Called 'idiotic' by Kenneth Fisher, Pimco's 'new normal' spot on

Prediction of slow growth and high unemployment validated by yesterday's Fed announcement

Aug 10, 2011 @ 10:40 am

Once again, Bill Gross & Co. got it right (Bloomberg News)
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Once again, Bill Gross & Co. got it right (Bloomberg News)

Bill Gross was right after all.

Former White House economic adviser Lawrence Summers and Christina Romer, the former chairman of the U.S. Council of Economic Advisers, were among critics who challenged a view promoted by Gross's Pacific Investment Management Co. that the U.S. economy may be headed for a long period of below-average growth and high unemployment, a scenario known as “new normal.” Money manager Kenneth Fisher called the concept “idiotic.” (Click on the following link to see whether Warren Buffett and other top investors believe the U.S. is headed for another recession.)

Now Gross and co-chief investment officer Mohamed El-Erian, who coined the term more than two years ago, have been vindicated by the U.S. Federal Reserve, which said yesterday that the economic recovery is “considerably slower” than anticipated, following the biggest stock market loss since December 2008. BlackRock Inc. co-founder Laurence D. Fink, who in January said he didn't believe in the “new normal,” is forecasting growth of 1 percent to 2 percent for much of the decade.

“A lot of the new normal characteristics have played out,” El-Erian, chief executive officer of Newport Beach, California-based Pimco, said in an interview. “Some people confused new normal with fatalism, but the intention was the opposite. There was the hope that policy makers would recognize that there are structural responses they needed to embark on.”

‘Japanese-Like Growth'

The Federal Reserve yesterday pledged for the first time to keep its benchmark interest rate at a record low at least through mid-2013 to revive the flagging U.S. recovery. Chairman Ben S. Bernanke and his colleagues acted after reports showed the economy was slowing and an unprecedented downgrade by Standard & Poor's to the U.S. credit rating triggered a stock market rout that wiped out $1 trillion in the first trading session after the cut.

“It's pretty amazing that the Fed will be exceptionally low until 2013,” said Jason Rogan, director of U.S. government trading at Guggenheim Partners LLC, a New York-based brokerage for institutional investors. “They are telling you that we are in a stage of Japanese-like growth.”

Pimco outlined the “new normal” scenario at its annual Secular Forum in May 2009 that set investment guidelines for the firm for the next three to five years. The forecast predicted that, following the market collapse in 2008, the U.S. economy would grow at a below-average pace for the next several years as growth in the developed markets slows, unemployment stays elevated and the “heavy hand of government” would be evident in the markets.

Quantitative Easing

Unprecedented asset purchases by the Fed helped revive the economy and financial markets. U.S. stocks doubled from their low in March 2009 to their high in April earlier this year.

Bill Miller, the manager famed for beating the Standard & Poor's 500 Index for a record 15 years through 2005, rejected the idea of a “new normal” in 2009, saying that the odds may not favor a prolonged period of slow growth.

Summers, the former White House economic adviser, said in 2009 he would be “very reluctant to accept the idea” of an extended period of slow growth for the U.S. economy. Romer has said she found the “fatalism” of the idea that unemployment would remain elevated because of structural issues “distressing.”

Summers wasn't immediately available for comment, according to spokeswoman Victoria Groves. Romer didn't return a call seeking comment.

‘Three-Plus Percent'

As the economy strengthened, the criticism grew louder. In April, Romer said that the jobless rate “is not the new normal.” BlackRock's Fink said during a conference call with investors and analysts in January that he never shared Pimco's view on the post-crisis economy.

“We never believed in the ‘new normal,' ” Fink said then. “We were always talking about a U.S. economy growing three-plus percent.”

At the fixed-income unit of BlackRock, investment chief Rick Rieder had been less optimistic, telling clients since at least May 2010 that economic growth in the U.S. will be held back by “structural” factors such as problems in the labor market and the debt problems in Europe.

“We think there will be growth in the range of 1 to 2 percent,” Rieder, chief investment officer for fundamental fixed income at BlackRock, said in an interview yesterday. Fink used the same numbers in an interview with Bloomberg Television's Erik Schatzker in June, adding growth will remain “modest” for the next 10 years.

Rieder oversees more than $600 billion for New York-based BlackRock, which is the world's largest asset manager with $3.7 trillion. Fink, who co-founded BlackRock in 1988, is chief executive officer of the firm. While he oversees the asset- management firm, investment decisions are left to individual portfolio managers.

‘People Are Pessimistic'

Fisher said that Pimco and others are choosing to ignore the positives in the market, while focusing on unemployment and consumer spending, which are “late lagging indicators.” While he hasn't changed his view on the “new normal,” it will be hard to make investors change their minds, said Fisher, chief executive officer of Fisher Investments Inc. in Woodside, California, which runs $44 billion in assets.

“People are pessimistic in the aftermath of a bear market, so I expect ‘new normal' to stay popular,” he said in an interview. “I don't expect it to go away anytime soon.”

Gross domestic product expanded at a 1.3 percent annual pace in the second quarter, less than forecast by economists, a July 29 government report showed. The economy almost stalled in the prior quarter, growing at a 0.4 percent pace, the weakest three-month period since the recovery began in mid-2009.

Hiring has slowed as employers lost confidence in the recovery. Average monthly payroll gains fell to 72,000 in the three months through July, from 215,000 in the prior three months. The jobless rate fell to 9.1 percent in July from 9.2 percent in June as Americans gave up looking for work.

Missing the Rally

The Fed said yesterday it expects a “somewhat slower pace of recovery over coming quarters,” adding that “downside risks to the economic outlook have increased.” The Fed also said there has been “a deterioration in overall labor-market conditions in recent months” and household spending has “flattened out.”

Gross hasn't always been right about market calls. Earlier this year, he dumped U.S. Treasuries from his $245 billion Pimco Total Return Fund (PTTRX), only to miss a rally as investors fled to safer assets amid market volatility and the sovereign debt crisis in Europe. His fund has advanced 3.6 percent this year, lagging behind 66 percent of peers, Bloomberg data show.

Earlier this month, Pimco cut its forecast for U.S. economic growth from a range of 2 to 3 percent to a range of 1 percent to 2 percent.

El-Erian said he also “underestimated” how far the Federal Reserve would go to stimulate the markets and the economy by embarking on a second round of asset purchases using a technique called quantitative easing.

“QE2 was a failed attempt to use the balance sheet of the Federal Reserve to set the U.S. economy on a path of growth,” El-Erian said in the interview. “We saw a short-term boost to growth which has now petered out.”

--Bloomberg News--


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