Larry Fink and Bill Gross discussion

Hosted by UCLA's Anderson School of Business. Both men are Anderson alums.


Notes from the event:


On parallels to 2008

·         Bill Gross doesn’t see a “2008 moment” occurring, although he acknowledges that we are currently witnessing deleveraging in the global marketplace as well as a flight to safety and liquidity. He sees a structural problem across the developed world with a lack of aggregate demand, high debt levels, and an ageing of the population which indicate a peaking of consumption and a lack of demand over the next 10-15 years (essentially PIMCO’s “new normal” thesis).

·         Larry Fink sees 2011 as a continuation of the 2008-09 period in that we are continuing to see deleveraging. Fears of 2008 are still in the psyche of investors, but de-risking is a “natural” phenomenon and he sees much of this fear priced into markets via low PE ratios. He sees lower global growth of 3.5%, but that still translates to 7% to 7.5% equity returns going forward.

On Europe

·         Bill Gross notes that the ECB is dominated by Germany and its philosophy of tight money and low inflation, which limits the central bank’s ability to offer a “Draghi put” (in the same vein as the so-called “Bernanke Put”). The ECB doesn’t believe that we cannot solve a debt crisis with more debt, while the U.S. thinks otherwise. Overall he doesn’t see a “determinable outcome” since the situation is in flux and dangerous.

·         Larry Fink thinks Germany has been playing its cards well by forcing regime changes and greater budgetary responsibility in Europe, and in making Spain and Italy responsive to the capital markets. However, he thinks this is a “dangerous” game with high stakes, and Germany ultimately doesn’t want to see an abandonment of the Euro which would mean the bankruptcy of every financial institution and other corporations as well since their debt is denominated in Euros.

On the risks of Europe to the US Economy

·         Bill Gross believes that risk from the Eurozone to the US ranks “right at the top.” As the reserve currency and with an economy that is actually growing, investors have continued to buy U.S. debt. However, given the $60T of unfunded entitlement liabilities, high debt levels, deficits, and interest rates at the zero bound, the US is at risk from its own policies as well, and not just Europe.

On the US Economy

·         Bill Gross believes that the U.S. has too much debt and will need to either balance the budget, raise taxes, or reflate. He would “invest elsewhere” in this environment. He believes that the current leadership needs to emphasize investment over consumption in their policies. The U.S. needs to make “things” not paper, and become competitive globally.

·         Larry Fink agrees that the U.S. needs to become more than just a consumer economy. The country needs more infrastructure investments and should consider converting Freddie and Fannie real estate to rentals. He sees the same pitfalls as Gross but is less bearish, believing that the U.S. has a unique culture of entrepreneurship and vitality that has given rise to firms such as Facebook. The U.S. is still the intellectual capital of the world and its productivity could continue to be a differentiator.

·         Gross counters that we haven’t seen significant job creation from this innovation which is troubling.

·         Fink thinks that the jobs situation will stabilize once we find stability in housing, which is likely 2-3 years away. On a positive note, we now have 4M fewer vacant housing than the 8M that we had after the crisis. Having a broader immigration policy would also stimulate the economy.

On their trust in government

·         Bill Gross is a disenchanted, registered Republican who voted for Obama, but now he would “vote for neither” party. He thinks Washington DC is dominated by lobbyists, and that Democrats and Republicans are two sides of the same coin.

·         Larry Fink says that one can be against specific policies and politicians but you still have to take an active role in shaping policy.

On Occupy Wall Street

·         Bill Gross said he supports labor over capital and main street over wall street. Capital has benefited at the expense of labor for several decades (a topic he covered in a recent monthly letter).

·         Larry Fink also likes OWS, seeing “fringe element symmetry” with the tea party.  The financial community and politicians let people down and while the financial community has taken its share of the blame, he would like to see politicians admit to their mistakes as well.

On the Debt Super Committee

·         Larry Fink  would like to educate people about entitlements and also seriously address reform by raising the retirement age, raising taxes, and changing the corporate tax rate (he believe that the corporate tax rate issue may be addressed this Wednesday). He believes that too much of the burden is being placed on the shoulder of young people, so we may continue to see protests.

On Investment Strategies

·         Bill Gross sees an environment of “financial repression” in Developed Markets i.e. persistent negative real rates to allow the government to get out its debt hole. Without high economic growth, returns from financial assets will not match their past returns and will likely return 4%-5% vs. the historic 8%-9% returns.

·         Larry Fink sees 7% returns and thinks that long-term investors should stay out of bonds. He would not follow traditional equity-fixed income allocations and would rather concentrate his portfolio on dividend paying multinational corporations that derive a large proportion of their revenue oversees, especially for investors with longer time horizons.The only way pensions can support a higher bond allocation is by doubling their current contributions. Increasing the allocation to equities implies that one would have to accept more risk, but he thinks that risk is priced into the low PE ratios of equities today.

·         Bill Gross thinks that the key question is whether developed markets are successful in their reflation attempts. Producing 4.5% nominal GDP is not a slam dunk given Japan’s experience (although they made policy mistakes along the way that exacerbated the problem). If reflation efforts are unsuccessful, he would recommend sticking with higher quality and safer investments. If reflation efforts are successful, then he likes equities given their superior ability to cope with inflation. In his personal portfolio he owns a substantial amount of municipal bonds and global growth companies.

On What They Admire About Each Other

·         Bill Gross envies Blackrock’s huge ETF and Equity business lines and would like PIMCO to emulate their success.

·         Larry Fink admires Bill’s “quest for ideas and his process of investing.” He also admires his track record, longevity, and influence.

On What Motivates Them

·         Bill Gross is famous for asking interviewees if they are motivated by Money, Fame, or Power. Personally, he’s motivated by Fame, which he defines as gaining the respect of others.

·         Larry Fink says he’s motivated by gaining the respect of others as well.

Q&A – On Federal Reserve Policy

·         Larry Fink supported QE1 and QE2 but thinks Operation Twist was a mistake. The Fed should consider counter-cyclical regulatory supervision i.e. having more Americans qualify for loans by reducing required FICO scores and relaxing other policies.

·         Bill Gross thinks Bernanke recognizes this which is why he asked for more assistance from fiscal policy. While Gross believe in Austrian economics, he thinks loose monetary policy is justified at this time.

Q&A – On the effect of lower rates on Pensions and Life Insurance Companies

·         Bill Gross thinks lower rates are a problem but it’s likely that the Fed weighed the impact of Operation Twist on Pensions and Life Insurance Companies prior to making the move, and they probably decided that it would be manageable overall. He thinks that while higher rates may help their portfolios, higher rates will probably arise from inflation expectations rather than any direct Fed policy.

Q&A – On the “Japanization” of America

·         Larry Fink thinks there are significant differences in that compared to Japanese zombie banks our banks are in much better shape having built up their capital base. However, we could see persistent deflation a la Japan if we can’t generate growth. He also notes that not enough attention is given to Defined Contribution plans, which are a very important source of savings and Americans just aren’t putting enough away. Japan is the second largest creditor economy but is now making the shift to from saver to spender.

·         Bill Gross also sees several significant difference especially with respect to demographics. While our demographics are in better shape, we are still an ageing society, which will lead to problems going forward.