Bill Gross: more debt won't solve the debt crisis

Pimco’s veteran bond manager Bill Gross has warned policymakers they cannot solve a debt crisis by creating more debt - the scarce but necessary elixir growth must be manufactured.

Gross, who manages the world's largest bond fund, Pimco Total Return Bond, used his latest investor update to argue that rate cuts and discounted future cash flows can only go so far.

‘Growth is the elixir that seems to make every ache, pain or serious ailment go away. Sovereign debt too high? Just grow your way out of it. Unemployment rates hitting historical peaks? Growth produces jobs. Stock markets depressed? Nothing a lot of growth wouldn't’t cure,' Gross said. 

The trouble with this, however, is that growth is a commodity the world is short of, while the world is brimming with debt, Gross added.

This debt – low yielding as it is - is not creating growth, Gross added. In its place the world is seeing 'minimal job creation, historically low investment, consumption turning into savings and GDP growth at less than New Normal levels.'

Extend this globally and there is reluctance among creditors to be sucked into the ‘vicious cycle’ of reinvesting money into a slowing economy - thereby further exacerbating the problem and leading Gross to believe that structural growth problems in developed economies 'cannot be solved by a magic penny or a magic trillion dollar bill, for that matter.’

So what does this view work its way into an investment case? When it comes bonds, Gross suggests avoiding longer-dated issues where inflation premiums will dominate performance.

He said, while the Fed’s Operation Twist has absorbed almost all the 20-30 year duration supply over the next six months, future quantitative easing programmes could push long-term yields higher in order to achieve a 2% or higher inflation objective.

‘Investors should consider migrating to the relatively safe haven of 1-10 year maturities offering ‘rolldown’ total returns of 2-3% with far less duration risk. In addition, Agency mortgages are back on the Fed’s menu and may be a featured ‘special’ in months to come.’

The comment regarding Agency mortgages could be viewed as a nod to the most recent manoeuvring of his Total Return fund portfolio, which saw him pile into mortgage-backed securities.

‘In sum, with both earnings and bond yields near historic lows as a result of a lack of real growth in developed economies, investors will need to find lots of pennies to produce asset returns much above 5% in bonds or equities,’ concluded Gross.