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Wednesday, May 29, 2024

Gross Miscalculation?

Bill Gross looks to be on the comeback trail once again, edging toward a reversal of fortune that re-emphasizes the notion that the legendary bond trader’s only point of reference is himself.

What else to conclude as the cofounder of Pacific Investment Management Co. continues to guide the Newport Beach-based firm on another climb? And so far, this one is flying in the face of an uncharacteristically downbeat 2013, chatter of the bond rally’s demise, and the resignation of the executive who has been seen as the key to beefing up the company’s portfolio of equity products.

Consider the performance of the Gross-managed Total Return Fund—Pimco’s flagship and the largest bond fund in the world, with $237 billion in assets. It lost 1.9% last year, its worst performance in two decades. The skid also came with headlines about an outflow that totaled $41 billion over the final eight months of the year and landed it in the bottom half of bond funds in the U.S. for 2013 overall.

A different picture has dawned quickly this year, though.

Total Return has gained 1.63% so far this year. That’s good for about a third of the way down on a list of 1,100 U.S. intermediate-term bond funds compiled by the Business Journal based on data from research firm Morningstar Inc.

The fund is gathering momentum, too, with a 0.89% gain in the past month. That puts it in the top 5% of its peers as of Feb. 19, according to the Morningstar data.

Another Surprise?

Gross is on pace to make up last year’s dip with plenty of time to craft another surprise for his critics. They should be familiar: He took no more than six months to recoup Total Return’s outflows and poor performance in 2011, which followed his mistaken call to cash out of U.S. government debt. Gross cut the fund’s exposure to government-related debt to zero in early 2011 and saw Treasurys turn out to have their best return that year since 2008.

Gross went public with a mea culpa in late 2011, and by mid-2012 had new investor dollars and gains that put the fund in the top 5% of U.S. bond funds.

Give Gross bonus points for degree of difficulty. His Total Return is much larger than its direct competitors. Los Angeles-based DoubleLine’s Total Return has $31 billion in assets. It ranks ahead of Pimco so far this year, with a 2.21% return. DoubleLine has slipped behind Pimco over the past month, though, with a 0.62% return.

New York-based BlackRock’s Total Return Fund, with about $2.9 billion in assets, has a year-to-date return of 1.89%, well ahead of Pimco’s. It has lagged the Gross-managed fund over the past month, however, with a 0.65% gain.

Gross wasn’t alone in absorbing the knocks of the bond market. Investor sentiment largely moved against bonds, leaving numerous funds and the industry benchmark with negative returns for the year.

But not every investment manager runs the world’s biggest bond fund or a company that’s among the largest financial institutions globally. The sheer size of Pimco Total Return and Pimco—which has nearly $2 trillion in assets under management overall—magnified the hits.

“They are so large that if there are any outflows, Pimco is just going to record a high number, just because they’re so big to begin with,” said an investment-management veteran who asked not to be identified. “It’s just the pure story of the numbers.”

Bonds lost value in 2013 due to a mix of factors, including fears that the Federal Reserve would decide to scale back its bond purchases—a series of federal stimulus programs that for the past five years or so have helped keep interest rates at near zero. The programs have been a boon for bond prices, which move inversely to interest rates. The availability of cheap money also fueled a rising stock market, creating an economy in which both stocks and bonds were doing well.

“Stocks and bonds moving in opposite directions—that has held true for certain periods in the past,” said the source. “But for the most part of the last five years, coming out of the Great Recession, that hasn’t really held true. For at least the four years, except 2013, both bonds and stocks did well, because they were coming off of massive drops. If you think about it, bonds do well when rates go down. That environment also could help stocks, as low interest rates help companies fund their capital cheaper. There’s a great example where stocks and bonds would move together.”

Equities overwhelmed bonds last year, with a 30% annual gain in the S&P 500 Index.

Gross kept his Total Return relatively steady in the face of equities’ big year.

Barclays U.S. Aggregate Bond Index, a widely used fixed-income benchmark, had a 2% loss to cap the year after a broad selloff of bond holdings.

A trend of a downward push in bond value—and a rise in yields—solidly set in after the Fed in May hinted at its plans to pare back its bond-purchase program.

“People headed for the door, not necessarily due to anyone’s performance but more so in an industrywide rotation into equities,” said Ed Prado, chief executive of Fairbridge Capital Markets Inc., an investment firm in Newport Beach. “We saw that with all bond managers. It wasn’t only for Pimco; it was for all fixed-income managers.”

Bond Purchases

The Fed didn’t announce until December that it will start to cut bond purchases from $85 billion a month to $75 billion. By then, Pimco Total Return had seen about $37 billion leave over seven straight months.

The Fed last month said it will cut its monthly purchases to $65 billion.

“More recently, though, there’s been a slight reversal, and there’s actually been some bond inflows,” Prado said. “People are looking at the bond market and saying, ‘Rates aren’t going to go up as swiftly as we anticipated.’ A lot of the big fund managers are predicting that the [yield on the] 10-year Treasury is going to stay.”

Bond funds in the U.S. have been drawing new money consistently this year, according to Lipper, part of Thomson Reuters, which tracks fund flows on a weekly basis across a range of fund types, including equities funds and bond funds.

Taxable bond funds had an inflow of $3.3 billion over the week ended Feb. 19, according to a recent Lipper report.

U.S. stock funds also drew in a fresh chunk of $7.9 billion during the recent week.

It remains to be seen how Pimco, which has most of its holdings in bonds, will allocate its investments as it navigates the year with fresh faces in leadership.

The firm in the past month or so appointed six new deputy chief investment officers and named a new chief executive in the wake of a surprise announcement that Mohamed El-Erian will leave in mid-March.

The “deputy CIO structure” is new to Pimco and is expected to be a “significant improvement” for the firm, Gross said in a recent Q&A published by Pimco that the company offered as a response to inquiries for this report.

Gross said the outlook for the bond market this year is “much better than in 2013,” adding that rates “have adjusted upward and now reflect better value.”

Pimco still faces a challenge on how to capture money as investors shift from bonds, something that’s likely to play out over the long haul. Market wisdom currently holds that the Fed will wait until well into next year to raise interest rates, giving bonds a bit more room to rally. But Pimco will eventually need a new approach on equity funds and other products—something the lineup of new deputy chief investment officers appears to address and Gross seems eager to take up.

He emphasized the “team” characteristic of the group of CIOs.

“This new format, and the idea-sharing it will facilitate, will be more responsive to market developments,” Gross said. “I also find that I often prefer to sit at the side of the table rather than at the head of it. I can contribute more effectively that way, learn more by listening, and it gives others the opportunity to lead.”

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