Gross Recommends TIPS as U.S. Yields Lag Behind Inflation

PIMCO Co-Chief Investment Officer Bill Gross
Pacific Investment Management Co. (PIMCO) Co-Chief Investment Officer Bill Gross. Photographer: Andrew Harrer/Bloomberg

Bill Gross recommended Treasury Inflation Protected Securities as U.S. five-year yields lagged behind the inflation rate by the most in six months.

Gross, who runs the world’s biggest bond fund at Pacific Investment Management Co., said investors should avoid longer-term Treasuries because policies to spur growth will boost costs in the economy. Five-year notes yielded 0.62 percent, versus 2.2 percent inflation, based on consumer prices. The so-called real yield was negative 1.58 percent, the least since May.

“Current bond yields are not enough,” said Yoshiyuki Suzuki, the head of fixed income in Tokyo at Fukoku Mutual Life Insurance Co., which has about $70 billion in assets. “In the short term, bonds are a safe haven. In the long term, inflation is an invisible cost that not every investor can tolerate.”

Benchmark 10-year yields were little changed at 1.61 percent at 9.28 a.m. London time, according to Bloomberg Bond Trader data. The price of the 1.625 percent security due in November 2022 was 100 5/32. Suzuki said he’s waiting for 10-year rates to rise past 2 percent before buying.

TIPS have returned 8.3 percent in 2012, versus 2.7 percent for conventional Treasuries, according to Bank of America Merrill Lynch indexes. U.S. corporate bonds handed investors 10 percent, the data show. Japanese bonds gained 2.1 percent.

Treasuries rose yesterday, pushing the yield down two basis points, or 0.02 percentage point. President Barack Obama said a Republican offer on averting the so-called fiscal cliff of pending tax increases and spending cuts doesn’t go far enough, supporting demand for the relative safety of debt.

Spur Expansion

Economic growth may be less than 2 percent in the U.S. and other developed nations, Gross wrote yesterday in his monthly investment outlook on the Newport Beach, California-based company’s website. Efforts to spur the expansion may send 10- to 30-year yields higher over the next several years, he wrote.

Gross increased holdings of U.S. government and Treasury debt in Pimco’s $285 billion Total Return Fund to 24 percent of assets last month from 20 percent in September, according to a report on the money manager’s website. The category includes TIPS. Mortgages remained the fund’s largest holding at 47 percent. Pimco is a unit of the Munich-based insurer Allianz SE.

Reports today will show growth in U.S. services industries slowed, the pace of hiring ebbed and factory orders failed to grow, according to Bloomberg News surveys of economists.

Following today’s private report on jobs by ADP Research Institute, Labor Department data on Dec. 7 will show payrolls rose by 87,000 workers last month, the smallest gain since June, another survey showed.

Fed Purchases

To support the U.S. economy by capping borrowing costs, the Federal Reserve is buying $40 billion of mortgage bonds a month. It is also swapping about $45 billion of short-term Treasuries from its holdings for longer-term debt each month under a program scheduled to end by Dec. 31. The central bank plans to buy as much as $5.25 billion of securities maturing from February 2021 to November 2022 today according to the Fed Bank of New York’s website.

Policy makers will probably announce new Treasury purchases for next year of $45 billion per month, according to JPMorgan Chase & Co., one of the 21 primary dealers that trade directly with the central bank.

Fed Bank of St. Louis President James Bullard said on Dec. 3 that replacing the swap with outright purchases of the same amount would represent a policy easing that could risk higher inflation.

Strong Case

Eric Rosengren, president of the Fed Bank of Boston, said the same day he sees a “strong case” for the central bank to buy bonds at the current monthly pace of $85 billion after the exchange program expires to encourage economic growth. Bullard and Rosengren both vote on monetary policy next year.

U.S. consumer price gains have averaged 2.5 percent over the past decade, after rising to as high as 14.8 percent in 1980. The Fed’s preferred measure of inflation expectations was 2.69 percent as of Nov. 30, based on the most recent data compiled by Bloomberg. The five-year, five-year forward break-even rate has averaged 2.75 percent over the past decade.

BlackRock Inc., the world’s biggest asset manager overseeing $3.67 trillion, is also warning against yields that fail to keep up with prices in the economy.

“You’re already losing money even without having to have a forecast about rising interest rates,” Jeffrey Rosenberg, the New York-based chief investment strategist for fixed income at BlackRock, said Nov. 29 on the “Bloomberg Surveillance” radio program with Tom Keene and Michael McKee in New York. “There are other ways to have that safety. There are not-so-risky corporate bonds that offer higher yields, not tremendously higher, but at least the yield is above the level of inflation.”

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