach has proven prescient in his calls, particularly on the housing market. “I said in 2006 that housing prices wouldn’t start to appreciate again until 2010,” he says. “I was on the lunatic fringe.” He’s sticking with his forecast, and figures that areas most driven by loose lending conditions and extreme speculation—Phoenix, Las Vegas, Miami, and Southern California—will see a 50% decline. (Many of those areas are already down 35%.) Nationwide, he expects prices, already down 15%, to fall by a total of 30%.
Gundlach’s opportunistic streak was apparent early on. He moved to Los Angeles 25 years ago to make it as a rock ‘n’ roll drummer but chose the investment business after seeing it highlighted as a top-earning career on Lifestyles of the Rich and Famous. He doesn’t get to pound the skins much since his daughter took over his home studio for her art projects. What song would he choose to score the markets today? The Guns N’ Roses anthem, Welcome to the Jungle.
Palmeri is a senior correspondent in BusinessWeek’s Los Angeles bureau.
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