Pacific Investment to Sell ‘Bulk’ of Short-Term Bonds

Pacific Investment Management Co., the biggest U.S. bond fund manager, plans to sell the “bulk” of its shorter-term securities because the recent rally has driven yields down to unsustainable levels, the firm’s investment chief said.

Bill Gross, a managing director at the Newport Beach-based firm, has told clients in recent days that current yields on shorter-term Treasury securities can be justified only if the Federal Reserve lowers its target overnight bank interest rate to 2%.

The Fed cut that rate Monday for the eighth time this year, from 3.5% to 3%, and many economists believe that the rate could be cut to 2.75% in October. But a 2% rate would imply an economic collapse, some say.

On Tuesday, amid soaring liquidity in the banking system as the Federal Reserve sought to keep money available to banks, the overnight lending rate fell as low as 0.25%, traders said. But that isn’t expected to continue.

Even before the Fed’s latest rate cut, yields on Treasury bills, notes and bonds had been sliding since early July as investors bet that the economy would remain weak and as some people fled the stock market for safer havens.

But after last week’s terrorist attacks, the yield on two-year T-notes fell to 2.87% by Friday, lowest in nearly 50 years and down from 5.10% at the start of the year.

In his latest “Investment Outlook” published on Pimco’s Web site over the weekend, Gross said shorter-term yields “call into question the sustainability of [the declines] that may reflect more fear than common sense.

“If the bull market for bonds were to be judged by the short-to-intermediate portion of the Treasury yield curve, I would have to say it’s ‘full’--stick a fork in it, it’s done,” he said.

Yields rebounded somewhat Monday and Tuesday, with the two-year T-note ending Tuesday at 2.95%.

The five-year T-note yield hit 3.81% on Friday, and rose to 3.90% by Tuesday.

Yields on longer-term Treasuries also fell last week and have rebounded this week. The 10-year T-note, at 4.55% on Friday, rose to 4.70% by Tuesday’s market close.

Bond traders have pushed longer-term yields higher in part on fears that the federal government will ratchet spending sharply higher after last week’s attacks. That could mean more borrowing and thus greater issuance of new bonds, instead of debt reduction.

Still, Gross isn’t sanguine on U.S. economic prospects, even with fiscal and monetary “antibiotics” creating the possibility of a sharp recovery down the road, he said.

“The patient is already in his recessionary bedsheets, and because of that fact, the economy is at risk of a substantial further downturn,” he said.

But instead of Treasuries, Gross said he is on the lookout to buy more corporate, emerging market and high-yield bonds if they fall to “bargain levels,” meaning lower prices and higher yields.

Gross said he sees “ample opportunities” to accept more risk in his portfolios.

Pimco manages about $275 billion in assets, most of it in bonds.

Briefly

More investors are turning to gold coins after last week’s terrorist attacks. American Eagle gold coin sales so far this month have totaled 28,500 ounces, greater than any single-month sales figure this year, said a spokesman for the U.S. Mint in Washington. There were 6,500 ounces sold in all of August. Yet the price of gold itself has risen only modestly--from $275.50 an ounce before the attacks to $288.10 as of Tuesday.

Bloomberg News