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Masters in Business: Janus Capital Group Bill Gross (Audio) · Masters in Business

0:03
Speaker 1: This is Masters in Business with Barry Ridholts on Bloomberg Radio. Okay,
0:09
Speaker 1: so I am very excited about this week's guest. There's
0:12
Speaker 1: a little bit of a backstory. Um, you're gonna hear
0:15
Speaker 1: this interview in two parts. This first part, for those
0:19
Speaker 1: of you who are either listening on Apple iTunes or
0:22
Speaker 1: at Bloomberg dot com, is about an hour. Part two
0:25
Speaker 1: will be posted next week or if you're listening to
0:28
Speaker 1: this at some point in the future, half an inch down. Um,
0:32
Speaker 1: this is really a fascinating interview with a fascinating character. Uh.
0:38
Speaker 1: A little backstory to how this interview came about. And
0:44
Speaker 1: I'm gonna make a really long story, not as short
0:47
Speaker 1: as some people would like, but it's really interesting and
0:50
Speaker 1: I like sharing this behind the scenes stuff with with listeners.
0:55
Speaker 1: So gross gets fired from Pimco or there's certainly a
1:00
Speaker 1: palace coup back in September, and lots of people are
1:06
Speaker 1: writing about it, and lots of people are piling on.
1:09
Speaker 1: You know, there was a whisper campaign to discredit him.
1:12
Speaker 1: Ever since Muhammed Hillarian left Pimco, there was a little
1:16
Speaker 1: bit of a sort of change in the air, and
1:21
Speaker 1: I think people got a little more bold. Some of
1:24
Speaker 1: the people who were the next tier below Gross and
1:26
Speaker 1: Hillarian began plotting to essentially depose the king, and effectively
1:33
Speaker 1: that's what what happened. But around that time September twenty
1:37
Speaker 1: early October, lots of stories came out. Everybody piled on.
1:42
Speaker 1: And you know, people sometimes say, hey, why don't you
1:45
Speaker 1: write about Bill Gross, And my answer was, I'm not interested.
1:49
Speaker 1: I have nothing to add. I think people are just
1:51
Speaker 1: ignoring a guy with a forty year track record. Look,
1:55
Speaker 1: he built a firm that and he I say this specifically,
1:59
Speaker 1: even though he gives credit to other people who worked
2:02
Speaker 1: with him and that it was a team effort, and
2:04
Speaker 1: there were thousands of people who work at PIMCO. The
2:07
Speaker 1: reality is the vast majority of the two trillion dollars
2:12
Speaker 1: let me repeat that, to trillion dollars that PIMCO raised
2:17
Speaker 1: over forty years came there because of Gross. End of story,
2:22
Speaker 1: And so I didn't want to pile on. We don't
2:26
Speaker 1: have any PIMCO funds. We don't, we're not a client
2:29
Speaker 1: of theirs. I just look at them and say, I don't.
2:34
Speaker 1: I don't need to add something if I'm not adding
2:37
Speaker 1: some value, And just to kick a guy when he's
2:40
Speaker 1: down despite a spectacular longtime track record seemed ridiculous to me.
2:46
Speaker 1: And I said this to one or two people, And
2:49
Speaker 1: sometimes these things travel around, and word gets to a
2:53
Speaker 1: friend of a friend of Bill, and we'll call it
2:56
Speaker 1: friends of Bill. And the friend of Bill reaches out
2:59
Speaker 1: to me, and I know him through other parties, and
3:03
Speaker 1: he says, so, I hear you're not interested in writing
3:05
Speaker 1: about Gross because you think it's not right to kick
3:07
Speaker 1: a guy with his track record when he's down. And
3:10
Speaker 1: my answer was yeah. He goes, well, what would happen
3:14
Speaker 1: if I shared with you a couple of bullet points
3:16
Speaker 1: about his exit? And I'm like, I'm happy to listen.
3:19
Speaker 1: And so he proceeds to give me one or two thoughts,
3:22
Speaker 1: and I say, you know, he's due to write a
3:25
Speaker 1: monthly letter and he left before he sent out is.
3:29
Speaker 1: They're called iOS, investment Outlooks. He's been publishing these for decades.
3:34
Speaker 1: I think I might want to write a monthly IO
3:38
Speaker 1: in the voice of Bill Gross. Now understand I've been
3:40
Speaker 1: reading him and Paul McCulley and Muhammad Allarian and the
3:44
Speaker 1: rest of the Pimco crew for a long time. Sometimes
3:48
Speaker 1: what they write resonates with me. Sometimes it doesn't. But
3:51
Speaker 1: I knew it didn't take much to get into the
3:54
Speaker 1: head of Bill Gross. All I had to do is
3:56
Speaker 1: download a dozen i os and read it on the
3:59
Speaker 1: train on the way home. And I did that. And
4:01
Speaker 1: after reading a few of these i os, you know,
4:04
Speaker 1: whenever they catch a forger of some great artwork, the
4:07
Speaker 1: guy says, you know, I had to get this stroke down.
4:10
Speaker 1: Once I had that stroke, I can anything I did
4:13
Speaker 1: looked like van Go or Picasso or whatever it is.
4:15
Speaker 1: Once you get Gross in your head, it's easy to
4:18
Speaker 1: write like him. It's easy to adopt his syncopations and
4:22
Speaker 1: his tones and his rhythms. And so that's exactly what
4:24
Speaker 1: I did, and I wrote this parody. You know, Gross
4:28
Speaker 1: is farewell letter, And I imagined, Hey, I built one
4:32
Speaker 1: of the most fantastic firms in the world, two trillion dollars.
4:37
Speaker 1: Less people have put um raised two trillion dollars and
4:42
Speaker 1: have hit five home runs in the in the major leagues.
4:46
Speaker 1: And so I thought I would parody that perspective. And
4:50
Speaker 1: apparently I did too good a job, because we got
4:53
Speaker 1: panicked phone calls. Hey is this real? People are upset
4:56
Speaker 1: Pimco is upset this one, screaming how did you guys
4:59
Speaker 1: get this letter? Astonishingly, it was on Bloomberg View. People
5:03
Speaker 1: didn't realize it was a joke, or at least some
5:05
Speaker 1: people didn't realize it was a joke. I got a
5:07
Speaker 1: lot of emails. But because of that, and I'm told
5:10
Speaker 1: through the grape vine that the parody farewell letter from
5:15
Speaker 1: Bill Gross amused the real Bill Gross, and so he
5:19
Speaker 1: reached out at a certain point and said I thought
5:21
Speaker 1: that was kind of interesting, as did other friends of Bill,
5:25
Speaker 1: other people who were still at Pimco when not happy
5:28
Speaker 1: with his being deposed. Eventually led to my getting my
5:33
Speaker 1: hands on a copy of a uh set of bonuses,
5:38
Speaker 1: a spreadsheet of all the bonuses that went out to Pimco.
5:41
Speaker 1: And I wrote a column that talked about Gross is
5:44
Speaker 1: two million dollar bonus and and and then allarians and
5:49
Speaker 1: everybody else is down the road. It was a billion
5:52
Speaker 1: five in Pimco bonuses. And I got an email from
5:55
Speaker 1: Gross who doesn't say anything about the bonus, but says,
5:59
Speaker 1: you know, you guys keep misrepresenting my track record in
6:02
Speaker 1: in total returns. It's much better than is claimed. And
6:07
Speaker 1: I as well as the same as true for the
6:09
Speaker 1: closed end funds, and so I said, send me the data,
6:12
Speaker 1: I'll end research and independently and if it's correct, I'll
6:16
Speaker 1: pony up in a minute. Was correct, and it turns
6:19
Speaker 1: out that he was more or less right, absolutely right
6:23
Speaker 1: about the closed end funds there were. The performance was spectacular.
6:27
Speaker 1: According to morning Star, there were one to three, four
6:29
Speaker 1: and six in the universe of multisector fixed income funds.
6:33
Speaker 1: That's just, you know, just swept the It's like winning
6:37
Speaker 1: Laman's one, two and three e race team takes all
6:40
Speaker 1: three pole positions and and amazing set of numbers. He
6:45
Speaker 1: was kind of right about total returns. It wasn't nearly
6:48
Speaker 1: as bad as people had depicted. He had been top ten,
6:53
Speaker 1: top desk isle and often top one percent. And in
6:56
Speaker 1: the years that followed he had a bad year after
6:59
Speaker 1: two thousand eleven was he underperformed two thousand twelve, he
7:02
Speaker 1: did really well about flat relative to the benchmark. Underperformed
7:07
Speaker 1: a little bit about points uh fourteen until until the
7:13
Speaker 1: end of September, but he essentially didn't put in the
7:17
Speaker 1: sort of numbers that leads to, you know, a founder
7:19
Speaker 1: getting deposed. And so I ran the story and but
7:24
Speaker 1: along the course of having this conversation with him, said,
7:28
Speaker 1: you know, I would love to have you sit down
7:30
Speaker 1: and just you tell your story. I'll throw some questions
7:33
Speaker 1: at you, but you say what happened. And and I
7:37
Speaker 1: know you don't trust people in the media, and I
7:39
Speaker 1: know you are fearful of filters and and spin. This
7:44
Speaker 1: is pretty and varnished. You get to say whatever the
7:46
Speaker 1: heck you want to say. And so for two hours
7:49
Speaker 1: we spoke and he said whatever the heck he wanted
7:51
Speaker 1: to say. So this is the first hour of the interview.
7:54
Speaker 1: It's essentially him describing the creation of PIMCO. What it
7:59
Speaker 1: was like, was early mentors were, how things developed, what
8:02
Speaker 1: it was like running money in the flashnary periods of
8:05
Speaker 1: the nineteen seventies, uh the seven crash. He talked about
8:09
Speaker 1: a lot of really fascinating things. And I've now babbled
8:12
Speaker 1: for over five minutes, So let me stop now and
8:16
Speaker 1: with no further ado, Bill Gross, this is Masters in
8:24
Speaker 1: Business with Barry Ridholts on Bloomberg Radio. Today. We have
8:28
Speaker 1: a very special guest. You probably have heard his name
8:32
Speaker 1: once or twice if you're involved in the world of investing.
8:36
Speaker 1: His name is Bill Gross, perhaps the most famous bond
8:39
Speaker 1: investor in history. A quick background on who he is.
8:43
Speaker 1: Born in Middletown, Ohio, moved to San Francisco ten years later,
8:48
Speaker 1: ended up going to Duke University as a Duke scholar
8:53
Speaker 1: with a degree in psychology, which is quite fascinating. And
8:58
Speaker 1: UM served during the Vietnam War in the navy. Is
9:01
Speaker 1: that correct? Unfortunately, that is correct, and thank you for
9:05
Speaker 1: having me very oh my pleasure, sons long a long
9:08
Speaker 1: time ago, not not really, not not too long, just
9:11
Speaker 1: long enough to have developed some wisdom and experience. So
9:16
Speaker 1: so let's we're gonna cover a lot of different material,
9:19
Speaker 1: a lot of of um areas. But I really want
9:23
Speaker 1: to start out with your backgrounds in the early days,
9:27
Speaker 1: because you mentioned you've been doing this for forty years.
9:31
Speaker 1: You have some history and some perspective. But what I
9:34
Speaker 1: find fascinating is that you essentially began as a c
9:38
Speaker 1: f A at Pacific Life, at an insurance company. How
9:42
Speaker 1: did you go from being an analyst to saying I
9:46
Speaker 1: have an idea, let's set up a bond shop in
9:49
Speaker 1: v one or so. Well, it was serendipity. Perhaps I
9:53
Speaker 1: did private placements for Pacific Mutual life insurance companies. A
9:57
Speaker 1: matter of fact, I made two private placements to the
10:00
Speaker 1: eventual too richest people in the world, Sam Walton and
10:04
Speaker 1: Warren Buffett unbeknownst to me, and Pacific Mutual at the time.
10:08
Speaker 1: But that's how I got started making five and ten
10:11
Speaker 1: million dollar loans. At time, downtown Los Angeles, there was
10:16
Speaker 1: a budding development of bond trading. UM Traders actually put
10:23
Speaker 1: their bonds physical bonds in a box UH, the ones
10:27
Speaker 1: that they wanted to trade, and when they sold them,
10:30
Speaker 1: they would shift them up by career and then they
10:32
Speaker 1: get some new bonds in to the box US that
10:36
Speaker 1: they would be trading on a weekly basis. So it
10:38
Speaker 1: was very rudimentary and fundamental. And as a matter of fact,
10:41
Speaker 1: Pacific Mutual bonds were held in a vault down below
10:45
Speaker 1: in a basement, and one of my first assignments was
10:48
Speaker 1: to go down and clip coupons, to send those coupons
10:51
Speaker 1: and get the interest and UH and earned Pacific Mutuals
10:55
Speaker 1: some some premiums. So you started and as an analyst,
11:00
Speaker 1: literally clipping bond coupons. But how do you go from
11:04
Speaker 1: that too? Here's an idea. Let's set set up a
11:07
Speaker 1: standalone bond shot. Well, there was a setup, and at
11:11
Speaker 1: the setup was basically developing inflation. In the early seventies,
11:15
Speaker 1: after the the Vietnam War, um, you know, became apparent
11:20
Speaker 1: that bonds could go down in price as well as up.
11:22
Speaker 1: A matter of fact, I've been going down for ten
11:24
Speaker 1: or fifteen years. And uh, there came a time when
11:27
Speaker 1: someone thought, and there were some early people. I was
11:30
Speaker 1: one of them, that thought that perhaps some bonds down
11:33
Speaker 1: in those vaults should be sold in order to preserve principle.
11:37
Speaker 1: And so uh in Los Angeles, and I'm sure to
11:41
Speaker 1: some extent in New York and Chicago and Detroit, which
11:45
Speaker 1: were the hubs back then. You know, some early young
11:48
Speaker 1: individuals like myself began trading and selling bonds primarily in
11:53
Speaker 1: order to keep them from going from a hundred to
11:57
Speaker 1: sixty five and sixty and some of was a T
12:00
Speaker 1: and T buns in the seventies actually with the two
12:02
Speaker 1: and three eights coupons got as low as thirty three
12:05
Speaker 1: cents on the dollar. Oh my god. And what was
12:07
Speaker 1: the net So if anybody bought that, what sort of
12:11
Speaker 1: yield are they looking at? Practically nine percent at the time. Well, yes,
12:15
Speaker 1: you know, at the peak in one with the Volker
12:18
Speaker 1: peak um long treasuries for fourteen and a half percent,
12:22
Speaker 1: and so a T and T was probably trading at
12:24
Speaker 1: sixteen sixteen and a half percent. And um they had,
12:27
Speaker 1: believe it or not, some Gennu May mortgages with a
12:29
Speaker 1: twenty percent coupon. So really for two of his timing,
12:34
Speaker 1: when you you began right with the right call and
12:38
Speaker 1: at the right moment more or less, yeah, I think so.
12:40
Speaker 1: When I came out of u c l A. With
12:42
Speaker 1: my master's degree having done a thesis on a book
12:44
Speaker 1: called Beat the Market by Ed Thorpe, but I had
12:47
Speaker 1: studied black jack. You were sort of professional black jack player,
12:52
Speaker 1: well was for three or four months, not a big
12:54
Speaker 1: hitter like Ed Thorpe. But I proved that the system
12:57
Speaker 1: could work, and I went to u c l A.
12:59
Speaker 1: Did my master is on Beat the Market, which was
13:03
Speaker 1: a book on hedging, warrants and convertible bonds, and that's
13:07
Speaker 1: how I got my job at Pacific Mutual. And um,
13:10
Speaker 1: so there was just the beginnings, um of option types
13:14
Speaker 1: of theories and and arbitrage types of trades that you know,
13:20
Speaker 1: somebody like myself that had studied it usually had done
13:23
Speaker 1: a master's you could could begin to take advantage of
13:26
Speaker 1: a trading atmosphere in which you could compare a value
13:29
Speaker 1: of one bond versus another. Back in those days, mostly
13:32
Speaker 1: utility bonds, but there'd be a Detroit five and a
13:35
Speaker 1: Detroit six, and the Detroit six would be trading at
13:38
Speaker 1: a yield of the fifteen basis points less than the
13:41
Speaker 1: Detroit five. And uh so, some of the early trades
13:44
Speaker 1: were easy trades in which you could just clip ten
13:47
Speaker 1: or fifteen basis points. But you didn't have the same
13:50
Speaker 1: technology we had today. It was much harder to do
13:53
Speaker 1: the compare. It's not like if you just punched something
13:55
Speaker 1: into the terminal and say, all right, here's the expected
13:58
Speaker 1: returns for these similarly graded bonds. It was really interesting
14:03
Speaker 1: and really different. Um. The first time I saw a
14:07
Speaker 1: tolerate machine was in nineteen seventy five. I came back
14:10
Speaker 1: to New York to do a speech and uh at
14:13
Speaker 1: the Hilton they had this fabulous machine that showed ongoing
14:16
Speaker 1: prices for treasuries. I said, we've got to get one
14:19
Speaker 1: of those, and barely could convince my boss at the
14:23
Speaker 1: time in terms of private placements, to to do one.
14:26
Speaker 1: But yeah, you know, very few screens and very little technology.
14:31
Speaker 1: Everything was done by phone, which was interesting because if
14:35
Speaker 1: if although don't I don't have a great phone voice,
14:38
Speaker 1: I have a great trader demeanor on the phone, and
14:40
Speaker 1: I can get the best price frequently, or could in
14:44
Speaker 1: my early days. And so the ability to deal by
14:48
Speaker 1: phone back and forth was much different, I think than
14:51
Speaker 1: it is today with electronic trading. So you had to
14:54
Speaker 1: sell your bosses on the idea of a toll rate machine.
14:59
Speaker 1: How did you sell them on the idea of let's
15:02
Speaker 1: spin out a fixed income division and this way we
15:05
Speaker 1: can attract other clients and other capital. And hey, you
15:08
Speaker 1: own most of it anyway, so what do you care.
15:10
Speaker 1: There was a chairman of the board, Walter Girkin. He's
15:12
Speaker 1: still alive. He's five miles away from Newport Beach up
15:17
Speaker 1: in the hills. UH. I revere him because of his
15:23
Speaker 1: UH Walter Walter came from Northwestern Mutual, came out to
15:29
Speaker 1: Pacific Mutual about the same time I came to Pacific Mutual.
15:33
Speaker 1: But he had this attitude, this aggressive attitude that um
15:37
Speaker 1: was expressed I think in our building in Newport Beach.
15:40
Speaker 1: They moved a year later from downtown l a to
15:43
Speaker 1: Newport Beach with his fabulous new building and expressed an
15:47
Speaker 1: attitude towards the future. Um we and when I say
15:51
Speaker 1: we've Jim Muzzy who is the marketing person, and Bill Publick,
15:55
Speaker 1: who is the the business person. We three the uh
16:00
Speaker 1: we three kings of um not orient Are but the
16:03
Speaker 1: Newport Beach got together and said, hey, um, yeah, that
16:08
Speaker 1: we've got the potential here for a business. And we
16:11
Speaker 1: walked into the chairman's office scared as uh baby ducks
16:16
Speaker 1: and um with with leg shaking, said we'd like to
16:20
Speaker 1: start a company called Pacific Investment Management, and we'd like
16:23
Speaker 1: a piece of the action. Um. He didn't kick us out.
16:28
Speaker 1: He thought about it. Uh he said, it sounds like
16:30
Speaker 1: a good idea, even though within twelve months we were
16:34
Speaker 1: making more than he was, and and on and on
16:37
Speaker 1: and on it it went. We we started with our
16:40
Speaker 1: first client, the Southern California Edison, which to be fair,
16:43
Speaker 1: was a local board related um win so to speak.
16:50
Speaker 1: We uh got a second client, A T and T,
16:53
Speaker 1: which was the the beginning of it all because at
16:56
Speaker 1: the time H T n T was the biggest of
16:58
Speaker 1: the big and they chose us. The young kids we
17:03
Speaker 1: were still in our twenties as the their first West
17:06
Speaker 1: Coast manager. At the time, Bury there was this legislation
17:12
Speaker 1: called Arissa in which pension funds were being nudged, forced,
17:18
Speaker 1: you know, basically to open u their choices for managers.
17:22
Speaker 1: Typically they've been Chicago Banks, Detroit Banks, New York Banks,
17:26
Speaker 1: but now they had to choose amongst the different set
17:29
Speaker 1: and so PIMCO became their first West Coast independent investment manager.
17:35
Speaker 1: And boy, once you get a ten T, your your
17:38
Speaker 1: on and up. So you start out, you garner a
17:42
Speaker 1: few clients. Did you have any clue when you first
17:45
Speaker 1: launched the shop what the future held or did you think, hey,
17:50
Speaker 1: we can make a nice living doing this. No, we
17:52
Speaker 1: thought we could. I I thought unbelievably And I told
17:57
Speaker 1: my parents, Uh, when they came down the shin Via,
18:00
Speaker 1: which about twenty miles south of the Newport Beach. First
18:04
Speaker 1: house was a thirty one tho dollar house. UM, so
18:09
Speaker 1: we weren't making much um. But I told my parents
18:13
Speaker 1: about the bond business. They didn't know what a bond was,
18:16
Speaker 1: but I told them that I was going to be
18:18
Speaker 1: the best bond manager in the world. Um. At age
18:23
Speaker 1: twenty something, at age twenty eight. They looked at me quizzically.
18:27
Speaker 1: UM weren't quite sure whether I had gone up to
18:31
Speaker 1: deep end, but in any case, that was my goal.
18:34
Speaker 1: And UM, I think by that time my mom passed
18:38
Speaker 1: in two thousand and two, that I was UM pretty
18:42
Speaker 1: well in that direction. That that's quite fascinating. Um. Initially,
18:48
Speaker 1: you guys began with twelve million dollars. Is that urban
18:51
Speaker 1: legend or is that accurate now that it is twelve million?
18:55
Speaker 1: So the early days is the three of you, when
18:58
Speaker 1: did you start inning employee ease at a rapid clip?
19:02
Speaker 1: I mean it was it was it a small three
19:04
Speaker 1: man shop for a while? Or how soon will you
19:07
Speaker 1: adding analyst, traders, bodies, etcetera. It took three or four years,
19:11
Speaker 1: and we were stelling in a little wing of the
19:14
Speaker 1: Pacific Mutual Building. Yeah, the business expanded from ten fifteen
19:19
Speaker 1: twenty people. We developed the marketing staff, we developed obviously
19:24
Speaker 1: accounting and internal staffs, and we developed importantly what we
19:28
Speaker 1: call account management, where the account management would connect with
19:32
Speaker 1: clients and where the portfolio managers Gross and uh now
19:37
Speaker 1: Christal and us Um would be able to stay at
19:40
Speaker 1: home and manage money as opposed to travel all around
19:43
Speaker 1: and talk to clients. So in the early eighties, we
19:47
Speaker 1: were a company of forty fifty people. We were close
19:51
Speaker 1: to a billion dollars. Are are the theoretical? Boss Thompson,
19:57
Speaker 1: who was head of the investment division and this have
20:00
Speaker 1: a mutual, promised the company a trip to Hawaii if
20:03
Speaker 1: we could ever reach a billion dollars in assets, And
20:07
Speaker 1: when we finally did, he found a way to uh,
20:11
Speaker 1: to put off or to reneg on the promise. We
20:14
Speaker 1: never got to Hawaii. On Twitter, I did hashtag ask
20:18
Speaker 1: Bill Gross, Hey, bill y bonds instead of equities. I
20:22
Speaker 1: thought that was kind of an interesting I don't think
20:25
Speaker 1: I've ever heard you anyone ask you that question. For me? Yes,
20:30
Speaker 1: because I couldn't get a job in the stock area.
20:33
Speaker 1: Really yeah, No, I came out of U c. L A.
20:35
Speaker 1: I thought it was pretty smart, but nobody else did.
20:38
Speaker 1: And Pacific Life gave me a job, like I said,
20:41
Speaker 1: clipping those coupons and doing private placements for prospective people
20:46
Speaker 1: like Walton and Buffett and uh yeah they by the
20:50
Speaker 1: way of those the sort of names they give to hey,
20:53
Speaker 1: those guys, or nobody give it to the kid. Is
20:55
Speaker 1: that how that works? You know? It's it's sort of
20:58
Speaker 1: like at the you know, the meat counter at the
21:01
Speaker 1: grocery store. Take a number, and just like uh, just
21:03
Speaker 1: like it popped up. And and Sam Walton, by the way,
21:06
Speaker 1: was not like I said, he had two stores. I
21:08
Speaker 1: traveled to Bentonville. He picked me up in his pickup
21:11
Speaker 1: truck with his two sons and his dog and took
21:14
Speaker 1: me round to the stores. And that was Walmart at
21:18
Speaker 1: the time, and two stores, two stores. And when when
21:22
Speaker 1: Buffett came in, he came in with Charlie Munger, and
21:24
Speaker 1: they were much younger people, and they had this dilapidated
21:27
Speaker 1: company called Berkshire Hathaway it uh it consisted to seize
21:31
Speaker 1: candy blue chips stamps in this industrial complex in the
21:35
Speaker 1: east that they were gonna, um, you know, close down anyway.
21:39
Speaker 1: But they wanted five million dollars. And I can't recall
21:42
Speaker 1: why I thought it was a good investment, but obviously
21:45
Speaker 1: Buffett and Munger impressed me, and they got they got
21:51
Speaker 1: ten million bucks. Not not that Pacific Investment or Pacific
21:56
Speaker 1: Life was the beginning for them, because the it it
22:01
Speaker 1: helped them on their way. But if you're still in
22:03
Speaker 1: touch with either of them, yeah, Warren. I talk a lot,
22:06
Speaker 1: and did talk considerably during the crisis, the Layman crisis
22:11
Speaker 1: in two thousand and eight and two thousand and nine,
22:13
Speaker 1: putting together plans and so on. Of course, Sam Walton's dead,
22:16
Speaker 1: but um, yeah, for a while there it was interesting.
22:21
Speaker 1: Let's talk a little bit about what else helped form
22:24
Speaker 1: your views on investing. Do you did you have any
22:27
Speaker 1: early mentors? You know, a business mentor, Walter Gerkin, certainly
22:31
Speaker 1: because he at the foresight to give us a start.
22:35
Speaker 1: But from the standpoint of investing, um, certainly at Thorpe.
22:39
Speaker 1: And it sounds strange why a book called Beat the
22:42
Speaker 1: Dealer could serve as that initial example, but but it did.
22:46
Speaker 1: It taught me the principle of Gambler's ruined, basically the
22:51
Speaker 1: fact that even if the odds are in your favor,
22:53
Speaker 1: and you can do that in blackjack by counting the cards,
22:56
Speaker 1: and at some point in time you know, instead of
22:59
Speaker 1: the house being favored, the client can be favored seven, etcetera, etcetera.
23:06
Speaker 1: But it taught me at the time that even when
23:09
Speaker 1: odds and your favorite, you can only be a small
23:12
Speaker 1: portion of your principle because you have streaks of bad
23:14
Speaker 1: luck and uh, and you can experience what they call
23:18
Speaker 1: gamblers ruined. So it's the same thing and investing. You know,
23:20
Speaker 1: even with a very significant confident bet, you don't want
23:24
Speaker 1: to put all your chips on the table. You want
23:26
Speaker 1: to hold it back. And the theory of gamblers around
23:29
Speaker 1: was that you needed at least fifty times your your
23:32
Speaker 1: maximum bet at any time, no matter what your confidence level.
23:35
Speaker 1: And so that was a two you know, a type
23:38
Speaker 1: of maximum bet. It's held pretty well in terms of
23:41
Speaker 1: corporate credits and sovereign credits. And it gave me a
23:44
Speaker 1: sense of risk taking and when to take risk, when
23:48
Speaker 1: not to take risk, and how much to take Uh.
23:50
Speaker 1: It was perfect for uh marko Witz uh diversified genre
23:56
Speaker 1: of portfolio management that was budding in the seven and
24:00
Speaker 1: these so so Gambler's ruin leads to modern portfolio theory,
24:03
Speaker 1: which leads to broadly diversified holdings even with a high
24:07
Speaker 1: degree of confidence. Yeah, I would say his book too. On.
24:11
Speaker 1: He wrote a book called Beat the Market. Uh. I
24:13
Speaker 1: mentioned this before about convertible bonds and and um warrants
24:18
Speaker 1: and and the hedging aspects of it. I developed a
24:22
Speaker 1: very crude computer program about it. In any case, It
24:25
Speaker 1: gave me a sense that markets weren't perfect, that they're
24:29
Speaker 1: not fully efficient. Is that fully session? Yes? That was
24:33
Speaker 1: my last class at U C l A, the Efficient
24:36
Speaker 1: market theory, and uh yours truly. Bill Gross exited Efficient
24:42
Speaker 1: Market Theory with a C minus, which in grad school
24:45
Speaker 1: basically means you funked at What other books um or
24:48
Speaker 1: investors influenced you? B sides Edgar Well, um, you know
24:53
Speaker 1: several there's a there's a book by Jim Grant, and
24:56
Speaker 1: he's written quite a few. Uh one at I go
25:00
Speaker 1: back to if only because of the title, Uh, the
25:03
Speaker 1: Trouble with Prosperity. How could there be trouble with prosperity?
25:07
Speaker 1: H He came, I guess from the same theory. Although
25:09
Speaker 1: Grant wouldn't claim a not a kinship with Minsky at all. No,
25:14
Speaker 1: and you you got right there. Yeah, he wouldn't claim
25:16
Speaker 1: a kinship with Minski. But this is the same thing.
25:19
Speaker 1: Mensky saying that stability leads to instabilities about the same
25:22
Speaker 1: thing to saying there's a trouble with prosperity and um
25:25
Speaker 1: and so both of those. I I got into Mensky
25:28
Speaker 1: in the early eight early twenty one century thanks to
25:31
Speaker 1: Paul McCulley. I was gonna say, Paul, of your colleague,
25:35
Speaker 1: I go fishing with him every summer up in Maine.
25:38
Speaker 1: And he's the first person, I want to say, about
25:40
Speaker 1: eight or ten years ago who first introduced me to
25:43
Speaker 1: him in Minsky. Yeah, me too, And this was in
25:46
Speaker 1: the two thousand and two and three, before the crisis.
25:50
Speaker 1: But but he said, hey, here's uh, you know, here's
25:53
Speaker 1: this guy called Minsky. And of course, you know, he
25:56
Speaker 1: wrote some very technical and lengthy tone I guess, and
26:01
Speaker 1: you had to work through them with difficulty. But the
26:04
Speaker 1: essence of it was the stability leads to in stability
26:07
Speaker 1: and the combination of the the classical Keynesian um neo classical,
26:13
Speaker 1: if you will, uh concept of the economy in terms
26:16
Speaker 1: of an outside influence that ultimately would re equibal equival
26:23
Speaker 1: lead to a real equilibrium, I guess, As opposed to Minski,
26:27
Speaker 1: who said, hey, no, the problem isn't the fact that
26:31
Speaker 1: the economy itself and the financial economy are connected and
26:35
Speaker 1: when one moves to access then uh, that it comes
26:39
Speaker 1: from the inside as opposed to the outside. And that
26:41
Speaker 1: was a brilliant observation because at PIMCO we began looking
26:44
Speaker 1: in the early twenty one century for problems in terms
26:49
Speaker 1: of debt creation and leverage in the housing market. And
26:52
Speaker 1: we we sent our own people very um and we
26:56
Speaker 1: took ten credit analysts in two thousand five and two
27:02
Speaker 1: thousand and five and turned them into real estate u
27:06
Speaker 1: uh phony real estate shoppers. We sent them to Phoenix
27:09
Speaker 1: and the Vegas and Miami and Cincinnati and and pretended
27:13
Speaker 1: to buy a house to see exactly what was going
27:15
Speaker 1: on from the inside. Because of Minski and because of
27:18
Speaker 1: this uh developing bubble and housing so we had it
27:22
Speaker 1: pretty well down and thanks to Paul McCully um and
27:26
Speaker 1: like I said, thanks to Minsky and Jim Grant, all
27:29
Speaker 1: which you know, gave me and gave us this common
27:33
Speaker 1: sense a goal, uh a lesson that that simply by
27:40
Speaker 1: keeping inflation low at two percent does not necessarily mean
27:44
Speaker 1: that the financial system remains totally stable forever. It doesn't.
27:50
Speaker 1: It creates its own problems. And we all know what happened.
27:54
Speaker 1: What do you think the typical investor does wrong? From
27:57
Speaker 1: a psychological perspective? Is it simply giving into fear and
28:02
Speaker 1: greed or is it more nuanced than that? I think
28:04
Speaker 1: it's you know primarily that berry not although it's more nuanced.
28:09
Speaker 1: But I can see it myself. Um, you know these
28:13
Speaker 1: days and in recent days, UM, you know, I can
28:16
Speaker 1: recognize where I turn right when I should have turned left,
28:19
Speaker 1: and turned left when I should turn right. I'm a
28:21
Speaker 1: human being. I get afraid. I'm a human being. I
28:24
Speaker 1: get greedy when things are going the right way. Hopefully
28:28
Speaker 1: all of this tempered by the gamblers ruined rules of
28:32
Speaker 1: ed Thorpe. But yeah, I think the bane of all
28:34
Speaker 1: investors is um is not doing what what Rothschild says.
28:39
Speaker 1: You know, buying when there's blood in the streets. Hard
28:41
Speaker 1: to buy when there's blood in the streets, and it's
28:43
Speaker 1: hard to sell when the trumpets are are sounding. So
28:48
Speaker 1: the ability to temper that, I think for all investors,
28:52
Speaker 1: not just individuals, is the ultimate key. And to know
28:54
Speaker 1: that things you know simply can't continue forever. Now. I
28:59
Speaker 1: get a principle in my book called the alarm clock principle,
29:02
Speaker 1: and uh. It basically says that everybody has an individual
29:05
Speaker 1: alarm clock in terms of when they get up a
29:07
Speaker 1: relative to the markets, meaning so say people get up
29:11
Speaker 1: at six uh on average. In the investment world, very
29:16
Speaker 1: few people get up at six, meaning at the right time.
29:19
Speaker 1: A lot of them get up way too early, at
29:22
Speaker 1: one in the morning or two in the morning. In
29:25
Speaker 1: other words, they sound the clarion called the arm agedding
29:29
Speaker 1: warning far too early, and and by the time it
29:32
Speaker 1: gets to be six o'clock, Uh, they're out of business
29:35
Speaker 1: or out of money, or they've kept their money in
29:38
Speaker 1: cash for so long that the pack is distanced them
29:41
Speaker 1: by by miles. And we certainly have seen that. On
29:45
Speaker 1: the equity side. From O nine, people have been calling
29:50
Speaker 1: for the end of the bowl market for I don't know,
29:54
Speaker 1: six months after the bottom um, and that can be done,
29:57
Speaker 1: and yours truly has done that. I've got I've gotten
30:00
Speaker 1: up in many cases at one and two o'clock. But
30:04
Speaker 1: on the other side, investors can get up far too
30:07
Speaker 1: late at ten or eleven. Were more familiar with that
30:10
Speaker 1: because that tends to connote either a teenager or laziness
30:14
Speaker 1: or whatever. But it basically means you've missed the boat,
30:18
Speaker 1: and by the time you get into the market, the
30:20
Speaker 1: markets over its high noon, so to speak. Anyway, you know,
30:24
Speaker 1: I think an individual investor has to know um through
30:29
Speaker 1: experience and through analysis and thinking. When they get up
30:33
Speaker 1: in the morning. And obviously the perfect time to get
30:36
Speaker 1: up is five for five or six o'clock. You you
30:38
Speaker 1: won't miss a thing, You'll be right on the money.
30:42
Speaker 1: But we all have dispositions, predispositions like you mentioned. And uh,
30:47
Speaker 1: my individual alarm clock is I think around four thirty.
30:50
Speaker 1: It's a little bit early, but not too bad. Um.
30:55
Speaker 1: And so knowing that it's four thirty, I try and
30:59
Speaker 1: blend that into uh to what I do on the
31:03
Speaker 1: investment side from the standpoint of timing markets. And so
31:07
Speaker 1: you stay longer than your gut wants you to. Is
31:10
Speaker 1: that the way you're describing it. And my my gut
31:12
Speaker 1: wants me to get in there at four thirty, but
31:15
Speaker 1: but my brain tells me it's really six. And and
31:19
Speaker 1: so it's just like a it's like a batter. I
31:22
Speaker 1: guess at the plate um, uh, you know, seeing a
31:25
Speaker 1: lot of fastballs, and and now it is getting a curveball,
31:29
Speaker 1: and a curveball comes in at ten miles an hour less.
31:31
Speaker 1: And so the key for hitting a curveball, um is
31:35
Speaker 1: to wait, wait, wait, wait, wait boom uh. And and
31:39
Speaker 1: so the mikey uh, you know, it's seeing something about
31:43
Speaker 1: to happen at four thirty is to wait for an
31:45
Speaker 1: hour and a half and then you know, take a
31:48
Speaker 1: swing and hopefully get a hit. So, um, every investor
31:51
Speaker 1: I think has to know who they are from that standpoint,
31:53
Speaker 1: because we're all different. Um, this is Barry Rehults. You're
31:56
Speaker 1: listening to Masters in Business on Bloomberg Radio and my
31:59
Speaker 1: guest today one Bill Gross, formerly of Pacific Life in
32:02
Speaker 1: PIMCO now with Janice. So. I began my career on
32:07
Speaker 1: a trading desk, and I've one of the things that
32:10
Speaker 1: have always stayed with me from the head trader at
32:14
Speaker 1: the time, a guy named Bill used to say to me,
32:16
Speaker 1: it's okay to be wrong, it's not okay to stay wrong.
32:20
Speaker 1: And throughout your career you've had a lot of great calls,
32:22
Speaker 1: but you've had some calls that have been wrong, which
32:25
Speaker 1: you subsequently reversed fairly quickly. So let's talk a little
32:29
Speaker 1: bit about two thousand and eleven, where I think a
32:32
Speaker 1: lot of people have made a big deal about that.
32:34
Speaker 1: You said, hey, we're gonna have a problem, but you
32:37
Speaker 1: reverse that trade fairly quickly, didn't you. You took treasuries
32:41
Speaker 1: off in eleven, thinking we're gonna see higher inflation, higher
32:45
Speaker 1: interest rate, it's bigger deficit. But you didn't marry that
32:48
Speaker 1: position at all. No, you can't get married to a position.
32:52
Speaker 1: And you know, like you're suggesting, and I had just
32:55
Speaker 1: suggested with the alarm clock. You know that the timings
33:00
Speaker 1: article is to win, to get in and win to
33:01
Speaker 1: get out. But being married to a position, yeah, is
33:05
Speaker 1: death for an investor. You can't fall in love with
33:08
Speaker 1: your certificates. Um, some of them are very pretty, by
33:12
Speaker 1: the way, and you can fall in love with him
33:15
Speaker 1: spoken like a stamp. So yeah. And in two thousand eleven, um,
33:20
Speaker 1: yeah it was. It was the wrong call in terms
33:22
Speaker 1: of treasury. Sort of a famous year, I guess for PIMCO.
33:27
Speaker 1: But uh, you know, like you're suggesting. Uh, that was
33:31
Speaker 1: reversed later in the year and in two thousand and twelve, actually,
33:34
Speaker 1: by March of two thousand and twelve, everything that had
33:38
Speaker 1: been lost from an alpha standpoint, about three d and
33:41
Speaker 1: fifty basis points as I remember, came back in a
33:45
Speaker 1: period of three or four months, And in two thousand
33:47
Speaker 1: and twelve went on too to have a six hundred
33:50
Speaker 1: basis point off a year versus the minus three fifties.
33:53
Speaker 1: I remember in ten cent and total return, I think
33:57
Speaker 1: the benchmark was three seven thing like that. So you
34:01
Speaker 1: had made that up. And at the same time, not
34:03
Speaker 1: only because you and I let me a little background
34:05
Speaker 1: for listeners, so you and I had been emailing about this.
34:09
Speaker 1: Paul Krugman famously chastised you after you left Pimco, saying
34:16
Speaker 1: Pimco and gross never recovered from two thousand eleven. And
34:19
Speaker 1: you said, hey, this isn't true. To take a look
34:21
Speaker 1: at it, and so I did. I went back. I
34:23
Speaker 1: looked at the data. Not only did total return regain
34:28
Speaker 1: all the outflows and then some the following year. Two
34:31
Speaker 1: years later, PIMCO had gone from one point to five
34:35
Speaker 1: to two trillion dollars. So it was fairly clear this
34:39
Speaker 1: was far from quote haunting Pimco. It was a trade
34:43
Speaker 1: that didn't work out. You reversed it, and it certainly
34:46
Speaker 1: didn't stop the asset gathering process over the next couple
34:49
Speaker 1: of years, nor did it impact negatively um the performance
34:53
Speaker 1: the following year. Yeah, I think that's right, and it's
34:55
Speaker 1: a bad rap. And I don't I don't know what
34:57
Speaker 1: Krugman is doing waning in on h uh, you know,
35:01
Speaker 1: not buying treasuries and and being unpatriotic, which was I
35:05
Speaker 1: think it's an inflation debate from his perspective as an economist,
35:09
Speaker 1: not a investing debate. But you were certainly an available,
35:13
Speaker 1: full guy to use as an example. Look, you got
35:16
Speaker 1: the inflation call wrong and then all sorts of bad
35:18
Speaker 1: things happen, or that was the argument, you know, did
35:21
Speaker 1: you just shake that off at the time? Did you
35:22
Speaker 1: think that would really be a significant issue on a
35:26
Speaker 1: long and story track record, Because there are a number
35:28
Speaker 1: of people I've been through so many of those, um mistakes, Um,
35:34
Speaker 1: nature of trading. It's the nature of trading. Um. And
35:38
Speaker 1: almost every time, like my wife says, um, you know,
35:43
Speaker 1: you'll make it up. And and we always did and
35:46
Speaker 1: and um. So it didn't bother me. It seemed to
35:49
Speaker 1: bother a lot of people under the impression, I guess
35:52
Speaker 1: that the gross and pimpco were infallible. But because and
35:57
Speaker 1: and and it's fair to say we came through the crisis,
36:00
Speaker 1: the Layman crisis with shining colors because of what I
36:04
Speaker 1: talked about with Mensky and McCaulay, and knowing about the
36:07
Speaker 1: housing market, we uh, you know, we were nine percentile
36:11
Speaker 1: stars and oh eight No. Nine, and that was really
36:14
Speaker 1: the basis for the total return fund going to two
36:18
Speaker 1: billion dollars at it at its peaked a confidence that
36:22
Speaker 1: we could protect principle and then, like I say, with
36:25
Speaker 1: a mild mistake in two thousand and eleven, make it
36:27
Speaker 1: grow in two thousand and ten and two thousand and twelve.
36:31
Speaker 1: And to me, it was a sleepless, uh you know,
36:35
Speaker 1: period of months um as always, but never one without
36:39
Speaker 1: the confidence that we'd get it back. I have to
36:42
Speaker 1: ask you one question. You mentioned two hundred and nine,
36:45
Speaker 1: almost three hundred billion dollars. Did the size of total
36:49
Speaker 1: returns have an outsized impact on your ability to maneuver?
36:53
Speaker 1: Did it just get to be too big at that
36:56
Speaker 1: point in retrospect? And you know, I would have to say, yes,
36:59
Speaker 1: that's a lot of money, you know, not that the
37:01
Speaker 1: markets uh haven't grown with us, didn't grow with Pemco.
37:06
Speaker 1: You know, through the years, that was always our claim
37:08
Speaker 1: to clients that hey, we're still only one and a
37:12
Speaker 1: half percent of the market. That cider eat side of
37:14
Speaker 1: the market gets bigger, It's fair to say in the
37:16
Speaker 1: last few years that the street would always know what
37:22
Speaker 1: Pemco was doing. We would always know in the early
37:25
Speaker 1: years what the state of California was doing. They were
37:28
Speaker 1: the big horse and a big wheel back then, and
37:31
Speaker 1: you know, you'd know within five or ten minutes via
37:33
Speaker 1: the brokerage wires and the phones the state was in,
37:37
Speaker 1: the state was out. And so it became the same
37:39
Speaker 1: thing with PEMCO. Any trade that we did obviously had
37:42
Speaker 1: to be an enormous size relative to the rest of
37:45
Speaker 1: the market, and we affected markets and we paid a
37:48
Speaker 1: price for that in terms of in and outs and
37:52
Speaker 1: ultimately in terms of the street being well informed and
37:56
Speaker 1: in some cases working against us. Any plans on a
38:00
Speaker 1: cap at the young constrained funded janis well not yet.
38:04
Speaker 1: We're only a two billion dollars and and so you
38:07
Speaker 1: know that to me is um maybe not a perfect size,
38:11
Speaker 1: like to get a little bit bigger, but it's certainly
38:13
Speaker 1: size where uh you can move and you're flexible and
38:17
Speaker 1: you don't have the problems of the street, you know,
38:19
Speaker 1: wondering what Janie is going to do, because two billion
38:23
Speaker 1: doesn't move markets like two nobody's front running, you know,
38:27
Speaker 1: one's training against you. It's not the same situation. So
38:30
Speaker 1: let's talk a little bit about the Lehman situation, the
38:34
Speaker 1: financial crisis. So you're running firm that has at the time,
38:40
Speaker 1: I want to say, oh seven, total return was about
38:43
Speaker 1: a hundred and sixty billion dollars. Is that about right? Okay,
38:46
Speaker 1: I'll go with it. UM, and PIMCO was just under
38:49
Speaker 1: a trillion dollars. So now you're sitting on this huge
38:53
Speaker 1: pile of other people's capital that you're managing on their behalf,
38:57
Speaker 1: and suddenly the world tum into the abyss. What's that like?
39:02
Speaker 1: It was sheer panic, not just from the standpoint of
39:05
Speaker 1: the company, but personally. UM. It's a well told story
39:09
Speaker 1: that Mohammad al Arian and and Bill Gross both on
39:13
Speaker 1: the same day independently called their wives uh and told
39:17
Speaker 1: them to take all the money they had in the
39:19
Speaker 1: bank out of the bank. Um in cash. Of course,
39:24
Speaker 1: I think there was a ten dollar limit, but we
39:26
Speaker 1: said get it out of there. UM. So that tells you, uh,
39:30
Speaker 1: personally what was going on and institutionally. UM. You know,
39:34
Speaker 1: we were we were full time. We were sleeping in
39:36
Speaker 1: the garage, sleeping in cars. Uh. You know, many of
39:40
Speaker 1: us never left the building. Uh. It was good to
39:45
Speaker 1: have Mohammed uh with us at the time because he
39:49
Speaker 1: had more expertise than I had in terms of the
39:53
Speaker 1: the technical dealings, in terms of money markets and brokers
39:57
Speaker 1: and repo and collateral. Um, you know I was. I
40:01
Speaker 1: was a trader and a portfolio manager. Um. Some Mohammed
40:05
Speaker 1: really helped us, uh back then in terms of preserving
40:09
Speaker 1: what we had. We we had money invested in Lehman Brothers.
40:13
Speaker 1: We had money invested in um, you know, unsettled positions
40:17
Speaker 1: with Lehman Brothers. And there were some uh you know,
40:20
Speaker 1: minute a minute maneuver and yelling screaming, uh you mean
40:23
Speaker 1: them as a counterparty. It's actually we owned Lehman brother
40:29
Speaker 1: paper too unfortunate. Yeah, and and everybody did. Yeah, And
40:33
Speaker 1: we came out of it very very well. And in
40:37
Speaker 1: terms of the positions that we owned that that countered
40:40
Speaker 1: our Layman positions, I mean we own you know, billions
40:44
Speaker 1: and hundreds of billions of euro dollar features that were
40:48
Speaker 1: screaming higher in price because the FED was dropping interest
40:53
Speaker 1: rates are about the Trump indust rates to zero. And
40:55
Speaker 1: so you know, we had some insurance against the Layman positions,
40:59
Speaker 1: but no, we weren't. Some were enough to completely avoid
41:03
Speaker 1: the situation. And as you know, during Layman it was
41:06
Speaker 1: not just Layman, but you know Goldman and Meryl and
41:10
Speaker 1: Morgan Stanley, they were all next, so to speak, and
41:12
Speaker 1: so everything was thinking like a rock and um, everyone
41:16
Speaker 1: was trying to preserve their own uh collateral, their own cash.
41:21
Speaker 1: And it was really a dog fight of food fight,
41:24
Speaker 1: not just between um, you know, private institutions and Layman
41:29
Speaker 1: and the street and Layman, but between each other. Everybody
41:32
Speaker 1: was looking after their own little skinny. You were at
41:34
Speaker 1: the time a huge holder of Fannie Mae and Freddie
41:37
Speaker 1: Mac the g s c S. That was a trade
41:40
Speaker 1: that could have turned out to be disastrous. It actually
41:44
Speaker 1: turned out to be a big money maker for you.
41:46
Speaker 1: To describe the thinking beyond that, well, the thinking was
41:49
Speaker 1: that they were money good. I I know, the Chinese
41:51
Speaker 1: at the time, we're asking questions of Paulson and and
41:54
Speaker 1: so on, and legitimate questions as to whether they were
41:57
Speaker 1: money good and um holders of treasure. Reason and Fannie
42:01
Speaker 1: and Freddie and thinking might have been something along the
42:04
Speaker 1: lines of, hey, if you guys aren't going to back
42:06
Speaker 1: the g s c s, why should we think you're
42:08
Speaker 1: gonna back your own treasuries? And that that certainly was
42:12
Speaker 1: the case, and that was the reason why we thought
42:14
Speaker 1: that they would back the the g S c S
42:17
Speaker 1: and and you know, there was I think a five
42:19
Speaker 1: billion dollar you know, line of credit to the G
42:23
Speaker 1: S S technically in a prospective, but that was nothing
42:27
Speaker 1: relative to their size. Ultimately, it was a position of
42:32
Speaker 1: faith that that the G S S and the agencies
42:35
Speaker 1: and the U. S. Treasury were one and the same.
42:38
Speaker 1: Obviously they're not one and the same, but one and
42:40
Speaker 1: the same in terms of protection of principle and interest.
42:43
Speaker 1: And so that was the bit, and it was a
42:45
Speaker 1: big bit, and and others were moving in the other
42:48
Speaker 1: direction because like I said, um, you know, no one
42:52
Speaker 1: was deemed safe other than the the the U. S.
42:56
Speaker 1: Treasury per se, and uh, you know, it's just a
42:59
Speaker 1: question of of where to where to put your money.
43:02
Speaker 1: We we decided that the agencies were okay, and certainly
43:05
Speaker 1: the agency mortgages, which was the key because even if
43:09
Speaker 1: the agency has failed you, you theoretically and in reality
43:13
Speaker 1: had collateral behind your loan that ultimately could be foreclosed on. Now,
43:19
Speaker 1: as we know through experience, the foreclosure ultimately resulted in
43:24
Speaker 1: forty and thirty and twenty cents on the dollar in
43:26
Speaker 1: some cases. So it wasn't perfect, But the combination of
43:30
Speaker 1: the you know, our confidence in money, goodness of the agencies,
43:35
Speaker 1: and the collateral made an attractive risk reward situation. So
43:39
Speaker 1: now let's talk about You've been a pretty I don't
43:42
Speaker 1: want to say critic, but you've been a commentator and
43:45
Speaker 1: observer of of the markets and of the Fed. So
43:49
Speaker 1: let's ask the big question. What is the impact of
43:52
Speaker 1: ZERP and zero interest rate policy and quantitative easing? How
43:57
Speaker 1: has this impacted the markets? What is this mean to
44:01
Speaker 1: risk assets? And and how do you think this is
44:03
Speaker 1: going to impact this current generation of portfolio match And
44:08
Speaker 1: how has it affected the real economy? Because I think
44:11
Speaker 1: it's all connected and and most observers don't connect it
44:15
Speaker 1: to the real economy, but certainly it's affected financial markets, uh,
44:21
Speaker 1: you know, with interest rates where they are, and we're
44:24
Speaker 1: not exactly sure because it's a counterfactual that are where
44:27
Speaker 1: they would be if we hadn't have QUI in the
44:30
Speaker 1: in the United States, or if the b o J
44:32
Speaker 1: didn't have que and if you know, the ECB doesn't
44:36
Speaker 1: do q E. Um. You know, all very uncertain. But yeah,
44:40
Speaker 1: many studies by the FED itself, not that they can
44:43
Speaker 1: be the trusted verbatim. Uh, in terms of uh you
44:48
Speaker 1: know the facts so to speak, but you know they suggest,
44:52
Speaker 1: you know, impact of maybe basis points on ten year treasuries,
44:58
Speaker 1: and we know the impact in terms of money mark
45:00
Speaker 1: it rates just so in other words, instead of two
45:03
Speaker 1: we'd have three. That seems kind of low, although when
45:06
Speaker 1: we look around the rest of the world, everybody else's
45:09
Speaker 1: rates at least the major countries much lower than than
45:13
Speaker 1: us here are in the US, right, Um, well, that's
45:16
Speaker 1: because the US at the moment has a stronger economy
45:20
Speaker 1: and a potential for um, some inflation as opposed to
45:24
Speaker 1: the negative inflation. So you know we have that that
45:28
Speaker 1: spread in the expectation that will remain a a dominant
45:32
Speaker 1: leader in terms of the global recovery. Um, you know,
45:36
Speaker 1: so so que He's definitely had an impact on on bonds,
45:40
Speaker 1: on money market rates, on and on stock prices to
45:43
Speaker 1: h you know, that's the hard one. Where would a
45:45
Speaker 1: peb if the tenure was at three instead of two,
45:49
Speaker 1: and if money market rates were at uh two percent
45:53
Speaker 1: that is zero? Um, you know, always hard to answer,
45:56
Speaker 1: but there's no doubt that the tripling of the stock
45:59
Speaker 1: market since the the bottom has been significantly affected by
46:03
Speaker 1: QUEI money has gone out from the course, so to speak,
46:09
Speaker 1: from the banks in terms of reserves, and not entirely so,
46:13
Speaker 1: but out from the banks in terms of reserves into
46:15
Speaker 1: the outer reaches of the asset markets. And that would
46:19
Speaker 1: include you know, bonds and long term bonds and corporate bonds,
46:22
Speaker 1: and then stocks and equities and real estate, and so
46:25
Speaker 1: the asset markets have been fertilized, undoubtedly, h fertilized, that's
46:30
Speaker 1: a good word. Yeah. The question to me becomes, you know,
46:34
Speaker 1: the effect on the real economy again, a counterfactual, would
46:37
Speaker 1: the real economy be at three now if we hadn't
46:42
Speaker 1: done quantitative easing? Probably not, because there is, in my opinion,
46:46
Speaker 1: a wealth effect that trickles down very slowly, but trickles
46:50
Speaker 1: down from wealthy investors into the economy, and so the
46:55
Speaker 1: real economy is better. But I would make this point,
46:58
Speaker 1: and uh, I think others such as uh, you know
47:03
Speaker 1: Fisher in Dallas and several others you know are have
47:07
Speaker 1: quietly tried to make the point that interest rate should
47:10
Speaker 1: be higher, and not because of the inflationary menace, but
47:13
Speaker 1: because it affects the returns, the real returns on investment
47:18
Speaker 1: in the real economy. Look at it this way. If
47:22
Speaker 1: a long term thirty year treasury bond was at uh,
47:26
Speaker 1: you know, instead of you know, below three percent, was
47:29
Speaker 1: at one percent, bond investors would know that, you know,
47:34
Speaker 1: the the duration would be uh, you know, probably forty years,
47:39
Speaker 1: and that the risk return would be inappropriate. So they
47:42
Speaker 1: wouldn't invest in a thirty year bond at a one
47:45
Speaker 1: percent level. It's the same thing in the real economy,
47:48
Speaker 1: you know, C e O S and and uh you know,
47:51
Speaker 1: corporate leaders look at the return on investment and the
47:53
Speaker 1: return on equity and they've come down, down, down, you know,
47:57
Speaker 1: because proportionately, uh, the the financial market leads those types
48:04
Speaker 1: of returns. And secondly, because of structural influences that Larry
48:09
Speaker 1: Summers is mentioned in recent months, aggregate demand, dearth on
48:14
Speaker 1: a global basis, etcetera. I could go on, but in
48:17
Speaker 1: any case, the return on investment is so sufficiently low.
48:21
Speaker 1: Let's call it four or five percent as opposed to six,
48:24
Speaker 1: seven or eight percent. That and and and remember, return
48:27
Speaker 1: on investment is a long term return or investment. In
48:30
Speaker 1: many cases, we're talking about a building here that will
48:32
Speaker 1: be up there for thirty, forty fifty years, So it
48:35
Speaker 1: just sort of like a long term bond. Corporate leaders
48:38
Speaker 1: in the real economy are reluctant to make an investment
48:41
Speaker 1: in the real economy because the returns are too low
48:44
Speaker 1: and the risk is too great from a durational standpoint
48:47
Speaker 1: and from a lack of perceived aggregate demand, and so
48:51
Speaker 1: having gone so low in terms of interest rates, to
48:54
Speaker 1: my way of thinking, and I think to Fisher at Dallas,
48:57
Speaker 1: UH and others was was probably believe the critical mistake.
49:01
Speaker 1: They should have stopped at one or two. They should
49:03
Speaker 1: have left something for savers. It wouldn't have made much
49:06
Speaker 1: difference if if FED funds work one percent instead of
49:09
Speaker 1: twenty five basis points. Leave something for savers, leave something
49:13
Speaker 1: for the investing in the real economy, so that you
49:17
Speaker 1: know there would be an impetus and the potential to
49:20
Speaker 1: have an attractive rate of return. There isn't that today,
49:23
Speaker 1: and so um you know, central banks are in this
49:27
Speaker 1: conundrum of knowing what will happen when they raise rates.
49:30
Speaker 1: In other words, the potential for another moment like in
49:35
Speaker 1: two thousand and thirteen at Taper tantrum. But yet at
49:38
Speaker 1: the same time recognizing that zero percent interest rates distort capitalism,
49:44
Speaker 1: to a significant degree. And that's my main point. Zero
49:47
Speaker 1: percent interest rates distort capitalism. So a couple of examples
49:51
Speaker 1: stock by backs instead of capital investing, increased dividends instead
49:56
Speaker 1: of hiring. Is that the sort of thing you're alluding to, exactly,
50:00
Speaker 1: And that's not the fault of corporation. If they can
50:02
Speaker 1: buy their stock at a at a sixte and a
50:06
Speaker 1: perceived return of the six or seven percent, uh, you know,
50:10
Speaker 1: with relative certainty and with the certainty that earnings for
50:14
Speaker 1: share will go up because of it in their tenure
50:17
Speaker 1: while they're getting a bonus. Then you know who who's
50:20
Speaker 1: default that. But it's just math. That is just math,
50:23
Speaker 1: and and the same thing with dividends. But but dividends
50:27
Speaker 1: and stock buybacks do not make for investment in the
50:33
Speaker 1: real economy. And that's that that. The net savings rate
50:36
Speaker 1: in the United States and net savings rate in most countries.
50:40
Speaker 1: Some have avoided this, like Mexico, but the net savings
50:43
Speaker 1: writ in the United States is very close to zero.
50:46
Speaker 1: A dip below zero, you know, during the Layman recession
50:50
Speaker 1: of the Great Recession, it's crawled above zero. Uh, you know,
50:54
Speaker 1: in the last year or two, but typically it hung
50:57
Speaker 1: out around five to ten percent in terms of net investment,
51:00
Speaker 1: and that's after corporate depreciation um and netting out the
51:06
Speaker 1: entire ball of walks and and so it basically means
51:09
Speaker 1: we're not investing in our economy. We're eating our seed
51:12
Speaker 1: corn because of this distortion in the financial markets where
51:17
Speaker 1: zero interest rates make financial assets attractive but not real assets.
51:22
Speaker 1: You're listening to Masters in Business with Barry rid Holts
51:26
Speaker 1: on Bloomberg Radio