Bill Gross — Stop Falling Home Prices Now
Kurt Brouwer April 2nd, 2008
In his latest commentary, Bill Gross seems to be backing off from the modest optimism he displayed in the March commentary. He calls for government intervention to aid the slumping real estate markets [emphasis in the original]:
When I’m 64 (Pimco Commentary, April 2008, Bill Gross)
…In my opinion, the private credit markets have forfeited their privileged right to operate relatively autonomously because of incompetence, excessive greed, and in minor instances, fraudulent activities. As a result, the deflating private market’s balance sheet is being re-nationalized in some cases with increased regulation, in others with outright guarantees and agency lending. Ultimately government programs which support private credit market assets may be required in order to prevent an asset deflation of significant proportions. Authorities must act quickly, with a shot of adrenalin straight to the heart of the problem: home prices. Since homes are the most highly levered and monetarily significant asset that American consumers own, if they decline much further they will drag the rest of the economy with them. Supporting home prices goes counter to the thinking of Republican orthodoxy. President Bush and Treasury Secretary Paulson argue that markets must “clear” in order to avoid similar mistakes made by Japanese authorities in the 1990s. Yet we may have passed the point of no return for “clearing” markets. Home price declines of 20% are in fact much more of a shock to the American economy than the popping of the Internet bubble and NASDAQ 5000, because the amount of homeowner leverage is so much greater. A 20% negative adjustment not only wipes out all ownership equity for millions of Americans, it turns their homes “upside down” – incentivizing them to let their gardens grow weeds instead of lettuce. The decline needs to be stopped quickly in order to avert additional crises.
One interesting point is that Bill Gross seems to be more nervous in this commentary than he was in his March column (see Pimco March Investment Outlook).
As we have invested with Bill Gross in Pimco’s Total Return Fund for many years, I have to admit that I put a lot of weight on his opinions. For example, he correctly saw the extent of the subprime lending mess (see PIMCO & Bill Gross Call For 3% Fed Funds Rate).
However, as I pointed out above, this commentary seems more negative than did his March commentary. In fact, there seems to be some daylight between the negative mood of this last commentary and the previous commentary, in which he wrote:
“…Still, we would both agree that value is returning to many parts of the bond market. If an investor requires 5%+ yields to compensate for future inflation, then they can increasingly be found in authentic AAA assets…”
As we saw in previous posts, the Pimco Total Return Fund, which Gross manages, does not seem to be in the severe ‘batten the hatches’ mode that would correspond with this column (see PIMCO Buys Citigroup Bonds). Which is the real Bill Gross? I think this commentary takes a stand in a way that has a prescriptive feel to it. It’s as if he was writing to the Fed and our political leaders.
And, maybe they were listening because a home mortgage relief plan (see Stocks Rally On Housing Bailout Rumors) seems to be on the fast track.
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