WTF is up with PIMCO ?
Strange things are afoot at the biggest bond fund in the world. A weird sense of panic seems to be emanating from the West Coast fixed income specialists.
I suspect it may have something to do with with the fact they are loaded to the gills with paper from Fannie & Freddie (FNM & FRE) — a trade that has worked out exceedingly well. Despite this — or perhaps because of it — the latest noise from the boys from Newport Beach is increasingly odd, even desperate sounding.
I do not know if they are genuinely terrified of a major meltdown in the global economy, or worried about their book. Maybe they are looking for an exit, and not finding one.
The WSJ noted about PIMCO:
The bond-management firm has posted good gains since the credit crunch began last year, in part by betting big on mortgage debt tied to Fannie Mae and Freddie Mac — whose implicit government backing and relative safety compared with other securities has helped keep their bond returns in the black.
Now as both entities show continued financial weakness and many parts of the bond market remain pressured, a main challenge for Mr. El-Erian, 50 years old, will be sustaining Pimco’s winning returns.
Then came the very strange commentary Bill Gross posted at the PIMCO site — a weird, quasi-homage to Cramer, which then reiterated the expected pain of a deleveraging and asset liquidation.
Gross: Please Bailout Frannie!
click for video
What Happens During Delevering
1. Risk spreads, liquidity spreads, volatility, term premiums – they all go;
2. Delevering slows/stops when assets have been liquidated and/or sufficient capital has been raised to produce an equilibrium;
3. The raising of sufficient capital now depends on the entrance of new balance sheets. Absent that, prices of almost all assets will go down;
The above might seem simplistic to us at PIMCO but it is not necessarily clear to all readers. Term premiums? Risk spreads? Volatility? What do they have to do with bull or bear markets? Well, what Step 1 really says is that as GSEs, banks, investment banks, global hedge funds and even individual households delever their balance sheets by shedding assets, they lower the prices of not just what they are selling, but other securities that are arbitrageable within the marketplace.
Amid jitters about the future of Fannie Mae and Freddie Mac, China’s four biggest listed banks have pared back their holdings in debt related to the two U.S. mortgage giants. At the end of June, the four banks held a combined $23.28 billion of debt issued or guaranteed by Fannie and Freddie. That’s a small fraction of the trillions of dollars outstanding, but the reductions attracted interest as a possible gauge of broader sentiment toward such securities.
In an interview with Bloomberg, Gross all but pleaded for a Federal bailout of Fannie/Freddie (U.S. Must Buy Assets to Prevent `Tsunami,’ Gross Says):
The U.S. government needs to start using more of its money to support
markets to stem a burgeoning “financial tsunami,” according to Bill Gross, manager of the world’s biggest bond fund.
Banks, securities firms and hedge funds are dumping assets, driving down prices of bonds, real estate, stocks and commodities, Gross, co-chief investment officer of Newport Beach, California-based Pacific Investment Management Co., said in commentary posted on the firm’s Web site today.
“Unchecked, it can turn a campfire into a forest fire, a mild asset bear market into a destructive financial tsunami,” Gross said. “If we are to prevent a continuing asset and debt liquidation of near historic proportions, we will require policies that open up the balance sheet of the U.S. Treasury.”
The government needs to replace private investors who either don’t have the money to buy new assets or have been burned by losses, Gross said. Pimco, sovereign wealth funds and central banks are reluctant to fund financial firms after losses on investments they made to support the companies, Gross said. The world’s biggest banks and brokers have raised $364.4 billion in new capital after more than $500 billion in writedowns and credit losses since the beginning of last year.
OK, I’m game for a Federal bailout — but what’s a fair haircut for Stock holders? Preferred holders? Bondholders? In exchange for the US putting the 5 trillion dollars worth of exposure back on the US books, I propose haircuts of 100%, 25% and 10% respectively.
Perhaps there is no natural exit, and they are fearful of holding this to term, as some of the marks will be quite negative between now and when the paper is due.
Their solution? You and me and that guy behind the tree !
The rescue of Frannie PIMCO is proposing risks hyper inflation, as the government would be on the hook for another 5-6 trillion in liabilities, of which less than 10% are likely to default…
U.S. Must Buy Assets to Prevent `Tsunami,’ Gross Says
Bloomberg, Sept. 4 2008
There’s a Bull Market Somewhere?
PIMCO September 2008
Pimco’s Gross Lets the Freak Out
Minyanville, Sep 04, 2008 3:47 pm
China Pulls Back From Fannie, Freddie
Rose Yu and Amy Or
WSJ, September 3, 2008
Pimco Names El-Erian CEO Of the Bond-Investing Giant
WSJ, September 5, 2008