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Global Investing in 2013: Policy Dominance, Active Management and a New Paradigm in Currencies
by Scott Mather of PIMCO,
We expect that the impact of ongoing global policy experimentalism on real economic growth and financial markets will likely vary substantially from country to country, creating both risks and opportunities. With flexible, active global strategies investors can potentially benefit from a broader opportunity set and the ability to go off benchmark in an effort to both avoid risks and tap opportunities.
Telling (Taper) Time
by Tony Crescenzi of PIMCO,
Investors need be alert for signs of progress in the many employment indicators the Fed is watching, and listen closely to what the Fed is saying to know when bond buying will be tapered. The failure to achieve escape velocity is why the Fed is using its printing press to purchase $85 billion of securities monthly. These purchases will continue, the Fed says until the outlook for the labor market has improved substantially. The Fed has made progress toward achieving escape velocity but the progress must be sustained for the Fed to throttle back on its stimulus.
Don't Pay Too Much for That Bordeaux - Or That Bond
by Jeff Helsing of PIMCO,
The financial markets reliance on ratings agencies and benchmarks, along with regulations, can cause distortions in the value of some securities. These price distortions can create potential opportunities for some investors. Investors should consider aligning capital allocation with outcome-oriented objectives that arent influenced by credit ratings or benchmarks.
PIMCO Cyclical Outlook for Asia: How Leadership Changes Are Shaping Asia's Outlook
For Asia, slow but not slowing global growth will likely keep external demand neutral, and policy developments will therefore help shape the economic outlook. In Japan, we see a significant boost to aggregate demand coming from the concerted monetary and fiscal expansion of the new Abe government. In China, concerns about inflation, housing market excesses, and long-term financial stability are prompting policy restraint that should keep growth below 8% this year.
Can Something Good Be Cheap Too?
by Charles Lahr of PIMCO,
Over the last eight years, the least volatile components of the MSCI World Index tended to have lower valuations, higher profit margins and higher dividend yields. This anomaly, which appears to be among the most persistent in all of equity space, is rooted in speculative human behavior such as the lottery ticket phenomenon.
PIMCO Cyclical Outlook for the U.S.: Back From the Brink
by Josh Thimons of PIMCO,
We expect the largest contributors to U.S. growth this year will be housing and related industries, increases in capital expenditures (albeit from very depressed levels), certain manufacturing sectors, such as the auto industry, and the energy sector. We see roughly 1.7 percentage points of drag on GDP coming out of Washington far less than the four to five percentage points of potential drag had there been no fiscal cliff resolution. We believe the Fed will continue with hyperactive monetary policy, which we now call QE Infinity, that does not have an explicit end date or progr
A Man in the Mirror
by Bill Gross of PIMCO,
Am I a great investor? No, not yet. To paraphrase Ernest Hemingways Jake in The Sun Also Rises, wouldnt it be pretty to think so? But the thinking so and the reality are often miles apart. When looking in the mirror, the average human sees a six-plus or a seven reflection on a scale of one to ten. The big nose or weak chin is masked by brighter eyes or near picture perfect teeth. And when the public is consulted, the vocal compliments as opposed to the near silent/ whispered critiques are taken as a supermajority vote for good looks.
Whatever It Takes in Japan? It Takes an 'Audacious' Monetary Policy!
The BOJ will have to make some key monetary policy decisions soon, given Kurodas sincere but ambitious desire to achieve 2% inflation within two years. The BOJ has lagged far behind other major central banks in the deployment of its balance sheet since the onset of the financial crisis. Expect Japans monetary policy to be more aggressive and experimental as it shifts toward reflating the economy. For global investors, this may mean a modest economic growth contribution from Japan, at least over a cyclical horizon, as well as additional central bank liquidity pouring into global m
What Happened to That Export-Led Recovery?
With nearly 50% of the UKs total exports going to Europe, an economic area constantly flirting with its own recession, it is no surprise to see that UK trade performance has been challenged.As the US continues to re-heal, and trade becomes more geographically diversified, we should see exports start to grow once more, albeit off a modest base. The easing in sterling is undoubtedly welcome and will improve prospects for exports, but it is unlikely to be a game changer.
Investors Need to Pivot
by William Benz of PIMCO,
Fixed income investors need to think differently in the current environment. Investors may want to consider pivoting to strategies that are less focused on traditional benchmarks and more oriented to generating income and providing greater flexibility to hedge against rising rates, widening credit spreads or higher inflation.
Rising Political Risk and Ongoing Economic Weakness Challenge a Difficult Journey to Recovery
by Andrew Balls of PIMCO,
Looking ahead, it will continue to be a very bumpy journey as we anticipate economic contraction in the eurozone by -0.75% to -1.25% over the next year, hampered by growing political risk and fiscal tightening. Although we expect the pace of contraction in the eurozone to diminish over 2013, the duration of the recession is likely to be longer than consensus forecasts.
Washington May Be Ready to Take a Break From the Brink
With Washingtons dysfunction not in the forefront, the economy could be more unencumbered to grow, with markets trending in a similar direction. The Feds proactive policies should continue to favor overweight positions in the five-year through 10-year part of the Treasury yield curve and support interest-rate-sensitive sectors of the economy most notably housing. In the longer term, however, we would advise investors to be cautious: Without meaningful long-term structural deficit reform, real growth will inevitably lag in the U.S.
DC Plan Sponsors: Now's the Time to Get More From Bonds
by Stacy Schaus of PIMCO,
Long on equities and light on bonds, todays DC plan lineups may expose participants to extreme market risks. Plan sponsors could potentially improve retirement outcomes by trimming choices for stocks and considering additional options for bonds. The inclusion of active fixed income strategies with global exposure or additional income opportunities could help participants reach their retirement goals.
Forecasting Bond Returns in the New Normal
by Saumil Parikh of PIMCO,
PIMCO has a detailed framework for deriving a forecast for secular bond returns based on our most current expectations of policy rates and the inflation-adjusted (or real) bond risk premium.
We start by defining the expected secular real policy rate as the expected average rate of the fed funds rate after adjusting for inflation over the next 10 years.
Forecasting Bond Returns in the New Normal
by Saumil Parikh of PIMCO,
PIMCO has a detailed framework for deriving a forecast for secular bond returns based on our most current expectations of policy rates and the inflation-adjusted (or real) bond risk premium. We start by defining the expected secular real policy rate as the expected average rate of the fed funds rate after adjusting for inflation over the next 10 years.
Global Volatility
by Josh Thimons of PIMCO,
The Fed's new communication strategy may, in fact, be a more sensible policy prescription than calendar rate guidance. We expect increased market volatility, particularly around economic data releases. Investors with an understanding of the Fed's now increasingly transparent reaction function will find opportunities to profit in the volatility markets. According to our model of the Feds reaction function, presently every .25 of a percent unexpected change in the unemployment rate is likely to lead to roughly an 11 basis point change in the five-year Treasury yield.
The Walk of Life: Stepping Away From Dire Straits and Toward Active Short-Term Mgmt Strategies
Money market investors may find the benefits of recent regulatory and industry reforms bittersweet at best, as they are still tolerating borderline zero percent yields in a persistent low rate environment. Without creative strategies for liquidity management, many investors are finding themselves in the "dire straits" of actual negative real returns on their cash allocations even with modest current levels of inflation.
Love, Money or Disappointment: What Will Asian Credit Investors Find in Their Red Envelopes?
by Robert Mead, Raja Mukherji of PIMCO,
Our cyclical economic outlook for Asia in 2013 is unusually dependent on breakthroughs in structural policies. Although we continue to favor select opportunities in key sectors, in general Asian credit spreads are trading historically tight. Bottom-up research is critical, along with careful top-down views on shifting economic conditions, and investors need adequate compensation for taking credit risk. Some sectors and companies can grow significantly faster than their respective economies.
Rational Temperance
by Bill Gross of PIMCO,
While the market was indeed moving in the direction of "dot-com" fever three to four years later, the Dow Jones Industrial Average at the time was a relatively anorexic 6,000, and the trailing P/E ratio was only 12x. For a central bank that was then more concerned about economic growth and inflation as opposed to stock prices, risk spreads, and artificially suppressed interest rates, the Chairman's query made global headlines, became a book title for Professor Robert Shiller and a strategic beacon for portfolio managers thereafter.
Uncovering 'Diamonds in the Rough' in Today's Credit Markets
by Mark Kiesel of PIMCO,
There are still good opportunities for yield and total return in the credit markets, but there has been a shift in where and how investors can find them. A "diamond in the rough" is a credit that is under-covered, or not actively followed or researched by many investors. At PIMCO, we identify these opportunities through our top-down and bottom-up investment process. We've identified a number of sectors that appear poised for above-average growth.
Expanding the Toolkit for Monitoring Your Equity Managers
by Markus Aakko, Andrew Pyne of PIMCO,
Investors may want to consider active share when assessing whether and how their active equity managers add value beyond a passive benchmark. The methods for monitoring investment managers are well established. But given the importance of getting portfolio allocation right in a low-growth, low-return world, it's worth examining new ways to assess risk and value added. While tracking error has been held as a key measure for active risk, it may include elements that reflect market conditions rather than managers' actual decisions on risk.
The Squeeze: Reassessing the Japan/Korea/China Manufacturing Nexus
by John Longhurst of PIMCO,
If the yen settles between 95 and 100 to the dollar, it could be a game changer for Japanese companies which have restructured to become profitable at 75 yen to the dollar. Some Korean companies, especially those in heavy industry, may be squeezed by intensified Japanese and Chinese competition. We expect Korean firms to fish in profit pools in businesses related to their core competencies, chiefly to the detriment of Asian and European competitors.
Understanding Derivative Overlays, in All Their Forms
by Markus Aakko, Rene Martel of PIMCO,
Passively managed overlays are typically based on a simple formula, while active approaches involve more complex algorithms or decision-making. Overlay examples include portable alpha, LDI, currency, completion, rebalancing, and tactical asset allocation overlays -- as well as tail-risk hedging and hedge fund replication. Potential benefits include the ability to effectively manage cash, reduce costs and risk exposure, simplify manager transitions and express tactical views.
Unconventional Policies and Capital Flows
Although quantitative easing has grabbed the headlines, a number of central banks around the world have enacted other extraordinary measures in attempts to manage their economies. The Swiss National Bank (SNB), for example, adopted an exchange rate peg versus the euro while increasing its foreign exchange reserves to almost 80% of Swiss GDP.
Feasting in a Time of Famine: The South African Consumer
South Africa's consumer sector has been on a strong run for the past several years, but there are signs the consumer is now coming under pressure. For all the challenges that have faced the South African economy, most listed consumer companies have enjoyed a great run since 2008. However, a combination of factors strong growth in retail sales and credit along with the rise in consumer debt levels and weak employment growth suggest the South African consumer sector may have pulled consumption forward in a way that could prove ultimately unsustainable.
Credit Supernova!
by Bill Gross of PIMCO,
They say that time is money. What they don't say is that money may be running out of time. There may be a natural evolution to our fractionally reserved credit system which characterizes modern global finance. Much like the universe, which began with a big bang nearly 14 billion years ago, but is expanding so rapidly that scientists predict it will all end in a "big freeze" trillions of years from now, our current monetary system seems to require perpetual expansion to maintain its existence.
Pension Liabilities Time to Get Real
by Christian Stracke of PIMCO,
Creeping pension liabilities are an increasing concern for credit investors. Companies should provide more granular information on both sides of their pension balance sheets, as well as use more realistic assumptions. A few companies have improved their disclosures in recent years, but in general the information available to investors is still far from what we need.
Searching for Growth in a Low-Growth World
by Austin Graff of PIMCO,
We believe corporate profit growth will fall short of sell-side consensus estimates. But companies with inflation-linked revenues and supply side advantages to drive revenue growth, and those with ample cost levers to improve margins, are positioned for sustained earnings growth in the New Normal.
Tail Risk Hedging: It Pays to Be Countercyclical
by Vineer Bhansali of PIMCO,
The cost of hedging in absolute terms is back to pre-crisis lows. Quiet markets, low volatility and a lack of visible risks on the horizon can lead to complacence and increasingly dangerous, leveraged positions. Many credit markets have been direct beneficiaries of the belief in seemingly lower tail risks in equity markets, and could also end up suffering if there is a re-emergence of widespread fear of, and upward repricing of, these tails. Investors should consider taking this opportunity to reload their hedges as soon as they can.
PIMCO's Secular Forum Preview
by Mohamed El-Erian of PIMCO,
It is almost time again for PIMCO's Secular Forum a critical part of the firm's investment process. This annual event, which takes place each May, brings together our investment professionals from around the world to debate and specify the key themes that we believe will affect the global economy and, consequently, our investment strategies over the next three to five years from asset allocation and relative value positioning to returns expectations and risk management.
The Year Past, The Year Ahead
by Michael Gomez of PIMCO,
The multiyear run of performance by emerging market (EM) sovereign external debt has been remarkable but residual valuations look either just fair (investment grade) or expensive (high yield) versus other comparable credits. We still see abundant opportunities in EM local markets, while EM equities are poised to benefit from a relatively low starting point for both earnings and earnings expectations.
The Year Past, The Year Ahead
by Michael Gomez of PIMCO,
While not immune to global economic headwinds, emerging market investments remain well positioned to outperform their developed world counterparts over time. The multiyear run of performance by emerging market (EM) sovereign external debt has been remarkable but residual valuations look either just fair (investment grade) or expensive (high yield) versus other comparable credits. We still see abundant opportunities in EM local markets, while EM equities are poised to benefit from a relatively low starting point for both earnings and earnings expectations.
Ten Acts for Chairman Bernanke in January 2013
by Tony Crescenzi of PIMCO,
Federal Reserve Chairman Ben Bernankes term ends in January 2014, and it is unclear whether he will stay on for another. We expect Bernanke will muster every means he can over the next year to help the U.S. and indeed the world emerge from a gloomy time.Here, then, are 10 items we suggest for Ben Bernankes to-do list in 2013.
From Cliff to Ceiling: No Clear Signal for Investors
We expect the last minute deal in the lame duck session to result in about 1.3% of GDP contraction, slightly less than our earlier prediction of about 1.5%. The compromise eliminated (or at least delayed) the possibility of the most damaging equity market outcomes. The deal failed to set up a framework for structural deficit reform in 2013. Almost immediately, Congress must address the debt ceiling, the sequester and the continuing resolution to keep the government funded.
An Unconstrained Approach to Bond Market Investing
by Sabrina Callin, Lisa Kim of PIMCO,
Investors are increasingly focused on alternatives to traditional investment strategies. Unconstrained bond portfolio construction should be driven by an outcome-oriented goal, with strategies assessed on an individual risk/reward and correlation basis, and each investment in the portfolio evaluated rigorously for the expected risk and return as well as the potential impact of the correlation to other investments in the portfolio.
Money for Nothin' Writing Checks for Free
by Bill Gross of PIMCO,
It was Milton Friedman, not Ben Bernanke, who first made reference to dropping money from helicopters in order to prevent deflation. Bernanke's now famous "helicopter speech" in 2002, however, was no less enthusiastically supportive of the concept. In it, he boldly previewed the almost unimaginable policy solutions that would follow the black swan financial meltdown in 2008.
Rolling Tail Hedges: The Dynamic Tradeoff between Cost and Potency
by Vineer Bhansali of PIMCO,
In our hypothetical illustration, rebalancing tail risk hedges more frequently than once a year offers some benefit under all volatility curves (ignoring transaction costs) but the benefits are greatest when the volatility curve is flat or steep. Some of the benefits of rebalancing can quickly disappear if the transactions costs are large. Two key points for investors to consider: Hedging has to be a systematic, repeated, asset allocation decision to obtain best long-term benefits, and the hedge program has to be active and consider pricing levels so efficient rebalancing can be implemented.
PIMCO's Cyclical Outlook for Asia: Awaiting the Policy Breakthrough
Our base case for China includes incremental policy reform, but we also see an increased chance of a potential positive surprise on reform, resulting from the recent changes in leadership. Japan's new government will likely focus on reflating the structurally impaired economy, but policy effectiveness will remain questionable. Australia is being burdened by the unintended consequences of the policy responses of others, accompanied by the impending rebalancing of the Chinese economy.
PIMCO Cyclical Outlook for Europe: Policy Developments Will Shape Growth Prospects and Risks
by Andrew Balls of PIMCO,
Policy developments in particular, the European Central Banks acceptance of its role as a lender of last resort have helped to normalize European financial markets but been insufficient to promote decent growth. Eurozone leaders recently laid out a long-term roadmap to achieve stability, but the plan faces great execution risk, technically and politically, and in cross-border coordination. We continue to take a cautious approach and underweight European credit risk and European financials in general, looking for specific opportunities rather than broad exposure.
Energy Face-Off: North American Energy Independence vs. Canada's Export Plans
by John Devir of PIMCO,
President Obama's November 2011 postponement of a decision on whether to permit an oil pipeline from Canada's oil sands to the U.S. Gulf Coast caused a barrage of protests and negative press in Canada. Canada's new focus on building capacity to sell to Asia-Pacific could hinder U.S. ambitions of energy independence from overseas oil, since the U.S. imports roughly 30% of its crude oil from Canada. We see investor opportunities in rail transportation and pipeline systems that possess excess capacity.
PIMCO Cyclical Outlook: At Policy Crossroads
by Saumil Parikh of PIMCO,
The maturation of the global cyclical growth phase suggests we look to a handoff to more secular drivers of growth. But strong secular drivers remain elusive due to the continuation of New Normal headwinds.Policies are at important crossroads in every major economy. 2013 will be the year of policy change, with policymakers in major economies challenged to enact structural changes that spur private sector growth before government-balance-sheet-led growth is exhausted.
Strawberry Fields Forever?
by Bill Gross of PIMCO,
As John Lennon forewarned, it is getting harder to be someone, and harder to maintain the economic growth that investors have become accustomed to. The New Normal, like Strawberry Fields will take you down and lower your expectation of future asset returns. It may not last forever but it will be with us for a long, long time.
The Bank of Canada Has Barked, But Will It Bite?
As Canadian consumers have increased their mortgage debt and bid up housing prices, the potential for a disorderly unwinding of these imbalances rightly concerns the Bank of Canada. PIMCO believes that the banks next policy move will be to raise interest rates, but with the traditional aim of fighting inflation rather than reducing home prices and consumer debt. We expect the Bank of Canada to continue tightening mortgage credit and using moral suasion to damp the housing boom and discourage consumers from taking on more debt.
Deja Vu All Over Again
If the eurozone is to endure, it will require reduced economic differences among countries and larger common fiscal capacity. Emerging market central banks are likely to remain in wait-and-see mode while looking to the U.S. for clarity on the fiscal negotiations and domestic macro prints for signs of moderation in both inflation and activity. While central banks in advanced economies have not traditionally used explicit policies to target exchange rates, the European debt crisis may change all that.
After the Election, Fiscal Cliff Outcome May Surprise
Our base case for a fiscal cliff resolution continues to be a lame-duck mini-deal that would reflect about 1.5% of GDP in fiscal contraction in 2013 (vs. nearly 5% without a deal). But the dynamics of polarization and partisanship that played a role in past dysfunctional negotiations may have gotten worse. On a more optimistic note, it is widely known that second-term presidents are largely interested in their legacies spearheading noteworthy, bipartisan and lasting accomplishments for the history books.
What Would Happen at the Fed Under a Romney Presidency?
by Josh Thimons of PIMCO,
Between now and the election expect markets to continue to reflect the changing election probabilities. Expect Treasury yields to climb if Romneys probability of victory increases due to fear of what he will do when it comes to Fed nominations. However, any substantial rise in Treasury yields based upon a Romney victory is likely to be a buying opportunity, because Fed policy will be accommodative regardless of who controls the White House.
Time To Vote!
by Bill Gross of PIMCO,
So I pulled out my magic lamp that for some reason works only every October 22nd, and rubbed until the Genie appeared in his red and white checkered cloak with a 10-inch diameter Flavor Flav clock hanging ceremoniously around his neck. Being a rather forward, although not disrespectful Genie, he immediately said, "Mr. G, instead of the yield on the 10-year Treasury, perhaps this year you should wish to know who is going to win the Presidential election?"
Muddling Down the Middle
by Josh Thimons of PIMCO,
PIMCO expects that the debate over the fiscal cliff will end in fiscal consolidation, but not a fiscal catastrophe. Unfortunately, while the Fed's monetary policy actions have been, by and large, successful in achieving its intermediate-term goal of increasing asset valuations, they have not been effective in influencing real economic outcomes. Our forecast for the drag on GDP from the fiscal cliff in the coming year is roughly negative 1.5%. Improvement in the housing market will only fill a small part in that hole.
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