Bill Gross And His Latest Investment Outlook
This morning I was alerted to the fact that legendary bond investor Bill Gross just released his latest “Investment Outlook” on the PIMCO website. As usual, an informative, as well as entertaining, read. In “Mooooooo!” the managing director of Pacific Investment Management Company discussed the ongoing credit crunch in the United States, and specifically talks about the slumping housing market here. Gross wrote:
Yet housing, unlike other asset classes, carries with it an aura more like a bad dream than a fairy tale. Unlike the frog that when kissed turns into a handsome prince, housing can morph a froglike economy into something resembling Godzilla. That is because it is the most levered asset class and the one held by more “investor” citizens than any other. U.S. homes are market valued at over 20 trillion dollars with nearly half of the value supported by mortgage finance of one sort or another. At first blush that appears to be reasonably levered, but at the margin, homes purchased in 2004 and beyond are now at risk of turning upside down – negative equity – and there are some 25 million or so of those. The “upsidedownness” in many cases results in foreclosures, or outright abandonment and most certainly serves as an example of what not to do for millions of twentysomethings or new citizens choosing between homeownership and renting. The dominoes fall month-by-month, forcing prices ever lower as shown in Chart 1 provided by Case-Shiller. An asset deflation in turn becomes a debt deflation, as subprimes, alt-As, and finally prime mortgages surrender to the seemingly inevitable tide. PIMCO estimates a total of 5 trillion dollars of mortgage loans are in risky asset categories and that nearly 1 trillion dollars of cumulative losses will finally mark the gravestone of this housing bubble. The problem with writing off 1 trillion dollars from the finance industry’s cumulative balance sheet is that if not matched by capital raising, it necessitates a sale of assets, a reduction in lending or both that in turn begins to affect economic growth, creating what Mohamed El-Erian fears as a “negative feedback loop.”
“…nearly 1 trillion dollars of cumulative losses will finally mark the gravestone of this housing bubble.” Bloomberg estimates that the global credit squeeze, triggered by housing, has resulted in more than $468 billion in write-downs and losses at banks and brokerages to date.
Gross talked about how to reverse housing’s deterioration. He began by saying:
Make no mistake, the current conundrum that must be solved is: how to make the price of 120 million U.S. barns stop going down in price and then to make them go up again. That, however, is easier said than done. One of the wisest men I know has this serious but admittedly impractical solution: have the government buy one million new/unoccupied homes, blow them up, and then start all over again.
All joking aside, the “King of Bonds” suggested:
…the yield on a 30-year agency mortgage-backed loan has actually risen since the Fed somewhat unexpectedly began to lower Fed Funds in early September of 2007. Add to that of course, the increased fees, points, and total spread that an actual homebuyer pays to finance his purchase now as opposed to then, and it is obvious that homes are not the bargains that starving realtors claim they might be…
Blow them up? Well, yes, I suppose if we could. But absent that, lowering the cost of mortgage credit via the omnibus housing/GSE bill now placed before the Congress and the President is the best way to begin the long journey back to normalcy.
His latest “Investment Outlook” can be accessed from the PIMCO website here.
Source:
“Mooooooo!”
Investment Outlook, August 2008
Bill Gross
PIMCO, July 25, 2008
