While most economists are forecasting that the U.S. economy will soon come out of the current slump and resume its brisk growth next year, one of the best bond managers in the world is taking a skeptical view.
Newport Beach-based PIMCO Advisors LP, which manages more than $220 billion in assets, is forecasting that while the current problems with the economy will be short-lived, the U.S. economy will see a much more modest growth than in the recent past.
PIMCO’s investment professionals from around the world, gathered in Newport Beach this month for the company’s annual “Secular Economic Forum,” said that the U.S. gross domestic product is likely to grow by about 2% a year for the next five years, neither falling into a long-term recession nor rebounding to a late-’90s level. The 2% figure is about half the rate of growth achieved by the U.S. economy before it hit the skids in 2000, but more than the 1.3% gross domestic product growth posted in the first quarter.
PIMCO’s outlook matters because it is the largest bond manager in the country and also because the bond market tends to give better and earlier indications on the directions of the economy. It is traditionally where most economists, including people at the Fed, look for early signs of trends in inflation, growth and even unemployment.
“Now there is evidence that we have gone through a serious bubble in the economy. A year ago, it was being questioned,” said Mohamed El-Erian, a managing director at PIMCO.
The continued lower growth rate will be “largely due to the return to earth of productivity growth rates, and the need to rebuild consumer savings,” said William Gross, PIMCO’s chief investment officer and managing director, in his monthly newsletter posted on PIMCO’s Web site.
The forecast is much more conservative than most economists are predicting. Georgia State University, which this month updated its forecast, is expecting the economy to grow by 3% in 2002 and by 3.4% in 2003.
“I think 2% might be fine for the short term, but then we are going to hit better growth rates within a year,” said G.U. Krueger, vice president of market research at Institutional Housing Partners.
“It is a proper forecast if you believe that the productivity gains during the technology epoch was totally bogus,” he said. “I believe that there have been productivity gains and that the U.S. should have higher growth rates in the future.”
While maintaining a conservative outlook for the U.S. economy, PIMCO’s bond managers are taking a cautious look at the corporate sector and also the global economy.
Sub-par economic growth means lower corporate profit growth. PIMCO said that because of lower profits and declining margins, the credit spreads are likely to widen in the future.
“We certainly feel that there is a recession in the corporate sector,” said El-Erian. “Companies go from being very strong to very weak.”
The annual meeting forms the foundation of PIMCO’s investment strategies and plays an important role in determining how best to invest client assets. Last year, for instance, the bond manager concluded that the longest-running bull market in the U.S. could be coming to an end and it began shifting its assets accordingly. In 2000, PIMCO outperformed most other bond managers in its category.
El-Erian said that this year PIMCO is looking at bonds that are supported by strong fundamentals.
“The slowdown in the economic activity around the world is more pronounced than previously anticipated,” he said.
El-Erian is also the portfolio manager for PIMCO’s Emerging Market Fund, which invests in bonds in emerging economies in South America and Asia. The Emerging Market fund is among the top-performing funds in its category and has produced a return of more than 7% so far this year.
Besides lower productivity and modest GDP growth rates, PIMCO also projects that inflation will not be a major concern for the U.S.
“The consumer demand is so sluggish,” said El-Erian.
According to PIMCO, both stock and bond investors will be fortunate to see 6% annual returns and there is some chance that many stock investors will continue to lose money on an annual basis. n
