Pacific Investment Management Co.’s Bill Gross said asset markets from stocks to real estate are not overpriced because the Federal Reserve’s long-term policy rate will be half of what policy makers are forecasting.
“Estimates which average less than 2 percent are much closer to financial reality than the average 4 percent ’blue-dot’ estimates” of Fed policy makers, Gross wrote in his monthly investment outlook posted on Newport Beach, California-based Pimco’s website today. He was referring to the Fed’s neutral policy rate, a level that would be consistent with full employment, growth and stable prices.
The Fed’s March summary of policy makers’ economic projections, or SEP, had a median estimate for the long-run policy rate of 4 percent, unchanged from the December report. The median forecast was for the federal funds rate to move to 1 percent in December 2015 and 2.25 percent a year later. That compared with estimates in December of 0.75 percent and 1.75 percent.
Gross has stumbled in the past year after building one of the best long-term track records in the industry. Over the past year, his $232 billion Pimco Total Return Fund (PTTRX:US), the world’s largest bond fund, has lost 1.85 percent, trailing 90 percent of similar funds. Over the past five years, the fund is beating 57 percent of peers.
Apollo Global Management LLC (APO:US) co-founder Marc Rowan said yesterday that he sees many signs of a bubble in the credit markets that could lead to another financial crisis.
“All the danger signs are there of a future crisis,” Rowan said at the Milken Institute Global Conference in Beverly Hills, California. “We’re back to doing exactly the same things that were done in the credit markets during the crisis. Our job is to step wisely and try to avoid that.”
Rowan joins a chorus of regulators and investors, including Marathon Asset Management LP and DoubleLine Capital LP’s Jeffrey Gundlach, in expressing concern about underwriting standards as the Fed’s zero-interest policy extends into a sixth year. Rowan’s co-founder, Leon Black, echoed the concern at the conference yesterday, saying loans with loose terms are being issued “fiercely.”
Leverage, or debt to earnings before interest, taxes, depreciation and amortization for U.S. speculative-grade borrowers tracked by Standard & Poor’s Capital IQ Leveraged Commentary and Data, has risen to a multiple of more than 5 times this month from 4.1 last April and the post-crisis low of 3.5 in February 2009. The average yield on junk bonds at 6 percent compares with a 10-year average of 9 percent, Bank of America Merrill Lynch index data
Greenlight Capital Inc., the $10.3 billion hedge-fund firm run by David Einhorn, said last week that it was betting against a group of technology stocks as evidence grows of a bubble. The Nasdaq Composite Index is trading at 35 times reported earnings, double the valuation in the Standard & Poor’s 500 Index. The benchmark gauge for technology shares has slumped 6 percent since an almost 14-year high reached in March.
While investors don’t face the risk of market bubbles if the long-run Fed policy rate proves lower than Fed officials now foresee, they will suffer from lower-than-average returns, Gross wrote. Pension-fund assumptions of 7 percent to 8 percent total returns will prove too high, Gross wrote.
“Still there are ways to fight back -- most of which involve taking different risks than you may be commonly used to taking: alternative assets, hedge funds, leveraged closed-end funds, a higher proportion of stocks versus bonds in a personal portfolio,” Gross wrote. “All of these alternative are potentially higher-returning assets in a world of 2% policy rates where cash is a poor performing asset, but likewise a cheap liability that can be borrowed to an investor’s advantage.”
The Federal Open Market Committee said today in a statement following a meeting in Washington that it will pare monthly bond buying to $45 billion, its fourth straight $10 billion cut, and said further reductions in “measured steps” are likely. At the same time, the Fed repeated that it’s likely to keep the benchmark interest rate near zero for a “considerable time” after bond purchases end.
Implied yields on federal funds futures traded at the CME Group Inc. exchange signal a 51 percent probability the Fed will first increase its target rate in June 2015, according to calculations available on the exchange’s website.
Pimco, a unit of the Munich-based insurer Allianz SE, managed $1.94 trillion in assets as of March 31.
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