For the first few weeks following February stock sell-off which is turning into a bear market Bill Gross view that bonds would sell off and enter a bear territory did indeed play out.
Stocks and bond prices moved down together. That is not unusual and was cited by many market watchers as evidence of bubbly asset valuation across asset classes due to an extraordinary period of massive central bank liquidity.
Bill Gross bond has been dethroned. The man who was once known as the bond king has got it wrong about a coming bond bear market when he said that “it’s the markets last dance”
But recently we are seeing a return to normality with regards to the correlation of asset prices. Stocks continue to fall nevertheless, the recent sell-off in treasuries (US paper) has made their corresponding yields attractive to investors. So investors are seeing value in treasuries and piling into them.
In other words, Bill Gross has been dethroned because the current investor interest in US treasuries suggest that the bear market in Treasuries might not play out.
So let’s take a closer look at why Bill Gross has been dethroned
It is partly because the Bill Miller’s 30% stock market melt-up in stocks just didn’t play out.
The stock market bullish melt-up suggested another 30% increase in stock valuations. The mechanics of the melt-up view was based upon the central bank’s unwinding its balance sheet and slowly withdrawing from its asset purchasing programme, primarily bond purchases.
Bill Gross once oversaw $2 trillion in assets and was named fixed-income manager of the decade in 2010.
So with the central bank major buyer of debt being pulled from the bond market, these investors anticipated a sharp fall in treasury prices which in turn would be the catalyst of other treasury investors heading for the bond exit to preserve portfolio value. The bullish melt-up view argued that capital would then rotate into stocks, particularity profitable companies with strong balance sheets and low debts.
But the melt-up view for stocks has not played out which is precisely why Bill Gross has been dethroned. The flow of capital is currently rotating out of stocks and sheltering into treasuries.
So what is the implication for the markets if Bill Gross has been dethroned and the bond market is not in its last dance?
For currencies the king dollar looks attractive because if global investor’s demand for Treasuries continue rising, in other words, if treasuries are perceived as a safe haven in a bear stock market then that also means a complementary increase in the demand for USD, bearing in mind to buy treasuries foreign investors need to sell their currency and buy dollars on the foreign exchange.
Moreover, the rising demand for treasuries will also push down yields and that will make servicing the US Government’s 20 trillion dollar deficit less expensive.
The USD dollar as the world’s reserve currency and safe haven asset still holds
So Bill Gross has been dethroned and another impact of this is that with no bear market in US treasuries playing that is a clear indication that the world’s sovereign funds remain comfortable holding US treasuries.
Put another way, the USD dollar as the world’s reserve currency and safe haven asset still holds.
Also, keep in mind that treasuries are considered prime collateral among the commercial banks. The commercial banks lend to each other and pledge prime sovereign debt as collateral. So when the market price for treasuries remains buoyant banks feel comfortable with the collateral they hold.
But when sovereign debt sells off sharply on the bond market due to say a sovereign debt crisis then the creditor banks will demand more collateral to cover their loans in the event of a default. The borrower is then forced to raise capital and if he doesn’t have available funds will then be forced to sell assets in a depressed market-this scenario would be the beginning of a credit squeeze similar to what was experienced in the 2008 financial crisis.
Bill Gross’s fund returned just 1.94 percent annualized over three years, while it has lost money this year
So the fact that Bill Gross got the bear market in bonds wrong, that the bond king Bill Gross has been dethroned is a thumbs up for financial stability.
Bill Gross has been dethroned and has also been struggling to attract new investors since he quit Pimco for Janus. The falling star and former darling of Wall Street once oversaw close to $300bn in the Pimco total return fund, formerly the world’s largest bond fund. But Bill Gross’s string of unprofitable calls has kept new investors away. George Soros, the investor, one of his earliest backers, pulled $500m from Mr. Gross’s fund in 2015 as losses began to mount.
Bill Gross’s fund returned just 1.94 percent annualized over three years, while it has lost money this year. Bill Gross personally invested $700m in the fund when he started running it.
Randy Waesche, president and chief executive of Resource Management has his own theory why Bill Gross has been dethroned.
“Mr. Gross had a strong investment record but had previously benefited from factors including falling interest rates and his partnership with Mohamed El-Erian, chief executive and co-chief investment officer of Pimco until 2014. “He needed three things — El-Erian, the environment of declining interest rates and the use of derivatives and leverage [for performance]. They were all there in his heyday but are largely not available now” he said. “Since he joined Janus, interest rates have been flat or started to trend upwards and the strategy he used to generate those impressive returns isn’t available to him.”
So Bill Gross has been dethroned by tighter liquidity conditions. How many other star investors will be caught off guard, dethroned by a changing liquidity environment?