Pacific Investment Management Co.’s Bill Gross expects the Federal Reserve to keep borrowing rates at historic lows longer than the central bank has forecast to avoid disrupting leveraged global financial markets.
“When there is a lot of leverage in the economy, a central bank must tread lightly in terms of increasing interest rates,” Gross, manager of the world’s biggest bond fund, said on Bloomberg Television’s “Market Makers” with Erik Schatzker and Sara Eisen. “We think the Fed stays where they are, at 25 basis points, for a long, long time. Perhaps 2016 and beyond.”
The Federal Open Market Committee has kept its target rate for overnight loans between banks at a range of zero to 0.25 percent since December 2008 to help the economy recover from the worst financial crisis since the Great Depression. Fed Chairman Ben S. Bernanke said in June that “a very strong majority of FOMC participants still expect rates to be quite low at the end of 2015.”
Investors should buy Treasury securities maturing in five years or less, shunning longer maturity debt as the Fed transitions away from asset purchases in favor of forward guidance, or announcements on short-term interest rate policies, as their primary monetary easing tool, Gross said.
“The historic raising of interest rates to countermand higher inflationary threats is a thing of the past,” said Gross, the founder and co-chief investment officer of Newport Beach, California-based Pimco.
The shift in the Fed’s approach is a reverse from its Operation Twist program, where the central bank sold short-term debt and bought and equal amount of long-term Treasurys to keep borrowing costs low, according to Gross. There is an 80 percent chance that the Fed will begin tapering its $85 billion in monthly bond purchases in September, Gross said.
“Quantitative easing is a tired horse which has inflated asset prices, but does little to stimulate real growth,” Gross said. “The Fed wants the market to buy one- to five-year securities with the comfort of forward guidance.”
Fed funds futures show a 50 percent likelihood that the Fed will raise borrowing costs by the central bank’s January 2015 meeting, up from a 21.7 percent probability a month ago.
The U.S. economy will grow 1.6 percent in 2013, according to 89 economists surveyed by Bloomberg, after growing 2.66 percent over the past 20 years. U.S. consumer prices advanced 2 percent in July from a year earlier, quickening from 1.8 percent in June, based on a Bloomberg News survey of economists before the Labor Department reports the number tomorrow. Excluding food and energy costs, prices advanced 1.7 percent. The Fed’s inflation target is 2 percent.
Pimco is preparing for an era of lower fixed-income returns after unprecedented investor deposits into bonds since 2008, which helped the firm more than double assets to $2 trillion in the past five years. That trend may be reversing as investors pulled money from Gross’s Pimco Total Return Fund for three straight months following a selloff in debt markets, triggered by Bernanke’s comments that the central bank may pare back bond purchases.
Under Chief Executive Officer Mohamed El-Erian, Pimco has been expanding into stocks and bond strategies that can weather the impact of rising interest rates and declining market returns. Those shifts didn’t insulate Pimco from record withdrawals in June, when investors pulled $14.5 billion from the firm’s U.S. mutual funds, according to Morningstar Inc. in Chicago. Clients have removed $18.7 billion from Gross’s Total Return fund since May, Morningstar estimates.
Gross’s $262 billion Pimco Total Return Fund has declined 2.82 percent this year, trailing 66 percent of rivals, according to data compiled by Bloomberg. Over the past five years, the fund has advanced 7.29 percent, beating 89 percent of peers.
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