- The Washington Times - Monday, October 19, 2009

BOSTON | News item: Bond fund guru and stamp-collecting buff Bill Gross made an $8 million donation last month to the National Postal Museum.

It’s a generous gift that might not seem unusual considering the amount of money he manages. A flight to safety by investors helped fuel the recent surge of cash into his Pacific Investment Management Co., better known as Pimco Total Return Fund. It’s grown into a $187.5 billion behemoth — the world’s largest mutual fund, with few obstacles threatening to end its sizzling expansion anytime soon.

Investors poured $5.5 billion into Total Return (PTTAX) during August alone, its strongest showing in a year of topping the fund sales charts, according to Morningstar Inc. Total Return now commands 13 percent of the entire taxable bond fund market.

Meanwhile, Mr. Gross’ reputation only continues to grow as a font of fixed-income wisdom — even if the former professional blackjack player doesn’t need the attention at age 65. He can already boast a storied career that took off after he helped found Pacific Investment Management Co. in 1971.

Investors are clearly looking for guidance. Market commentaries Mr. Gross writes for Pimco’s Web site have drawn an average 84,000 visits per month the past year. Articles by other Pimco leaders like CEO Mohamed El-Erian also generate plenty of traffic, but aren’t as colorful as Mr. Gross’ musings. His latest, titled “Doo-Doo Economics,” makes a metaphorical connection between cleaning up dog manure and California’s fiscal mess.

“They can get a little bizarre,” says Lawrence Jones, a Morningstar analyst who tracks Pimco. “But when his investment outlook hits their Web site, thousands of people around the country — if not tens of thousands — pretty much stop what they are doing, and quickly give it a read.”

As for Pimco as a whole, it’s also benefiting in the current market. The Newport Beach, Calif.-based company has seen $9.2 billion flow into its funds this year, beating all other fund companies. Credit a bond market that’s won over investors still skittish about stocks after the market meltdown — bond funds have seen nearly 14 times as much cash flow in this year as stock funds. Normally stock funds take in twice as much as more conservative bonds.

On the performance front, Pimco’s doing fine. Through last week, its funds, on average, were beating about two-thirds of their peers year-to-date, according to Morningstar.

Pimco typically makes bond market bets based on its outlooks for inflation and interest rates. Rivals often rely more heavily on bottom-up assessments of the health of each corporate or municipal bond issuer, and Pimco’s big-picture approach means its funds can occasionally trail rivals.

It has also led to spells when Mr. Gross’ reign as “king of bonds” — the title media unofficially bestowed on him — has been in jeopardy. In mid-2007, Mr. Gross’ caution about the housing market left him feeling a bit lonely among bond strategists who didn’t share his view that the subprime mess would hit banks and the broader economy so hard. For a couple years, Total Return lagged the pack.

“Articles came out with headlines like, ‘Is the bond king dead?’ ‘Do we need to crown a new bond king?’” recalled Morningstar’s Mr. Jones. “Little did they know we were about to see a massive credit crisis, and Bill Gross was positioning his portfolio almost perfectly.”

Total Return avoided the worst credit risks, posting a 4.3 percent return in 2008 — 9 percentage points ahead of its peer group.

This year, Total Return is merely middle-of-the-pack with a nearly 13 percent return — largely because it hasn’t relied as heavily as many rivals on the riskiest bond category, high-yield, which has surged this year.

“But if risk takes another hit in coming months, Total Return will start looking pretty good,” Mr. Jones says.

Meanwhile, Pimco, a unit of German financial conglomerate Allianz, has been trying to broaden its appeal. The company traditionally caters mostly to institutional clients like pension funds and foundations, but has increasingly targeted individual investors in recent years.

“Total Return has become the main bond option on many 401(k) platforms,” Mr. Jones says.

In June, Pimco introduced a group of exchange-traded bond funds. Mr. Gross said recently that Pimco hopes to eventually offer its first stock funds.

But Pimco is likely to remain mostly a bond shop. Now the question is whether the company and the bond market as a whole can sustain the recent success in attracting investor cash. After all, two chief threats to bond returns — inflation and interest rates — can’t stay at their current lows forever.

Even if inflation isn’t a short-term threat, long-term investors could see bond prices dwindle once the economy recovers in earnest, and the hangover from the government’s stimulus spending binge sinks in. Further momentum in the stock rally could also turn investors away from bonds.

Pimco’s outlook is cautious: A running theme in commentaries by Mr. Gross and Mr. El-Erian is that markets and the economy have entered a “new normal” phase of restrained growth.

But the company sees plenty of opportunity for itself, and Pimco doesn’t expect to close the Total Return Fund to new investors anytime soon. Asked about potential limits to Pimco’s growth, a spokesman pointed to the wealth of opportunities in a global bond market estimated at $67 trillion, just over half of it in the U.S.

With about $842 billion in managed assets at midyear, Pimco is scratching the surface.

One potential obstacle to the company’s growth: Its bond strategies rely heavily on derivatives, complex financial instruments that critics blame for hastening the financial crisis. Regulators are studying ways to tighten derivatives oversight, which could hamper Pimco, Mr. Jones says.

The flow of money into Pimco’s funds also could slow if this year’s middle-of-the-road performance at Total Return becomes prolonged.

After all, investors tend to flock to the hottest funds, even if they may lack Total Return’s long-term record.

“Investors,” Mr. Jones says, “tend to be excessively short term-oriented when it comes to performance.”

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