Bill Gross: Cult Figures

The 6.6% real [rate of] return [on since 1912] belied a commonsensical flaw much like that of a chain letter or yes—a Ponzi scheme…

If an economy’s GDP could only provide 3.5% more goods and services per year, then how could one segment (stockholders) so consistently at the expense of the others?

The…”illogic” of such an arrangement when carried forward another century to 2112 seems obvious as well. If continue to appreciate at a 3% higher rate than the itself, then stockholders will command not only a disproportionate share of wealth but nearly all of the money in the world!

In his Investment Outlook newsletter for August, Bill Gross, a Keynesian and the president of PIMCO, the world’s largest bond fund, says that not only will stock or equity investors not be able to make the average 6.6 percent returns of the past, neither will bonds. His argument is very persuasive:

With long Treasuries currently yielding 2.55%, it is even more of a stretch to assume that long-term bonds — and the bond market — will replicate the performance of decades past.

He reminds his readers that the great bull market in bonds began in 1981 when interest rates were 14½ percent. The long slow decline in interest rates has resulted in bond value appreciation that more than made up for the decline in interest rates. And besides, most of those capital gains were taxed at lower rates than the interest they paid. So bondholders enjoyed a double benefit: capital appreciation, and lower taxes on that appreciation.

But that game is over. Explains Gross:

Private funds, government budgets and household savings balances have in many cases been predicated and justified on the basis of 7-8% minimum asset appreciation annually.

One of the country’s largest state funds, for instance, recently assumed that its diversified portfolio would appreciate at a real rate of 4.75%. Assuming a goodly portion of that is in bonds yielding at 1-2% real [inflation-adjusted returns], then must do some very heavy lifting at 7-8% after adjusting for inflation.

And that, according to Gross, just simply isn’t going to happen.

What will be the result? The greatest pension “bust” the world has ever seen. The forced haircuts we’re just beginning to see in cities in California and Wisconsin are just the tip of the iceberg. I’m sorry, but it’s better to know it now than be surprised by it later.

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