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Gross Cuts Treasuries, Raises Mortgages in Fed Buy Bet

PIMCO Co-chief Investment Officer Bill Gross
Bill Gross, co-chief investment officer of Pacific Investment Management Co. Photographer: Andrew Harrer/Bloomberg

Pacific Investment Management Co.’s Bill Gross said that while more monetary stimulus isn’t likely at the moment, additional quantitative easing remains an option for the Federal Reserve if employment growth is sluggish.

“The chairman has not ruled it out,” Gross, who runs the world’s biggest bond fund, said during a Bloomberg Television “Street Smart” interview with Trish Regan. “If we see some weak employment reports over the next few months, then QE3 is back on.”

The central bank remains “prepared to do more as needed,” Fed Chairman Ben S. Bernanke said yesterday at a press conference following a meeting of the Federal Open Market Committee in Washington, where policy makers reiterated their pledge to keep borrowing rates at record lows through 2014.

Yields on benchmark 10-year Treasury notes are likely to remain around 2 percent through the end of the year with the Fed and other central banks keeping interest rates at artificially low levels, Gross said. Pimco favors mortgage securities over Treasuries because of the additional yield they offer over government debt in that environment, he said.

“Mortgages benefit from inactivity and low volatility,” he said. Gross cut holdings of Treasuries in March to 32 percent in the $252.4 billion Total Return Fund and raised the percentage of mortgages to 53 percent, the highest since June 2009. “If you expect yields to stay the same for the next one, two or three years, then the 100 basis points or 150 basis points from a mortgage is much better than the 2 percent from a 10-year Treasury.”

Operation Twist

Gross said in March that the Fed will probably shift focus to mortgage securities to keep borrowing rates low when its so-called Operation Twist program ends in June.

The central bank is pursuing a maturity-extension program announced in September to replace $400 billion of short-term debt in its portfolio with longer-term securities. The Fed purchased $2.3 trillion of debt in two rounds of quantitative easing that have become known as QE1 and QE2 as part of its efforts to support the world’s biggest economy.

“We’re really moving into a weaker, not necessarily weak, but a weaker employment framework, which would probably produce 150,000 jobs, but not the 200,000 that got the market excited,” Gross said. Reducing the unemployment rate to a target of 7 percent or lower, may require additional QE, he said.

‘Dysfunctional Family’

The yield on the 10-year note dropped to an eight week low of 1.91 percent on April 23 after touching 2.4 percent on March 30 as investors poured into the securities as the European debt crisis worsened.

“Euro land is a dysfunctional family,” Gross said. “It’s more dysfunctional than Democrats and Republicans in Washington,” he said, adding that Germany may have to continue to subsidize bailouts.

Gross’s fund has returned 5.9 percent in the past year, beating 50 percent of its peers, according to data compiled by Bloomberg. It gained 1.4 percent during the past month, better than 99 percent of competitors. Over the past five years, Gross has topped 98 percent of similar funds.

Pimco, a unit of the Munich-based insurer Allianz SE, managed $1.77 trillion of assets as of March 31, including assets managed on behalf of its parent’s affiliated companies.

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