Bill Gross Calls
Fed Most Brazen Of All Ponzi Schemes, Says 30 Year
Bond Market Is Ending, Compares US Economy To Black Hole By Tyler Durden |
On 10/27/2010 09:09 -0500
A surprising amount of truth from Bill Gross this morning.
Now if only Bill Gross would explain why he has been buying
MBS on margin last month (in anticipation of the last move
higher in the "Sammy" scheme no doubt) we will
call it quits. Oddly enough, Bill Gross, who for the first
time confirms everything Zero Hedge has been saying for
almost two years now, is not accussed of hyperventilating...
yet - Run Turkey, Run from PIMCO
They say a country gets the politicians it deserves or
perhaps it deserves the politicians it gets. Whatever the
order, America is next in line, and as we go to the polls
in a few short days it’s incumbent upon a sleepy and
befuddled electorate to at least ask ourselves, “What’s
going on here?” Democrat or Republican, Elephant or
Donkey, nothing much ever seems to change. Each party has
shown it can add hundreds of billions of dollars to the
national debt with little to show for it or move our military
from one country to the next chasing phantoms instead of
focusing on more serious problems back home. This isn’t
a choice between chocolate and vanilla folks, it’s
all rocky road: a few marshmallows to get you excited before
the election, but with a lot of nuts to ruin the aftermath.
Each party’s campaign tactics remind me of airport
terminals pre-9/11 when solicitors only yards apart would
compete for the attention and dollars of travelers. “Save
the Whales,” one would demand, while the other would
pose as its evil twin – “Eat Whale Blubber,”
the makeshift sign would read. It didn’t matter which
slogan grabbed you, the end of the day’s results always
produced a pot of money for them and the whales were neither
saved nor eaten. American politics resemble an airline terminal
with a huckster’s bowl waiting to be filled every
two years.
And the paramount problem is not that we contribute so
willingly or even so cluelessly, but that there are only
two bowls to choose from. Thomas Friedman, the respected
author of The World Is Flat, and a weekly New York Times
Op-Ed author, recently suggested “ripping open this
two-party duopoly and having it challenged by a serious
third party” unencumbered by special interest megabucks.
“We basically have two bankrupt parties, bankrupting
the country,” was the explicit sentiment of his article,
and I couldn’t agree more – whales or no whales.
Was it relevant in 2004 that John Kerry was or was not an
admirable “swift boat” commander? Will the absence
of a mosque within several hundred yards of Ground Zero
solve our deficit crisis? Is Christine O’Donnell really
a witch? Did Meg Whitman employ an illegal maid? Who cares!
We are being conned, folks; Democrats and Republicans alike.
What have you really heard from either party that addresses
America’s future instead of its prurient overnight
fascination with scandal? Shame on them and of course, shame
on us. We’re getting what we deserve. Vote NO in November
– no to both parties. Vote NO to a two-party system
that trades promises for dollars and hope for power, and
leaves the American people high and dry.
There’s another important day next week and it rather
coincidentally occurs on Wednesday – the day after
Election Day – when either the Donkeys or the Elephants
will be celebrating a return to power and the continuation
of partisan bickering no matter who is in charge. Wednesday
is the day when the Fed will announce a renewed commitment
to Quantitative Easing – a polite form disguise for
“writing checks.” The market will be interested
in the amount (perhaps as much as an initial $500 billion)
as well as the targeted objective (perhaps a muddied version
of “2% inflation or bust!”). The announcement,
however, has been well telegraphed and the market’s
reaction is likely to be subdued. More important will be
the answer to the long-term question of “will it work?”
and perhaps its associated twin “will it create a
bond market bubble?”
Whatever the conclusion, not only investors, but the American
people should recognize that Wednesday, even more than Tuesday,
represents a critical inflection point in determining our
future prosperity. Of course we’ve tried it before,
most recently in the aftermath of the Lehman crisis, during
which the Fed wrote $1.5 trillion or so in “checks”
to purchase Agency mortgages and a smattering of Treasuries.
It might seem a tad dramatic then, to label QEII as “critical,”
sort of like those airport hucksters, I suppose, that sold
whale blubber for a living. But two years ago, there was
the implicit assumption that the U.S. and its associated
G-7 economies needed just an espresso or perhaps an Adderall
or two to get back to normal. Normal just hasn’t happened
yet, and economic historians such as Kenneth Rogoff and
Carmen Reinhart have since alerted us that countries in
the throes of delevering can take many, not several, years
to return to a steady state.
The Fed’s second round of QE, therefore, more closely
resembles an attempted hypodermic straight to the economy’s
heart than its mood elevator counterpart of 2009. If QEII
cannot reflate capital markets, if it can’t produce
2% inflation and an assumed reduction of unemployment rates
back towards historical levels, then it will be a long,
painful slog back to prosperity. Perhaps, as a vocal contingent
suggests, our paper-based foundation of wealth deserves
to be buried, making a fresh start from admittedly lower
levels. The Fed, on Wednesday, however, will decide that
it is better to keep the patient on life support with an
adrenaline injection and a following morphine drip than
to risk its demise and ultimate rebirth in another form.
We at PIMCO join with Ben Bernanke in this diagnosis, but
we will tell you, as perhaps he cannot, that the outcome
is by no means certain. We are, as even some Fed Governors
now publically admit, in a “liquidity trap,”
where interest rates or trillions in QEII asset purchases
may not stimulate borrowing or lending because consumer
demand is just not there. Escaping from a liquidity trap
may be impossible, much like light trapped in a black hole.
Just ask Japan. Ben Bernanke, however, will try –
it is, to be honest, all he can do. He can’t raise
or lower taxes, he can’t direct a fiscal thrust of
infrastructure spending, he can’t change our educational
system, he can’t force the Chinese to revalue their
currency – it is all he can do, and as he proceeds,
the dual questions of “will it work” and “will
it create a bond market bubble” will be answered.
We at PIMCO are not sure.
Still, while next Wednesday’s announcement will carry
our qualified endorsement, I must admit it may be similar
to a Turkey looking forward to a Thanksgiving Day celebration.
Bondholders, while immediate beneficiaries, will likely
eventually be delivered on a platter to more fortunate celebrants,
be they financial asset classes more adaptable to inflation
such as stocks or commodities, or perhaps the average American
on Main Street who might benefit from a hoped-for rise in
job growth or simply a boost in nominal wages, however deceptive
the illusion. Check writing in the trillions is not a bondholder’s
friend; it is in fact inflationary, and, if truth be told,
somewhat of a Ponzi scheme. Public debt, actually, has always
had a Ponzi-like characteristic. Granted, the U.S. has,
at times, paid down its national debt, but there was always
the assumption that as long as creditors could be found
to roll over existing loans – and buy new ones –
the game could keep going forever. Sovereign countries have
always implicitly acknowledged that the existing debt would
never be paid off because they would “grow”
their way out of the apparent predicament, allowing future’s
prosperity to continually pay for today’s finance.
Now, however, with growth in doubt, it seems that the Fed
has taken Charles Ponzi one step further. Instead of simply
paying for maturing debt with receipts from financial sector
creditors – banks, insurance companies, surplus reserve
nations and investment managers, to name the most significant
– the Fed has joined the party itself. Rather than
orchestrating the game from on high, it has jumped into
the pond with the other swimmers. One and one-half trillion
in checks were written in 2009, and trillions more lie ahead.
The Fed, in effect, is telling the markets not to worry
about our fiscal deficits, it will be the buyer of first
and perhaps last resort. There is no need – as with
Charles Ponzi – to find an increasing amount of future
gullibles, they will just write the check themselves. I
ask you: Has there ever been a Ponzi scheme so brazen? There
has not. This one is so unique that it requires a new name.
I call it a Sammy scheme, in honor of Uncle Sam and the
politicians (as well as its citizens) who have brought us
to this critical moment in time. It is not a Bernanke scheme,
because this is his only alternative and he shares no responsibility
for its origin. It is a Sammy scheme – you and I,
and the politicians that we elect every two years –
deserve all the blame.
Still, as I’ve indicated, a Sammy scheme is temporarily,
but not ultimately, a bondholder’s friend. It raises
bond prices to create the illusion of high annual returns,
but ultimately it reaches a dead-end where those prices
can no longer go up. Having arrived at its destination,
the market then offers near 0% returns and a picking of
the creditor’s pocket via inflation and negative real
interest rates. A similar fate, by the way, awaits stockholders,
although their ability to adjust somewhat to rising inflation
prevents such a startling conclusion. Last month I outlined
the case for low asset returns in almost all categories,
in part due to the end of the 30-year bull market in interest
rates, a trend accentuated by QEII in which 2- and 3-year
Treasury yields approach the 0% bound. Anyone for 1.10%
5-year Treasuries? Well, the Fed will buy them, but then
what, and how will PIMCO tell the 500 billion investor dollars
in the Total Return strategy and our equally valued 750
billion dollars of other assets that the Thanksgiving Day
axe has finally arrived?
We will tell them this. Certain Turkeys
receive a Thanksgiving pardon or they just run faster than
others! We intend PIMCO to be one of the chosen gobblers.
We haven’t been around for 35+ years and not figured
out a way to avoid the November axe. We are a survivor and
our clients are not going to be Turkeys on a platter. You
may not be strutting around the barnyard as briskly as you
used to – those near 10% annualized yields in stocks
and bonds are a thing of the past – but you’re
gonna be around next year, and then the next, and the next.
Interest rates may be rock bottom, but there are other ways
– what we call “safe spread” ways –to
beat the axe without taking a lot of risk: developing/emerging
market debt with higher yields and non-dollar denominations
is one way; high quality global corporate bonds are another.
Even U.S. Agency mortgages yielding 200 basis points more
than those 1% Treasuries, qualify as “safe spreads.”
While our “safe spread” terminology offers no
guarantees, it is designed to let you sleep at night with
less interest rate volatility. The Fed wants to buy, so
come on, Ben Bernanke, show us your best and perhaps last
moves on Wednesday next. You are doing what you have to
do, and it may or may not work. But either way it will likely
signify the end of a great 30-year bull market in bonds
and the necessity for bond managers and, yes, equity managers
to adjust to a new environment.
If a country gets the politicians it deserves, then the
same can be said of an investor – you’re gonna
get what you deserve. Vote No to Republican and Democratic
turkeys on Tuesday and Yes to PIMCO on Wednesday. We hope
to be your global investment authority for a new era of
“SAFE spread” with lower interest rate duration
and price risk, and still reasonably high potential returns.
For us, and hopefully you, Turkey Day may have to be postponed
indefinitely.