Fear and Redemption

Posted by: Chris Palmeri on August 30, 2007

Bill Gross, who lords over nearly $700 billion in bond assets as chief investment officer at Pimco, was early in calling out the excesses of the recent market, staying out of high yield debt offerings and subprime mortgage notes and sticking instead to short term bonds tied to treasuries. For more than a year, Gross’s firm had been saying the housing market was heading for a downturn and bond investors had become “wimps” for excepting low yielding investments that stripped away many of the covenants that historically protected fixed income investors. “We were acting like prisoners in an isolation ward, accepting our daily gruel,” he says. The caution hurt, his flagship Total Return fund was a good percentage point behind the index in the past year.”

In Gross’ eyes the debt boom became just like any other period of market mania, from tulip bulbs to dot-coms. “We were criticized for not jumping on the credit wagon,” he says. “Then you go back to read your history books. It’s a mania in the making and only a matter of time. Human nature never changes. Markets can change people move over a spectrum of greed and fear. It’s obvious the greed side was being over-loaded, now we’re moving closer to fear.”

Gross says he still expects to see further explosions, hedge funds forced to liquidate, structured deals collapsing. “The market isn’t out of the woods,” he says. But Pimco is taking advantage of the fear, putting several billion dollars into the recent Chrysler debt offering. Those notes paid 500 basis points above Libor, when just a few weeks ago, high yield debt was trading at 200 points above. Pimco was also able to include convenants in the deal that would prevent Chrysler’s buyer, Cerberus, from selling assets or paying themselves a big dividend in a manner that would put Pimco’s bond investment at risk. “We said enough is enough,” he says.

 

About

BusinessWeek editors Chris Palmeri, Prashant Gopal and Peter Coy chronicle the highs and lows of the housing and mortgage markets on their Hot Property blog. In print and online, the Hot Property team first wrote about the potential downside of lenders pushing riskier, "option ARM" mortgages and the rise in mortgage fraud back in 2005—well ahead of many other media outlets. In 2008, Hot Property bloggers finished #1 in a ranking of the world's top 100 "most powerful property people" by the British real estate website Global edge. Hot Property was named among the 25 most influential real estate blogs of 2007 by Inman News.

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