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Pimco's Gross: June 30 to be 'Fueled With Fear' as Easing Ends

Wednesday, 02 Mar 2011 11:37 AM

Bill Gross, co-head of Pimco, the world's largest bond fund, warns that bonds may tank and the economy will struggle if the Fed’s massive second round of easing ends as scheduled in June. He said investors should look at June 30 as D-Day, a make-or-break day for securities as the Fed is scheduled to wrap up its $600 billion bond buyback program and be ready to sell, Gross says.

The Federal Reserve has been buying government debt from banks in order to pump money into those banks so they'll lend and speed up economic growth.

The buyback, known as the second round of quantitative easing, or QE2, has been good for bond yields and stock prices so far, but when the Fed exits the stage on June 30, demand could fall.

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Bill Gross
"Bond yields and stock prices are resting on an artificial foundation of [quantitative easing] credit that may or may not lead to a successful private market handoff and stability in currency and financial markets," Gross says in a Pacific Investment Management Co., or Pimco, investment outlook letter.

“That handoff will ultimately will determine the outlook for real growth and the potential reversal in our astronomical deficits and escalating debt levels.”

Investors should view June 30 like historians view D-Day, or June 6, 1944, the day the Allies invaded France in World War II. Gross called D-Day "a day fraught with hope for victory, but fueled with immediate uncertainty and fear as to what would happen in the short term."

Gross said that after the easing ends, if "the private sector cannot stand on its own two legs – issuing debt at low yields and narrow credit spreads, creating the jobs necessary to reduce unemployment and instilling global confidence in the sanctity and stability of the U.S. dollar – then the QEs will have been a colossal flop."

If this turns out to be the case, "there will be no 15 percent-plus tip for the American economy and its citizen waiters," he said. "But more than likely there is a negative two-bit or even eight-bit tip lying on the investment table. Like I did 45 years ago, Pimco's not sticking around to see the waitress's reaction."

Gross also said yields on Treasurys may be too low to sustain demand for U.S. government debt.

Treasury yields are about 150 basis points too low when viewed on a historical context and when compared with expected nominal gross domestic product growth of 5 percent, Gross said. (One basis point is equivalent to 0.01 percent, or one-hundredth of a percentage point.)

Gross reduced in January the holdings of U.S. government and related debt in Pimco’s $239 billion Total Return Fund to the smallest proportion in two years.

The securities were cut to 12 percent of assets, from 22 percent in December, according to a statement on the firm’s website Feb. 14. The proportion of cash-equivalent holdings was increased to 5 percent, the highest since April.

Pimco, a unit of the Munich-based insurer Allianz SE, managed $1.24 trillion of assets as of December.

Meanwhile, some senior Fed officials have said monetary authorities should consider letting up on the quantitative easing program early now that the economy appears to be gaining steam on its own.

"The natural debate now is whether to complete the program or to taper off to a somewhat lower level of assets," says St. Louis Federal Reserve President James Bullard, according to Reuters.

Kansas City Fed President Thomas Hoenig said Wednesday that U.S. policymakers should start preparing the market for a lifting of interest rates back to 1 percent to avoid future inflation problems.

"I really want to take away the punch bowl before the room gets drunk because I think this punch bowl is a little bit spiked," Hoenig, who has repeatedly voiced dissent against the Fed's ultra-low monetary policy, said.

Warren Buffett also believes that the Fed’s easing has likely done all the good it’s going to do for the country and should be stopped.

“I have enormous respect for Ben Bernanke. He knows more about the Fed than I do by a factor of 100-to-1. But, in the end, I don’t think we need more of that now,” Buffett told CNBC.

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Bill Gross, co-head of Pimco, the world's largest bond fund, warns that bonds may tank and the economy will struggle if the Fed s massive second round of easing ends as scheduled in June. He said investors should look at June 30 as D-Day, a make-or-break day for securities...
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2011-37-02
Wednesday, 02 Mar 2011 11:37 AM
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