Petersen & Partners Investment Management (Petersen & Partners) was founded in 2017 by Niels Erik Petersen with a clear ambition: to offer professional investment products tailored to institutional investors. Based in Denmark, the firm naturally introduced a long-only fixed-income strategy focused on Danish mortgage bonds. However, as interest rates dipped toward zero – and even into negative territory – the team recognized the need for a change. This shift in the interest rate environment led them to pivot, adopting a hedge fund approach to investing in the space.

“When interest rates dropped into negative territory, we realized that maintaining a long-only fixed income product no longer made sense. It lacked diversification and the potential for returns,” recalls Klaus Goth, who became partner in the early days of the company. Drawing on his extensive background in portfolio and fixed-income research, including his expertise in building prepayment models for callable Danish mortgage bonds in the early 2000s, the team pivoted to a hedge fund approach. The result was an arbitrage strategy targeting AAA-rated assets across callable Danish mortgage bonds, non-callable Danish bonds, and Swedish bostads. “We may also explore Norwegian opportunities if they arise, but the main criterion is that all bonds are AAA-rated,” explains Goth.

“When interest rates dropped into negative territory, we realized that maintaining a long-only fixed income product no longer made sense. It lacked diversification and the potential for returns.”

Klaus Goth

Petersen & Partners’ investment process is highly quantitative and automated, relying on detailed data analysis. “We gather key data from major contributors in the Danish market – Nordea, SEB, Nykredit – and apply it to our proprietary models,” says Goth. “By comparing model outputs, we can identify the most attractive opportunities across our target segments.” The team continuously evaluates key factors such as carry roll-down, convexity, and volatility. “We aim to maximize the return on investment relative to the risk taken,” Goth emphasizes. “We compare different asset classes and segments on a live basis, constantly adjusting our positions as the market evolves.”

Leveraging Complexity for Alpha

This quant screening is especially well-suited to the complexity of the Danish mortgage market, particularly callable bonds with embedded optionality. These features create pricing inefficiencies that skilled investors can exploit. Petersen & Partners’ strategy involves hedging interest rate risk and using leverage to enhance returns from AAA-rated investments. A one percent spread, for example, can translate into a ten percent return on equity, assuming stable prices and prepayment behavior.

“We don’t make duration bets,” emphasizes Goth. “Our returns come from spread and convexity, not outright interest rate moves.” The team takes a segmented approach, analyzing each bond type on its own merits. “Callable bonds may outperform in certain market scenarios, while non-callables do better in others,” says Goth. “We aim to identify the best relative value across the full spectrum.”

“We concentrate on shorter-term, low-coupon callable bonds, where other hedge funds may focus on longer-term, higher-coupon instruments.”

John Arian Larsen

While PPIM primarily focuses on callable bonds, the team distinguishes itself by targeting areas of the market that are less saturated with hedge fund activity. “We concentrate on shorter-term, low-coupon callable bonds, where other hedge funds may focus on longer-term, higher-coupon instruments,” says Portfolio Manager John Arian Larsen. “By operating in these less liquid segments, we can capture higher returns with less competition,” adds Larsen, whose experience as a trader at Danske Bank has helped the team navigate this niche.

A Test of Discipline: Lessons from 2022

After a more challenging 2021, Petersen & Partners Core Fixed Income fund managed to contain losses to just 3.3 percent during the turbulent market of 2022, before rebounding strongly with a 21.0 percent gain in 2023 and a further 16 percent in 2024. Reflecting on 2022, Klaus Goth describes it as “a tough year in many ways.” The fund entered the year with what he admits was “too much risk, like you often do before a sudden crisis.”

For the Petersen & Partners team, the focus quickly shifted from return generation to capital preservation. “2022 was more a question of risk management than anything else,” says Goth. “The worst thing for a manager running a leveraged mortgage strategy is being forced to liquidate positions after breaching risk limits.” That experience reinforced the importance of maintaining disciplined risk controls, especially in strategies that rely on leverage in typically stable, but suddenly volatile, markets.

“2022 was more a question of risk management than anything else. The worst thing for a manager running a leveraged mortgage strategy is being forced to liquidate positions after breaching risk limits.”

Klaus Goth

All of the team’s efforts in 2022 were focused on “navigating the challenging market and making sure we had enough gunpowder for when the environment bounced back,” recalls Goth. That environment taught them that it was not really about making new investments—because, in many cases, markets had effectively shut down. “It was kind of impossible to make major changes,” he says. “But we focused on smaller adjustments to stay in the trades without getting stopped out.” That discipline paid off. “By not being forced to liquidate, we were able to hold on and eventually regain all the value as the market recovered.”

While Petersen & Partners Core Fixed Income entered 2022 with some risk exposure, the fund’s leverage was kept below the ten-times level, closer to eight times. “That meant we weren’t forced to sell anything,” explains Larsen. The team also had room to make tactical adjustments – such as selling non-callable bonds to buy callable ones, where spreads had widened significantly. “We could still do things that allowed us to add to our positions, rather than taking losses,” says Larsen. “If we had been highly leveraged – close to our maximum limits – we would’ve been locked.” The dysfunction in how the market was pricing assets created opportunities, and the fund’s relatively conservative leverage going into 2022 allowed the team to capitalize on them. “We took advantage of that,” says Larsen, “and it was one of the key reasons we saw such a strong rebound.”

Managing Leverage with Caution

Petersen & Partners Core Fixed Income fund has a maximum leverage limit of 15 times, but actual leverage levels are managed more conservatively and adjusted depending on portfolio composition – particularly the share of callable bonds. “Leverage is not just a number – it depends on how much callable exposure we have,” explains Klaus Goth. “If the market goes haywire, the biggest losses and volatility tend to come from the callable segment, so we need a cushion in case something goes wrong.”

When the team sees strong value in the market, they may allow for slightly higher leverage, “because then you have less distance to the extremes,” says Goth. Conversely, when markets appear stretched, the team pulls back. “If the market looks expensive, we’ll naturally lower our leverage.” To avoid excessive risk concentration, Petersen & Partners also imposes internal limits – what Goth refers to as “sanity checks.” For instance, the team cannot use more than 50 percent of their overall risk limits on callable bonds. “That kind of limitation stops us from taking on uncontrollable risk,” he explains.

Investing in Nordic mortgage bond markets – across Danish non-callable, callable, and Swedish bostads – with the use of leverage “is more about risk management than anything else,” concludes Klaus Goth. “That’s why we base everything on a quantitative approach.”

“You can’t calculate everything and arrive at a single, definitive answer, but the models help paint a much clearer picture of where the risks and opportunities lie.”

Klaus Goth

According to Goth, the team builds a strong foundation by systematically modeling and evaluating key risk and return metrics. “You can’t calculate everything and arrive at a single, definitive answer, but the models help paint a much clearer picture of where the risks and opportunities lie,” he explains.  What sets Petersen & Partners apart, he adds, is the way this quantitative foundation is complemented by practical experience. “With the experience John and I have, and the constant discussions we have including discussions with colleagues overseeing other asset classes and our chief strategist, we strike a balance,” says Goth. “It’s risk management, with skill and judgment on top.”

This article is part of HedgeNordic’s “Nordic Hedge Fund Industry Report.”