Saturday, February 21, 2009

Fortune: Is PIMCO's Bill Gross Too Powerful?

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Excellent piece in Fortune... outside of all the other troubles with this market; it appears in this new era those that sit with the government to devise strategy on how to "save us" sure seem to know a lot about where to position themselves. No conflict there; not only is this "talking" your book - which money managers do each and every day, but this specific firm is actually in with government "creating the playbook" - to me that's a whole different universe.

In [Dec 23: El-Erian "2009 - Year of the Economic Crisis"]

One of the few rationale (non cheerleading) voices on CNBC America (along with Rick Santelli) is Mohamed El-Erian of PIMCO [Dec 17: PIMCO's Mohamed El-Erian] I have not posted much of his stuff because there has been quite an inherent conflict of interest between PIMCO and the US government; it seems the US government goes to PIMCO (the biggest bond investor on the planet) on how to solve the credit/bond market issues and PIMCO is "perfectly" positioned for the bailouts - that they essentially advocate. Imagine that. It is sort of like Government Sachs of the West Coast.


In [Jan 8: WSJ - Backstop Sought for Muni Arena]

Looks like "those in the know" knew about this before us - that never happens on Wall Street...even playing field and all - right Government Sachs? PIMCO? Just a random walk down Wall Street *cough*

This is now a market where if you know the people who are sitting in on meetings with the Treasury, Federal Reserve, and the Administration - you make money hand over fist. Meaning, the little guy has no chance at the "easy pickings"


And so it goes in Cramerica - home of Reverse Robin Hood (steal from the poor to give to the upper 0.2%)

From Fortune...
  • Gross, 65, founder and co-chief investment officer of Pimco, the world's largest and most influential bond investment house,....
  • So far Gross and Mohamed El-Erian, 50, who serves as both CEO and co-CIO, have deftly navigated the most treacherous bond market in memory. Thanks to enormous bets on mortgage bonds backed by Fannie Mae (FNM, Fortune 500) and Freddie Mac (FRE, Fortune 500), Pimco had an outstanding year.
  • Total Return, the firm's flagship mutual fund, earned 4.8% in 2008 while the typical intermediate-term bond fund lost 4.7%, according to Morningstar. That gain, plus investor inflows of $14 billion, help cement Total Return's position as the world's largest mutual fund, with $132 billion in assets (as of Jan. 1). Pimco, which since 2000 has been a subsidiary of German financial conglomerate Allianz (AZ), now manages $747 billion in assets.
  • But Pimco is much more than just a big bond house. For one thing, it has become the U.S. government's partner in reviving the credit markets. It runs the Federal Reserve's $251 billion commercial paper program, which keeps short-term loans flowing to corporate America. It is also one of four asset managers picked to run the government's $500 billion program to purchase mortgage-backed securities.
  • Pimco is serving as a buyer of last resort for hedge funds and others seeking to sell bonds to raise cash. "They don't want to, and often can't, sell their bond portfolios in bits and pieces," says El-Erian, "but we are big and liquid enough to buy the entire thing."
  • Pimco also will be among the few institutional investors able to soak up the coming onslaught of Treasuries, as well as mortgage paper backed by Fannie Mae and Freddie Mac, and municipal bonds.
  • Pimco has become essential to the functioning of the credit markets - and the revival of the economy. "If Pimco didn't exist, the government would have to create it," says Paul Kedrosky (hi Paul) "It needs an entity that can provide the market liquidity that Pimco can provide."
  • Gross is well aware of his firm's special status. "Our role now is to make money for Pimco, but it is also much greater," Gross tells Fortune. "We efficiently allocate capital around the U.S. and the world. We are in the business of capitalism."
  • Not everyone is comfortable with Pimco's growing power and prominence. Peter Cohan, a venture capitalist and management consultant, says he's concerned that Pimco may have too much sway over Washington and be in a position to dictate policy choices that might be good for Pimco but bad for taxpayers. "This is a bilateral monopoly with one big seller and one big buyer," he says. "Gross, a famously good gambler, knows that winning in this type of market means threatening not to buy when the government needs to sell. Gross has the government in a weak negotiating position."
  • Josh Rosner of research firm Graham Fisher is not happy with Pimco's dual roles as private investor and manager of government bailout programs. "Gross is a deeply conflicted player given undue sway in matters of public interest that are potentially at odds with his positions."
  • Indeed, Pimco's success stems from shrewd bets on government intervention. For example, in 2008 Gross shifted from Treasuries and corporate bonds into mortgage debt backed by Fannie and Freddie because he believed that the government would ultimately keep those government-sponsored enterprises (GSEs) afloat. By May, Gross had moved 60% of Total Return into GSE-backed bonds, up from 20% the year before. "In a way, we've partnered with the government," says El-Erian. "We looked for assets that we felt the government would eventually have to own or support."
  • Pimco also made a bet on GMAC, the struggling finance arm of General Motors (GM, Fortune 500), reasoning that Washington would not let the lender fail for fear of crippling the U.S. auto industry. "We tried to move ahead of the government," says Gross, "to purchase assets before we believe they will have to."
  • Once the financial crisis hit, Gross was not shy about calling for a bailout - and he is an especially effective advocate for his causes. Where many big money managers try to keep a low profile, Gross has always maintained a forceful public persona, making regular television appearances to promote his views. An excellent writer, he delivers influential market commentaries on the Pimco website and in newspapers and magazines (including Fortune).
  • In a Pimco newsletter published on Sept. 4, 2008, for example, Gross wrote: "We, as well as our sovereign wealth fund and central bank counterparts, are reluctant to make additional commitments" to troubled companies unless the Treasury essentially guarantees their solvency. Later that day Gross made the same argument to CNBC's Erin Burnett. On Sept. 7, three days after Gross's CNBC appearance, the government placed Fannie and Freddie under conservatorship. (I remember this case; I also believe the Chinese government was making demand to back the debt based on what ahs come out since - as we see above, the US government being the debt addict it is, in bargaining from a position of weakness) That move trashed Fannie and Freddie's common and preferred equity but provided a huge boost to their bonds - and to Pimco. The Total Return fund jumped 1.3%, or $1.7 billion.
  • But a number of critics contend that Gross was giving the government an ultimatum. "He convinced the Treasury to keep his bonds from going to zero, or else he would stop lending money to distressed companies dthat were important to the economy," Cohan says.
  • The U.S. government will need to raise lots of capital to fuel efforts to end the recession. That will mean issuing lots of bonds. Since Pimco is one of the few buyers capable of absorbing such vast amounts, Washington "can't afford to let him walk away," says Cohan. "The government should recognize that just as some institutions are too big to fail, Pimco is too big to talk its book," says Rosner. He thinks that the government should have clipped bondholders as well as shareholders when it took over Fannie and Freddie.
  • To be sure, many economists and bankers agree with Gross's view that a failure at Fannie or Freddie would have had disastrous effects, spreading more pain throughout the housing markets and the asset-backed securities market, and hitting China, a huge holder of Fannie and Freddie debt, and other central banks.
  • The case of GMAC also raises questions about Pimco's power. Last fall GMAC executives applied to make GMAC a bank holding company so that it could access federal funds. Before they would approve the move, federal regulators insisted that 75% of GMAC's bonds be swapped for equity to shore up the company's capital base. Offering 60 cents on the dollar, GMAC was able to buy 59% of its bonds. But Pimco, which held a big chunk, refused the deal. The government blinked, allowing GMAC to become a bank holding company in late December even though it hadn't met the 75% threshold. After the conversion, GMAC bonds rose in value; Pimco says it plans to hold them to maturity.
  • In the pages of the Wall Street Journal, on Bloomberg, and on CNBC, they have recently said that the government should buy mortgage-backed securities and agency debt rather than long-dated Treasuries, as the Treasury officials have proposed. They've also supported the idea of the government's buying bad assets from banks. These opinions support the firm's book: Pimco still has a huge position in GSE-backed mortgage debt, as well as the preferred stock and debt of big banks. But that doesn't make the views wrong.
  • Rarely, if ever, has one firm occupied such a pivotal role in the nation's financial system; but rarely has the system been in such distress. Some critics, of course, may simply be envious of Pimco's success. "It could be a case of attacking the leader," says Lawrence White, the Morningstar analyst who covers Pimco.
To finish - this great quote from James Carville:

“Early in the Clinton days, the hallmark of policy was, if you did this, how would it affect the bond market?,” Carville said in an interview last year. “Every time I would talk to someone, they would say, ‘You can’t do that, it will freak the bond market out.’ I said, ‘Goddamn, whoever the bond market is, these bastards are powerful.’”

Classic.

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