How Bill Gross’ wrong call on bonds has cost his Pimco investors

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Bond market guru Bill Gross is telling his investors what many of them already know: He made the wrong call on U.S. Treasury bond interest rates this year, and that has cost him dearly in his renowned Pimco Total Return bond fund.

Gross told the Financial Times on Monday that the U.S. economy has grown more slowly in 2011 than he had expected, which has pushed Treasury bond yields lower as investors have rushed for relative safety.

Because he kept the $245-billion Pimco fund largely out of Treasuries until recently, Gross missed out on the rising market value of older fixed-rate Treasuries as rates on new bonds fell.

“Do I wish I had more Treasuries? Yeah, that’s pretty obvious,” Gross told the FT.

The Wall Street Journal followed the FT report Monday with a story that had Gross saying he had “lost sleep” over his wrong-way bet on U.S. bonds.

In an interview with the Los Angeles Times on Aug. 18, Gross conceded that “we capitulated a few weeks ago, and we [now] have a fair amount of Treasuries” in Pimco Total Return. The Newport Beach-based fund also owns an array of other bonds, including corporate, mortgage and foreign issues.

But by missing the rally in Treasuries, the Pimco fund is up a modest 3.2% year to date, trailing the returns of about 70% of its peer funds and lagging the 5.6% return of its benchmark index, according to Bloomberg News data.

The Vanguard Intermediate-Term Bond index fund, which seeks to track another popular bond market index, is up 8.5% this year, more than twice the Pimco fund’s return.

Gross, 67, had railed against holding Treasury bonds in the first half of this year, warning repeatedly that he expected market interest rates on the securities to surge once the Fed finished its $600-billion bond-buying program June 30. Rising market rates would have devalued older Treasury bonds.

But the yield on the benchmark 10-year T-note (charted at left), which fell from 3.74% in February to 3.16% by June 30, has collapsed since then as the U.S. economy has shown more signs of weakness. The T-note yield was at 2.26% on Monday.

Gross now believes the chances are “better than 50-50” that the U.S. is headed for another recession.
He said on Aug. 18 that he had been buying Treasuries maturing in five to seven years, but that he still was avoiding longer-term issues. “I don’t want to buy 10-year Treasuries at 2% or 30-years at 3.45%,” he said, citing the risk that rising inflation over time could devour those returns.

The Pimco Total Return fund’s underperformance this year is a rare miss for Gross. The fund, a staple of many 401(k) retirement savings plans, still is up an average of 8.3% a year over the last five years, beating 98% of its peer funds.

-- Tom Petruno

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