five-year TIPS predict deflation / Pimco performance sucks (as usual) -- read all about it ... here !
OCTOBER 29, 2008
Pimco Shifts Its Tilt Toward TIPS
By MIN ZENG
Wall Street Journal
In a shift in strategy, bond-fund giant Pacific Investment Management Co. has begun to see value in U.S. government debt aimed at hedging against inflation risks following the recent months' massive wave of selling.
Mihir Worah, who manages the $15.06 billion Real Return Fund at Newport Beach, Calif.-based Pimco, a unit of Allianz SE, said the fund has now moved to overweight Treasury inflation-protected securities, after being underweight the sector in the past few months. He said TIPS prices are at attractive levels.
Inflation-protected bonds have been hammered over the past months as the financial crisis triggered a global wave of selling across a wide range of asset classes, from stocks to emerging market bonds and commodities. The rapid drop in crude-oil prices from their highs in July has played a large role in the TIPS' market's woes.
Investors sold TIPS to meet redemption demands or cover losses in other investments. This deleveraging has exaggerated the declines in the TIPS market, which, with just $521 billion in debt outstanding at the end of August, is much smaller than the $4.36 trillion in cash Treasurys.
While Mr. Worah doesn't see a significant rebound in TIPS prices in the near term, he expects the sector to beat nominal Treasurys over the next six months, betting that government measures to support the financial system will help ease risk aversion.
"Obviously as far as 2008 is concerned, the party for TIPS is over," said Mr. Worah in an interview. "But going forward I think they offer good value."
TIPS have shed all the gains made earlier this year. So far this year through Monday, TIPS have lost 6.89%, while safe-haven flows have buoyed nominal Treasurys, which have gained 5.5% over the same period, according to Lehman Brothers bond indexes, owned by Barclays PLC.
The losses in TIPS weighed on the Real Return Fund's performance, with the fund losing 6.1% in the month through Sept. 30, compared with a loss of 3.8% on its benchmark index -- the Lehman Brothers U.S. TIPS Index -- in the same period, according to data on Pimco's Web site. In the past 12 months, the fund has gained 3.8%, compared with 6.2% on the index.
[So, if I am reading this correctly, Pimpco, I mean Pimco had their Real Return Fund under-perform the benchmark both in September, and for the past 12 months. As usual, Pimco does NOT demonstrate any ability to manage bond portfolios well. But -- they sure know how to get their people on TV all of the time ...]
Rather than worry about inflation, investors are now focused on the possibility of deflation in the U.S -- a period of falling prices similar to what Japan went through in the 1990s.
These concerns have led to a sharp narrowing in the yield gap between 10-year TIPS and 10-year Treasurys. Last week, the so-called 10-year break-even rate fell to a 10-year low of 0.7 percentage point, suggesting that investors expect an average annualized inflation rate of 0.7% over the next decade.Tuesday, the gap was 0.81 percentage point.
Over the next five to six years, investors are expecting deflation, as the five-year TIPS now yield more than nominal five-year Treasury notes, a rare phenomenon. Yields on TIPS normally are below those on nominal Treasurys because their principal is adjusted regularly to compensate for inflation changes. Tuesday, the five-year TIPS yielded 3.23%, more than 2.729% on the five-year nominal Treasurys. Bond yields rise when prices fall.
Mr. Worah acknowledged that inflation in the U.S. has come down from its peak in 2008, and said that headline inflation in 2009 could well fall to 1% or even lower.
"Maybe it will briefly touch zero or near zero in 2009," he said. "But inflation will not remain negative over the next five years. For one year, it could be, but not for the next five years."
Write to Min Zeng at min.zeng@dowjones.com
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