Thursday, March 10, 2011

The Market Has Lost Its Fundamental Value Anchor

... or so says Bill Gross in his latest monthly newsletter to PIMCO investors.
Ultimately, however, the devil gets his due or at least the central bankers run out of mathematical room to lower real yields below commonsensical floors. Today’s negative real yield on 5-year TIPS (Treasury Inflation-Protected Securities) is perhaps reflective of a market that has lost its fundamental value anchor. A century-long history of average 5-year real yields would point out that bond investors in Aaa 5-year sovereign space have demanded and received a real interest rate return of 1.5% instead of today’s -0.1%. We are being shortchanged, in other words, by 160 basis points from the get-go, a “haircut” that is but one of four ways that governments attempt to escape from an over-levered national balance sheet.
Bill has decided to sell all Treasuries out of his bond fund, the largest bond fund in the world. The reason is that the interest on Treasuries is below a level worth investing money. I maintain that the low interest rates and money printing have less to do with boosting the economy than it does with making sure the government can borrow all the money it needs. If it weren't for the Fed loaning $600B or so to the government, the deficit wouldn't be so big because the government wouldn't be able to find any lenders. PIMCO's investment decisions bear this out.

Bill Gross makes the point that this transition from the Fed concentrating on maintaining interest rates to the Fed concentrating on feeding (printed) money to the government has wrecked the accepted standard against which other investments are measured: the Treasury. Bill's not just some nutty blogger with an opinion, he's the manager of the world's largest bond fund. He's doing more than writing about it, he's selling the things and telling everyone else to do the same.


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