The “bond king” Bill Gross needs to patch up a few holes in his palace.
Gross’ flagship PIMCO Total Return Fund (PTTRX) is off more than 3% so far in 2013, and his investors are getting skittish. The fund suffered $7.7 billion in August, which follows up a $7.5 billion bleed in July and a $9.5 billion exodus in June.
Not a good trend. And things could get worse.
It’s true that Gross has experienced (and survived) slumps in the past. Even the greatest investors aren’t immune to the market and their own bad calls. However, Gross has always been nimble enough to navigate rougher waters and produce standout returns. Over the past 15 years, PTTRX has averaged 6.04% in returns, which is more than 70 basis points better than the benchmark Barclays US Bond Index.
But Gross has had the advantage of benefiting from an epic bull market in bonds that started in the early 1980s, so it would’ve been pretty tough to fail in such an environment anyways.
But nothing lasts forever. That goes double for the financial markets.
Persistently high budget deficits carry with it a constant worry that inflation could become a problem, and if so, interest rates will rise — a big concern considering they’ve already ballooned significantly this year, pushing north of 2.9% today. Plus, the Fed already is telegraphing moves to eventually taper its aggressive monetary policy, which has already spooked some investors out of bonds.
Corporate America is getting antsy, too. Just look at Verizon Communications (VZ), which recently agreed to shell out $130 billion for Vodafone’s (VOD) 45% stake in their Verizon Wireless joint venture. Verizon CEO Lowell McAdam indicated he moved ahead on the deal — and even overpaid, believing the deal to be worth closer to $100 billion — because he believed interest rates might not stay at current levels for long.
So Gross is in a tough spot. He has a portfolio of $292.9 billion in bond holdings, which means he is exposed to continued interest-rate risk. While it’s true that he can engage in some hedging, it’s often expensive and its effectiveness can vary.
Plus, such actions won’t mean much anyway if inflation does begin to perk up and the Fed does in fact reduce its aggressive QE. Such actions certainly could lead to a “new normal” for the global financial system — and that’d be bad news for bonds.
Bottom Line: PTTRX’s recent weakness might be more than just a temporary lapse on Gross’ part — it might be the fallout from the beginning of a secular change in the bond market.
Tom Taulli runs the InvestorPlace blog IPO Playbook. He is also the author of High-Profit IPO Strategies, All About Commodities and All About Short Selling. Follow him on Twitter at @ttaulli. As of this writing, he did not hold a position in any of the aforementioned securities.