Today I am going to re-visit an article that I wrote last
December. The article was titled “Pre-Mature
to Dance On The Gross Grave” and the article shared my disgust with the
financial media jumping all over the greatest fixed income manager of
all-time. Here is the article:
“Being that Bill Gross and the PIMCO Total Return Fund (PTTDX)
represent a large portion in two of my three models, I find the need to defend Mr.
Gross and his fund’s 2011 YTD performance. I find it hilarious that a defense
needs to be made, but it seems society is eager to tear down anyone who has
been successful in the past.
A big deal has been made of the fact that Gross miscalculated
(for a very short period of time) earlier this year by betting against a rally
in U.S. Treasuries. This admitted misstep has been well covered in the
financial media and has left the PIMCO Total Return Fund trailing many of its
peers YTD. Or has it? Who exactly is a total return bond manager’s competition?
While the headlines are fun to read, they show a complete misunderstanding of
the total return approach to investing in bonds.
The main problem I see with managers within the total return
bond sector is that they are automatically lumped in with other funds based
upon their current portfolio weighting. Yes many of these funds, based upon
their current positions, could be viewed as short-term government securities
funds, but in reality they offer so much more with a tremendous amount of
flexibility.
A total return investing approach to bonds means that the
management team is focused on the overall performance of a bond. This means
both the price and the yield of the bond are factored into total performance
measures. Unlike corporate bond, municipal bond and U.S. Treasury bond funds
that have to invest specifically within those sectors, a total return bond
manager is not handcuffed by these restrictions. Good total return bond
managers will try to position their portfolios in bond securities that they
feel offer the potential for the highest total return on investment.
Do you think a high quality corporate bond fund manager was
happy that he or she had to own corporate bonds in 2008? I’m sure they saw risk
all over the bond horizon but there was not much they could do about it because
they were mandated to own corporate bonds. In 2008, the average corporate bond
fund lost 15% of its total value, and the average municipal bond fund lost 10%.
In that same year Gross guided the PIMCO Total Return Fund to a gain of 4.48%.
The total return approach gave Gross the flexibility to avoid areas of the bond
market that others could not. Again, not all of the others are bad managers,
but they simply had to stay within their sectors. I have a large amount of
respect for the management team of the Loomis Sayles Bond Fund. The fund was
down almost 22% in 2008. Not beause the managers stunk but because there was
not much they could do when the sector they invest in was out of favor.
Sometimes the best offense is simply a good defense and that is
why I prefer the total return approach to owning bonds within a strategy that
deploys tactical allocation. I want a manager that can focus on total return
and capital preservation, and has the ability to sit on a tremendous amount of
cash. Not being mandated to invest a minimum percentage of your portfolio in a
specific sector (ex. corporate bonds) gives these managers that ability.
While everyone is eager to compare the PIMCO Total Return Fund
to government securities funds let’s remember that is not accurate. How did
Gross achieve such outperformance in the last decade? It certainly did not come
from owning treasuries. In fact, if we could look back 11 years ago at the fund
it would most likely resemble a corporate bond fund. As the Fed raised rates
aggressively in 2000 to cool down the economy, Gross began buying a tremendous
amount of high-grade corporate bonds. As it turned out the Fed overshot and
rates have been coming down ever since. That decision provided a large amount
of appreciation for the fund. While Gross was able to lock in these gains and
go to cash, corporate bond fund managers watched their portfolio values rise
and then comeback down because of their mandates.
My theory is that when someone has earned the title “Bond King”,
and did not have it handed to them, then I would like that person to manage my
bond assets. So before you decide to dance on Gross’ early grave, ask yourself
why it makes you feel good to do so. We are talking about a mutual fund and a
manager that is still up 3.14% YTD. If you are living in a “what have you done
for me lately” world then you need to take the blinders off. Bill Gross’ risk
vs. reward returns over the last 3, 5 and 10 years are still unmatched.
Go ahead and bet against the “Bond King”, but if you do, I would
suggest getting some pretty favorable odds. It is a bet that I am smart enough
not to make because I understand what I own and why I own it.”
So here we are on December 6, 2012. The same journalists that thought Gross’
slight misstep was a newsworthy event have spent much of 2012 writing about his
funds stellar performance year-to-date.
With just a few weeks left in 2012, Gross has thus far guided his PIMCO
Total Return Fund to a gain of 10.40% for the year. My point?
Stop following the sensationalized headlines. Doing so, more often than not, leads to poor
investment returns.
Does this mean you should run out and invest in the PIMCO Total
Return Fund? No. It means you better learn (and I mean learn
fast with the risk I see in the bond markets) the differences between a total
return manager and other bond managers. This
article will help you:
Jon R. Orcutt is the founder of Allocation For Life, Author of The Allocation For Life Investment Newsletter, Author of "Master The Markets With Mutual Funds: A Common Sense Guide To Investing Success" and manager/creator of the AFL Models available to Allocation For Life subscribers at Folio Investing.
