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2009-12-28 04:53:23
By BERNARD CONDON, AP Business Writer Bernard Condon, Ap Business Writer Sun
Dec 27, 1:08 pm ET
NEW YORK Homes are selling at their fastest clip in nearly three years, the
unemployment rate is falling and stocks are up 66 percent since their March
lows the best performance since the 1930s.
What's not to like?
Plenty, according to Mohamed El-Erian, chief executive of giant bond manager
Pimco. The investor says the recovery may be gaining steam but is no different
than a kid who eats too much candy at one of the birthday parties his
6-year-old daughter attends.
"We're on a sugar high," El-Erian says. "It feels good for a while but is
unsustainable."
His point: This burst of economic activity fed by government spending and
near-zero interest rates will soon peter out.
As CEO at Newport Beach, Calif.-based Pimco, El-Erian, 51, oversees nearly $1
trillion in assets, more than the gross domestic product of most countries. So
when he talks, people listen.
What he's saying now:
_Stocks will drop 10 percent in the space of three or four weeks, bringing the
Standard & Poor's 500 index below 1,000 though he's not predicting when.
_The unemployment rate will be hovering above 8 percent a year from now.
_U.S. gross domestic product will grow at an average 2 percent or so for years
to come a third slower than we're used to.
El-Erian and his famous partner, Pimco founder Bill Gross, are watched closely
because they've made investors a lot of money over the years. The Pimco Total
Return Fund, which at $203 billion is the world's largest mutual fund, has
returned an average 7.6 percent annually over 10 years, after fees, versus 6.3
percent for Barclays Capital U.S. Aggregate fixed income index fund.
The hotshots at Pimco have made money by anticipating big moves in the economy
and interest rates way before other investors. In the depths of the financial
crisis last year, for instance, Pimco sold some of its Treasury bonds to
panicked investors looking for a safe haven and put the proceeds into
government-backed mortgages and bank debt in time to catch the big upswing in
prices of those and other riskier securities this year.
Now Pimco is once again changing tack. El-Erian says people are fooling
themselves if they think all the bullish data of late means a strong recovery
is in the offing. So he's buying Treasurys and selling riskier stuff.
His bet: Investors will get scared again and want U.S.-guaranteed debt so they
know they'll get repaid.
At Total Return, government-related securities, including Treasurys and
corporate debt backed by Washington, comprised 48 percent of the fund's
holdings in September. That was up from 9 percent at the beginning of the year.
One of Pimco's newest funds, the Global Multi-Asset Fund, a hybrid stock-bond
offering, is 35 percent in equities now, down from 60 percent earlier this
year.
Investors betting on stocks or high-yield bonds are likely to be disappointed,
El-Erian says.
Markets for those securities are rallying not because people like them but
because they hate the puny yields of safer investments like money markets and
feel they have no choice but to buy, he says. He quips that that makes the bull
market as likely to last as a forced marriage.
The danger: If stock and junk bond prices start falling, lots of investors are
likely to bail, feeding the drop.
Of course, there are plenty of true believers in the bull who are not buying
the El-Erian line.
James Paulsen, chief strategist at Wells Capital Management in Minneapolis,
with $355 billion under management, has been pounding the table for months to
buy stocks. Just like in the early 1980s, the recovery will take the form of a
"V," he says. The reason: Companies have cut inventories and payrolls to the
bone, so just a little revenue growth could translate into a bumper crop of
profits.
El-Erian says many of the bulls don't appreciate just how much the government
props still under the economy are masking its weakness. Instead of focusing on
the fundamentals today, he says, they're looking to the past, expecting a quick
economic rebound because that's what's happened before.
We're trained to think the "farther you fall, the higher you'll bounce back,"
El-Erian says. "We're hostage to the V."
El-Erian says he learned to be open to many different views on the world (and
markets) from his father, an Egyptian diplomat who insisted on reading several
newspapers everyday, both on the right and the left. El-Erian had hoped to
become a college professor. But when his father died, he took a job at the
International Monetary Fund to support the family. He rose through the ranks,
eventually becoming deputy director.
In 1999 he joined Pimco, where he quickly made a name for himself with some
prescient bets on emerging markets.
One of his biggest wins: selling Argentine bonds in 2000 while they were still
popular with investors. When the country defaulted the next year, the emerging
markets fund that El-Erian managed returned 28 percent versus negative 1
percent for the Emerging Market Bond Index. He eventually left to head the
group that manages Harvard University's massive endowment, returning to Pimco
in January 2008 in time catch the depths of the financial crisis.
El-Erian says we've probably seen the worst of the crisis but consumers, and
not just Washington, need to start spending again for the recovery to really
take hold.
He doesn't expect that to happen soon. Like in the Great Depression, Americans
are saving more and borrowing less a shift in attitudes toward family
finances that Pimco thinks will last a generation.
That, plus the impact of more regulation and higher taxes, El-Erian says, will
crimp growth for years to come.
Whatever the merits of that view, Pimco is not exactly knocking the lights out
right now. So far this year, the Total Return Fund has returned 14 percent,
impressive in normal times but no better than average for similar funds during
the rally, according to Morningstar. The 19.1 percent return for Global
Multi-Asset, which El-Erian co-manages, lags two-thirds of its peers. El-Erian
says he sold equities "too early" but is convinced his view on the market will
prove correct even if it strikes many as a tad too pessimistic.
"I'm calling it as I see it," he says. "I'm not optimistic or pessimistic I'm
realistic."