Bill Gross of Janus Capital spoke with Bloomberg Television’s Erik Schatzker about today’s Federal Open Market Committee statement and the outlook for Federal Reserve policy, global bond markets and Pacific Investment Management Co.’s move to hire former Fed Chairman Ben S. Bernanke as an adviser.
On Pimco hiring Bernanke, Gross said: “Obviously it’s a public relations effort….To be able to hook up with Ben Bernanke, I think it is. And that was one of the reasons why we did it with Alan Greenspan [when I was at Pimco], but we found out that there were some very positive benefits to it as well.”
When asked whether he would hire him if he could, Gross said: “I don’t think so. I have moved on in terms of my personal experience, and I am more than glad to read his weekly blogs, and get information that way and to spend the rest of my time in markets.”
Gross said he sees the Fed raising rates by 25 basis points: “They want to prove that they’re not healthy, but that they can get out of bed and stand on their own two legs. And that means a 25-basis point increase perhaps in September or December, but from that point forward, and that is the key, how quickly will they move back to what we know as a new neutral policy rate.”
Bill Gross interview video and transcript below
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ERIK SCHATZKER: I have been waiting a long time to come and visit Bill Gross here in Newport Beach, and finally the moment has arrived. Bill, thank you.
BILL GROSS: You’re welcome.
SCHATZKER: Let’s begin with the obvious. Today was an important day for the bond market because we got a Fed statement. Any surprises for you in the Fed statement?
GROSS: Not much. They spoke to transitory — transitorily low inflation, same thing in terms of growth. We had a GDP number today at —
SCHATZKER: Kind of a hideous GDP number.
GROSS: Yes, 0.2 percent, actually real final sales, which scratches out inventories, was a minus 0.5 percent, so really hideous into that negative number. But I don’t think the statement suggests too much difference in terms of their attitude going forward. They think inflation is going higher to, hopefully to two percent. They think real GDP is in a two to three percent zone. And so they are going to sit and wait until they get there.
SCHATZKER: So what conclusions then do you draw about the timing of a rate increase right now?
GROSS: Well I think it’s — it’s off in June, as some would say if we get a strong employment report a week from now that perhaps it is back on, but I think it is off. And I think perhaps they simply want to get off the dime. They want to prove that they’re not healthy, but that they can get out of bed and stand on their own two legs. And that means a 25-basis point increase perhaps in September or December, but from that point forward, and that is the key, how quickly will they move back to what we know as a new neutral policy rate.
SCHATZKER: And what would that be?
GROSS: Well to my way of thinking that it would be two percent nominal, then zero percent real. And now the old standard, the John Taylor, Taylor Rule standard, was basically a four percent nominal rate and a two percent real rate. Just some of the Fed members, a lot of the dots, those blue dots, basically suggest that three and three quarters to four percent nominal is still the number, but I — I hesitate.
SCHATZKER: So as far as June is concerned, you don’t read anything into the FOMC removing that sentence from the previous two statements about an increase in the Fed’s funds target being unlikely at the next meeting?
GROSS: I don’t think so. They were moving in that direction. I mean they had a transition four or five times in terms of the language. And I think they want the language out of there in terms of time dependency. They want to be data dependent, and the data to a considerable extent revolves around employment, labor and inflation.
SCHATZKER: Do you think it’s important for Janet Yellen and her colleagues to be able to prove that, in your words, they can get out of bed and stand on their own two feet?
GROSS: I think so. And I think it’s important from the standpoint of the health of a capitalistic economy, which is something that hasn’t been discussed a lot in terms of Fed meetings, but I — I think low interest rates can have negatives as well as positives. I mean the Fed has always sensed that the lower the rate, the better in terms of stimulating the economy, capital markets, stocks, the flow down in terms of wealth, et cetera, et cetera, but at some point when rates are so low, you keep the (INAUDIBLE) on big corporations because they borrow so cheaply.
You — you basically promote a situation in which business models, pension funds, insurance companies, banks can’t earn what they are supposed to earn. And so at some point, capitalism at the margin, not totally, but at the margin begins to break down. And so I think it is important that they move back up to a, and at least a semblance of a healthy Fed funds rate.
SCHATZKER: No zombies in a healthy capitalist economy.
GROSS: There are always zombies. And there were a lot of zombies in Japan, by the way, which proves the example to some extent. I mean they’re the only real modern economy that has experienced a high level of debt with zero percent interest rates for a long time. And — and, as we know, they’re not really doing very well.
SCHATZKER: Bill, Ben Bernanke is going to work as an advisor to your former colleagues, news of the day. Why is that a good move for PIMCO?
GROSS: Well when I was with PIMCO we hooked up with Alan Greenspan.
SCHATZKER: I remember, 2007.
GROSS: Sure. And he came for four or five years every quarter, and we had discussions, and dinners and so on. And I think it’s a — I think it’s a good move from — from that standpoint. Obviously it’s a public relations effort.
SCHATZKER: (INAUDIBLE). It’s a public relations effort?
GROSS: Well of course, to be able to hook up with Ben Bernanke, I think it is. And that was one of the reasons, one of the reasons why we did it with Alan Greenspan, but we found out that there were some very positive benefits to it as well.
SCHATZKER: Like what? What kind of value can a former Fed chairman provide?
GROSS: Well he can provide, and she can provide at some point in the future, Janet Yellen, —
SCHATZKER: Yes. That’s true, will be a former Fed chairman.
GROSS: And they can provide, if anything, a sense of what the — the Fed thinks in terms of how they approach a forward-looking problem such as inflation too low, or the real economy too low. And so that’s helpful. It doesn’t mean you got to buy in, and I don’t buy into the current Fed approach.
GROSS: But at least you know what they are thinking. And it’s a good example always to — to not fight the Fed, but to, as I put on a coffee mug long ago, to be very afraid.
SCHATZKER: So you would hire him if you could.
GROSS: I don’t think so. I have moved on in terms of my personal experience, and I’m — I am more than glad to read his weekly blogs, and get information that way and to spend the rest of my time in markets.
SCHATZKER: Is it right, Bill, for a former public official, and let’s recognize that there are few public officials who have held as much power as Ben Bernanke did, to trade on that experience, speaking, you know speaking engagements and meetings for $250,000 a shot, and presumably millions more with the gig that he’s just signed onto at PIMCO, and of course the other one at Citadel?
GROSS: Well I think it’s the acceptable standard. I mean Fed chairmen write books. Politicians write books sometimes before they are elected, and a lot of times afterwards. Politicians move on to K Street in terms of lobby land. And so whether it’s right or not, it’s imbued I think in our existing ethic that they should do that.
SCHATZKER: It sounds like you — you have sort of lukewarm feeling about it.
GROSS: Well I have a lukewarm feeling about politicians, and lobbyists and K Street. I can — I can really zing you on that one, but you don’t have time.
SCHATZKER: No. Tell me something. Let’s talk about the market. What motivated you to tweet about liquidity in the bond market today?
GROSS: Well I thought it was interesting. And I observed it, not that I haven’t been observing it for weeks and for months. The lack of liquidity is — is very visible, if — if only by watching markets move tick by tick, or four thirty-seconds by four thirty-seconds relative to what it has done in the past.
SCHATZKER: This is on — you — you observe these phenomena, let’s call it, in on the run treasuries.
GROSS: I do on one of my four Bloomberg screens.
SCHATZKER: But so because you hear people talking about the potential for a liquidity event in the credit market, less so in the treasury market.
GROSS: I think that’s true. And there’s no doubt that treasuries are the most liquid credit bond, the most liquid credit instrument in the world. But you can still observe a difference between now and then, and of course between now and Lehman, and other periods of time in — in financial history in which liquidity has — has been at risk. I am not suggesting that now is one of those points, but — but usually, Erik, when — when systems become highly levered, and that leverage for one reason or another has to be de-levered, if only at the margin, then liquidity is at risk, and you can — you can observe that.
SCHATZKER: You mentioned Lehman brothers. That was the last major liquidity event that we experienced. There was a minor one in October of last year. Would it take less now to trigger a major liquidity event than it did back in September of 2008?
GROSS: Well it depends on what less means and what you apply it to. I think Lehman was a function, to any considerable extent, of leverage with — with interest rates that were too high, real interest rates that were too high, and of course with — with banks and other institutions with not enough capital. But we’ve — we’ve changed to a certain extent, but there’s no doubt that if a central bank, if a Fed proceeded without caution in terms of raising interest rates and found that the real interest rate, the new neutral interest rate was too high, much like we found in 2006 and ’07, then, yes, that’s what happens to levered economies. There are butterflies out there. And sometimes they’re interest rate butterflies. Sometimes they’re economic butterflies, ala China, situations that one might not even imagine, but if you’re levered you’re at risk.
SCHATZKER: And we are levered.
GROSS: We are very levered. The world is very levered, though we are under the assumption that we have de-levered, and we have to some extent in the United States with household — household debt has come down to some extent because of defaults, sort of wipes the plate clean. But the world as a whole has continued to lever, and certainly China by 50 to 100 percent of GDP over the past four or five years. And so the only thing that really is the stabilizing the global situation are these low interest rates. And — and the high debt, low interest rates can be — can be very pacifying, but the minute that the interest rate changes with high debt then you have potential problems.
SCHATZKER: What’s riskier then, the leverage that the ECB is creating, the leverage that the Bank of Japan is creating, or the leverage you just referred to, the Bank of — the Bank of China is creating?
GROSS: Well I think leverage from the standpoint of private debt, central banks can always write checks for themselves and, in fact, they do this on an annual basis. And people would be amazed to know that the Fed, and the ECB and the Bank of Japan basically take the interest that they earn on, in the case of the Fed, $4 trillion, and they give it right back to the treasury. And — and so what does that mean? That basically means the treasury is issuing debt for free and that the Fed basically is absolving them of — of any potential interest cost for the next 10, 20, 30 years. It’s fascinating to me.
SCHATZKER: You tweeted another tweet last — last week that shorting German 10-year bunds was the trade of a lifetime. It was a pretty significant move in the German bond market today. Are you still short?
GROSS: Still the same positions, didn’t do much today, just observed. And it was very interesting, the situation I think expressing a lack of liquidity and the fact that investors are banking on Mario Draghi to buy, but perhaps when he or the ECB doesn’t buy, they look around to —
SCHATZKER: Well you so — I mean given the commitment that he has made, —
SCHATZKER: — are you surprised to see the market move this much?
GROSS: I think so. When I suggested it was the short of a lifetime, I suggested that over time —
SCHATZKER: He’s going to take a trade and (INAUDIBLE) eight days.
GROSS: — German interest rates would — would go higher, sort of a Keynesian type of thing. In the long run we are all — we’re all gunners, but yes I think it was a remarkable short-term move. The situation that I saw, just explaining it real quickly, is that the German 30-year bund yields today about 75 basis points. And typically over a long period of time that 75 basis points is what investors demand in terms of a premium because bonds go up and down so much.
And if that’s the case, if there’s really a 75-basis point risk premium based on volatility, then that means in Germany that investors are expecting the policy rates to be zero for the next 30 years. And even a commonsensical woman on the street can — can say, well that doesn’t sound right.
SCHATZKER: Tell me what other trades are working for you right now?
GROSS: Well basic — basically the volatility trades are working. And here’s — here’s where it gets interesting for me, as opposed to the market because all you hear about daily and weekly is the volatility, markets are volatile, which they’re always volatile. They move up and down.
And the question is, how volatile will they be. And today wasn’t a good example for my case, because prices moved a lot, but when you still have the ECB and the Bank of Japan writing $60 billion, EUR60 billion a month, and in the case of the ECB and Japan doing their own thing, then that basically tempers volatility, and so that’s — that’s my bet. As long as they are writing checks my best bet, in addition to the shorting of the German bund, is — is to say things aren’t going to change much, but you never hear that.
SCHATZKER: What, if anything, have you given up on? What didn’t work?
GROSS: Oh I had a flattener three or four months ago that didn’t work. And that’s — that’s a dicey trade. Usually during periods of time like this when you anticipate that the Fed is going to move at some point, then curves flatten. And I — I got caught up a little too early there, and lost some money, but doing well now.
SCHATZKER: Yes indeed. I think we’ve all noticed —
GROSS: Doing really well.
SCHATZKER: — that the global unconstrained, the Janus Global Unconstrained Bond Fund is — is pretty hot right now. I’m sure you feel good.
GROSS: It makes my evenings a lot — a lot more palatable.
SCHATZKER: Bill, thank you very much.
GROSS: Thanks to you.
SCHATZKER: Such a pleasure to be here with you in Newport Beach, California.