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Bill Gross' Latest Investment Outlook
Three Will Get You Two (or) Two Will Get You Three
You load sixteen tons, what do you get?
Another day older and deeper in debt.
Saint Peter, don’t you call me ‘cause I can’t go;
I owe my soul to the company store.
– Tennessee Ernie Ford
Debt will get you in trouble – on both sides of the dollar bill as
Shakespeare wisely counseled long ago: Neither a lender nor a borrower
be. That probably seems like a strange admonition coming from a guy who
helps to lend $1 trillion of it – and I suppose it is. But there was a
time back in 1968 when lending got me in lots of trouble – deep
doo-doo, to tell you the truth – and I’ve regretted it ever since. I
was a Naval officer back then, sailing between the Mekong Delta and
Manila Bay. Strangely enough, it was in the Philippines, not Vietnam,
where I lost my moral compass and ran aground. I started a shipboard
replica of a “payday” lending company operating under the principle of
“two will get you three.” Sailors in port were always short of cash and
yours truly – engaged to be married and operating under a self-imposed
one-beer, nine-o’clock curfew – was more than willing to extend them a
hand. The “two gets you three” scheme sounded harmless enough, because,
heck, what’s a buck between friends when you’re about to hit the beach
and party hearty! Still, as the “payday” characterization connotes, the
money was due only a few weeks down the road when we were back at sea
and receivables could easily be collected. And the annualized yield, as
most of us investor types can easily calculate, was well in excess of
1,000% annualized. Well, there’s usury and there’s grand larceny, and
my payday-hayday scheme was clearly in the latter category. The amounts
were small – paychecks were only a few hundred dollars – but 200
compounded into 300, which turned into 450, 675, 1,000 – well, you get
the picture. It didn’t take too many ports of call before Uncle Sam’s
next payday became the property of Uncle Bill, and I became the
financial godfather of the USS Wish I’d Never Enlisted. Oh but loose lips sink ships, and it wasn’t too long before the authentic
godfather – El Capitan – got wind of Ensign Gross’s growing fortune.
Rather than cut himself in on the scheme, he did what every good
captain would do. He made me give it all back and confined me to the
ship for the rest of my tour. No beer, no sightseeing in Tokyo on the
way back home. No nothing. Two got me three for awhile, but it
eventually got me into a heap of trouble. Well deserved, I’d say, and
I’ve learned my lesson. Never made a 1,000% loan since!
Another lesson I’ve learned over these last 40 years is that while
“two gets you three,” it’s also true that “three gets you two.”
Sometimes it gets you zero, as in “default” – a big goose egg. That’s
why lenders demand a premium for “riskier” loans, a subjective judgment
to be sure, like when J.P. Morgan long ago described the most
fundamental principle of lending as one based on “character” as opposed
to “property or collateral.” Still, character will get you only so far
if initial conditions are sufficiently onerous that they resemble the
“sixteen tons” coal miners’ lament that leads off this month’s Investment Outlook.
Owing your soul to the company store is more than descriptive of not
only today’s households, but of sovereign nations as well. The burden
of debt can take decades to accumulate, but only a few short months to
change course into crisis. Many investors, economists and politicians
alike have little understanding of why attitudes and lending standards
can reverse so quickly – how a seemingly innocuous “two will get you
three” build-up of debt will suddenly produce a crisis like it did
aboard my ship in 1968. They operate with the mindset that markets,
jobs and economies will “come back.” “I’ll just wait ‘till it comes
back” is the common saw amongst underwater investors, just as
“something will turn up” is a sad refrain of many unemployed or
underemployed workers. Sometimes it doesn’t come back. Sometimes
nothing turns up. Sometimes “three gets you two” in the real, as well
as the financial, economy.
Those times are best characterized by a borrower’s amount of debt and their ability to grow
out of their burden. How much debt is too much? How little growth is
too little? No one knows for sure. Economic historians such as Kenneth
Rogoff point out that at debt levels of 80-90% of GDP, a country’s real
growth becomes stunted, and the sixteen tons become more and more
difficult to bear. Greece is well past that standard, which is one of
the reasons why lenders are balking at extending a private-market
helping hand. When not only government but corporate and household debt
is included, the waters become murkier, because historical statistics
are less available, and corporations are more multinational than ever
before. Common sense observation tells you, though, that the debt super
cycle trend in the U.S. shown in the following chart is reaching
unsustainable proportions and that the “growth” required to service it
if real interest rates were ever to go up instead of down would be
insufficient. That is why lenders balked 18 months ago during events
surrounding the Lehman liquidity crisis and why they’re beginning to
balk once again. Too much debt/too little growth makes for a “three
will get you two” moment, and they refuse to extend credit under those
circumstances.
Granted, sovereign debtor nations are now saying all the right
things and in some cases enacting legislation that promises to halt
growing debt burdens. Not only Greece and the southern European
peripherals, but France, the U.K., Japan, and even the U.S. are
sounding alarms that might eventually move them towards less imbalanced
budgets and lower deficits as a percentage of GDP. Still, credit and
equity market vigilantes are wondering if in many cases sovereigns
haven’t already gone too far and that the only way out might be via
default or the more politely used phrase of “restructuring.” At the now
restrictive yields of LIBOR+ 300-350 basis points being imposed by the
EU and the IMF alike, there is no reasonable scenario which would allow
Greece to “grow” its way out of its sixteen tons. Fiscal tightening,
while conservative in intent, leads to lower and lower growth in the
short run. Tougher sovereign budgets produce government worker layoffs,
pay cuts, reduced pension benefits and a drag on consumption and the
ability of the private sector to accept an attempted hand-off from
fiscal authorities. Recession becomes the fait accompli, and the
deficit/GDP ratio moves ever higher because of skyrocketing risk
premiums and a plunging GDP denominator. In many cases therefore, it may not be possible for a country to escape a debt crisis by reducing deficits!
Several months ago I rhetorically asked whether it was possible to get out of debt crisis by increasing debt. Yes – was the answer, but it was a qualified yes. Given
that initial conditions were favorable – relative low debt as a % of
GDP, with the ability to produce low/negative short-term policy rates
and constructively direct fiscal deficit spending towards growth
positive investments – a country could escape a debt deflation by
creating more debt. But those countries are few – the U.S.
among perhaps a handful that have that privilege, and investors,
including PIMCO, have strong doubts about U.S. fiscal deficits leading
to strong future growth rates.
So the developing predicament is becoming more obvious to
Shakespeare’s “lenders and borrowers be.” Fiscal tightening and budget
conservatism may have come too late for Greece and its global
lookalikes. Continued deficit spending may be an exorbitant privilege
extended to only a few. Caught in the middle are many developed
countries that likely face New Normal growth rates and a continued
bumpy journey toward that destination.
Investors must respect this rather tortuous journey in the months
and years ahead for what it is: A deleveraging process based upon too
much debt and too little growth to service it. No longer will “two get
you three” in the investment world. Not 1,000%, but for 4-6% annualized
returns for a diversified portfolio of stocks and bonds is the likely
outcome. And be careful – sometimes “three gets you two.”
William H. Gross
Managing Director
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1 in 5.5 of all dollars of income in Cramerica come from government... i.e. ourselves. Boo yah. Thankfully we are not Greece although the ratio of government wages to private wages is now 1:4. Ahem.
http://www.fundmymutualfund.com/2010/05/1-in-55-dollars-of-income-now-vi...
..great posting ! ... am forwarding this to all my friends for educational purposes.
"Please don't. If too many people discover how to make the secret sauce, I'm out of business."
Regards,
Ben B.
Exclusive look inside the innerworkings of the PPT.
http://www.youtube.com/watch?v=sen8Tn8CBA4
Classic.
Major Asshole and gunners mate 1st class Phillip Asshole. :>)
F-ing classic and spot on.
"In many cases therefore, it may not be possible for a country to escape a debt crisis by reducing deficits!"
Yet that is what is in store for us. The rich have siphoned off billions of dollars while across America, the Big Finger from the IMF and the Fed is wagging at the peasants to reign in our debts. They are priming us to accept austerity measures in six months to a year or so. CNN Money's headline this morning: Cities Laying Off More Cops.
did you know a simple working ANT can carry 100 times it's own body weight?
It is amazing that this kind of long winded explanation is necessary to communicate the simple truth: Borrow too much and you will never dig your way out.
Subprime borrowers need a CFPA to remind them of this.
Politicians need PIMPCO.
I guess that explanation would be "long-winded" to the AADD sufferer.
Politicians are crack-heads.
And Ben is supplying the crack.
Utopia!
You gotta love Gross. Only a few days after he has liquidated PIMCOs eurobond holdings he announces Greek restructing is inevitable :-)
He's right of course. What will be interesting is to see how the hair cuts get split between the banks that hold the debt and the european taxpayers.
Will the europlebs get fucked over....nah
So, since we pretty much know what's coming, (at least what should be),do you buy the strongest currencies,( after a base holding is made) going ALL in on PM's is a very dangerous move.........you can become very wealthy, or you can lose 75% of your wealth..depending on how these assholes play you.
Gross' firm is up to their eyeballs in US Treasuries and similar bonds that are certain to lose dramatic amounts of value. Of course, he is going to talk up his 'lower growth', and 'deleveraging' thesis. But what is most likely is that the returns the economy will be able to deliver to bondholders over the coming decades will be minimal to non-existent. Much to the benefit of equity owners.
4-6% might be realistic, but more likely is 15%/annum in equities, and -5%/annum in bonds.
If we go into Japanese style deflation, bondholders will do well, and equities will get crushed. That seems to be the course we are following so far, so who's to say that Pimpco is wrong?
Sorry, you're talking logics again. That's just what won't happen.
Try to imaging 3 possible scenario's, write them down and rest assured that it won't be those 3 scenario's. I think we should ask Homer Simpson what will happen.
The Total Return fund has around a 4.5 duration. While a sudden inlfation scare would certainly hurt them, the odds are more heavily in favor of PIMCO not being around when that happens. They do very well at getting out in front of large structural change issues. With $1 Trillion under management, your information edge goes through the roof.
F**K Bill Gross and his Keynesian fag friend McCulley...I can't stand to read these hypocrites. THey where the same ones calling for the FED to expand its balance sheet and for gov't to take on all this debt and now they complain about the effects of it all, when they knew it would happen...keep talking your book you Jackoffs, without you gov't connections you wouldnt last 15 minutes in a real free market. Really - how can anyone stand these clowns - McCulley having conversations with his dumb rabbit in his newsletters...COME ON - Hey Bill, go get another face lift so we can see you on http://www.awfulplasticsurgery.com/ next month....</rant>
think about it.........if we have "austerity" (loosely meaning less guvment spending, less debt, less new money/credit, etc.), the perpetual steal-from-future-and-replace-stolen-goods-with-current-problems machine will come to a grinding halt.
there will be blood.....err bankruptcies. IR will be forced up, lenders will want to be compenstated for extra risk. As has been pointed out on ZH ad nauseum, when IR rise, it's game over. We simply cannot afford it. Austerity will kill us now, and it'll kill us even moar dead the longer we put off our killing.
we're in that happy little twilight period when someone who has 100k in credit card debt knows the bill will be in the mail before the end of the week and the party will be over. But until then, GREEN SHOOTZ EVERYWHERE WTFBBQ! BUYING OPPORTUNITY!