September was a down month all around, except for those who are aggressively shorting. Although we are doing a little of that in our Aggressive portfolio, our modest short allocation didn't generate enough upside to make up for the dual slides in bonds and stocks.
The S&P 500 was about the best place to be last month with a mere 1.41% slide — less than our generally safer balanced portfolios. The trouble was in higher risk debt, which we are fortunately light on, longer term bonds, which we have been heavy in, and essentially all foreign markets, to which we now are allocated sufficiently to underperform the S&P 500 during a month where emerging markets fall more than five percentage points harder than the S&P 500.
Commodities were hit early and often, most notably Gold which is down near 52 week lows and now off about 40% from what certainly is looking like a bubbly peak in 2011. Bottom line: everything investors were told to fear about inflation, a falling dollar, and the urgent need to own commodities was nothing more than a Wall Street scare tactic. After years of commodity underperformance, investors are starting to bail on all things ‘hard asset'.
The month's big financial news was in bonds. Just a few days ago we cleansed our Conservative portfolio of two PIMCO funds due to management turmoil at the debt super-giant and the departure of PIMCO co-founder Bill Gross. These now Powerfund ex-holdings, PIMCO Mortgage Opportunities D (PMZDX) and PIMCO BOND ETF (BOND), were actually some of our best performing funds in September and in general did well since we purchased them just over a year ago (only BOND was managed by Gross).
As we noted last week, the goal of this trade is to get out of PIMCO funds for the time being, not to significantly alter the portfolio's overall bond and stock allocation. We still prefer mortgage bonds to say, high yield corporate (junk) bonds and emerging market bonds at this time, so we're shifting to a safe, investment grade low fee, somewhat generic, choice with Vanguard Mortgage-Backed Securities (VMBS). This new fund is a little too low-duration (insensitive to interest rates) for our taste, but since we have long-term bonds elsewhere in the portfolio it's a good choice for now.
Something fishy has been building at PIMCO for quite some time. The firm could be on shaky ground (or at least reorganizing) similar to how Janus started to fall apart near the top of the tech bubble in 2000 (something we wrote about extensively at the time).
We're not sure if the fault lies with co-founder and (dethroned) Bond King Bill Gross, the closest thing the bond industry has to a rock star, or management. Probably it's a little of both.
Gross reportedly made about $200 million a year at PIMCO, while the recently departing CIO, who was reportedly not on good terms with Gross near the end, had to scrape by with a salary of only $100 million. The firm managed almost $2 trillion at its height, but that number has been dropping steadily for a while now. Tens of billions of outflows went out PIMCO's door in 2013, more from general bond market fears than management turmoil.
We would have expected Gross to start his own firm similar to how Jeffrey Gundlach started DoubleLine after walking out on TCW funds, but it turns out he's heading over to Janus of all places. It is possible Bill Gross doesn't want anything to do with the management duties of running a fund family and just wants to prove again how thoroughly he can trounce his zero-rate environment peers — call it one last hurrah before retirement. Very low rates bond investing is a lot like poker — you have to outplay your competition to beat a low-fee index by making the right rate and credit calls that they make wrong. Gross is probably dying to beat PIMCO, DoubleLine, and Vanguard's indexes in one fell swoop.
Without getting into too much speculation yet about the increasingly bizarre world of highly-compensated fixed income mutual fund managers controlling the world's debt markets, here is what we know and always have known at MAXfunds: you don't want to be in a mutual fund that is experiencing big investor outflows because selling portfolio holdings to meet redemption requests can drive prices (and therefore performance) down, which can lead to even more redemptions and lower prices and worse performance.
There is no telling if things at PIMCO will get worse (or even if things are currently all that bad). There are many, many 401(k) plans that have Gross's erstwhile Total Return fund as one of a few options in the bond area — and the reason that many plan administrators chose it was Bill Gross himself. They may eventually dump the fund. That's a long term problem for PIMCO.
How much of the hundreds of billion at PIMCO are there only because of Gross? We're about to find out. There doesn't seem to be a compelling reason to stay. Performance has been lackluster recently even with Gross, probably largely because of reversing asset flows. Why pay an above-index-fund rate for whomever PIMCO taps to take Gross' place? The new manager will be in charge of a huge portfolio that is hard to manage.
Hopefully for the bond market (and interest rates in general) PIMCO's outflows will be quickly reinvested into large bond funds at competitors. But won't it be the strange if the great interest rate upward adjustment happens not because of the Fed or inflation, but because of management disruptions and panic selling in the bond market?
Bill Gross should be managing his 'new' Janus Global Unconstrained Bond Fund soon — a tiny $12 million dollar in assets fund that was created — a little suspiciously in hindsight — earlier this year (and has been sitting largely in cash since).
We're thinking of buying this new fund in our model portfoios, and have already started buying in our managed accounts, even though at 1.07% for the retail class it's expensive for a bond fund ('I' class JUCIX is slightly more reasonable at 0.84%). Unless Gross gets barred from the business, this fund will likely bring in tens of billions in a few months. It's very difficult for a fund to underperform a benchmark with that sort of inflow.
We will certainly have more to say on this in coming months. Stay Tuned.
September 2014 Performance Review
September was a down month all around, except for those who are aggressively shorting. Although we are doing a little of that in our Aggressive portfolio, our modest short allocation didn't generate enough upside to make up for the dual slides in bonds and stocks.
Our Conservative portfolio fell 1.87%. Our Aggressive portfolio was off 1.85%. Benchmark Vanguard funds for September 2014: Vanguard 500 Index Fund (VFINX) down 1.41%; Vanguard Total Bond Market Index Fund (VBMFX) down 0.74%; Vanguard Developed Markets Index Fund (VTMGX) down 4.19%; Vanguard Emerging Markets Stock Index (VEIEX) down 7.16%; Vanguard Star Fund (VGSTX) a total global balanced portfolio fell 1.97%.
The S&P 500 was about the best place to be last month with a mere 1.41% slide — less than our generally safer balanced portfolios. The trouble was in higher risk debt, which we are fortunately light on, longer term bonds, which we have been heavy in, and essentially all foreign markets, to which we now are allocated sufficiently to underperform the S&P 500 during a month where emerging markets fall more than five percentage points harder than the S&P 500.
Commodities were hit early and often, most notably Gold which is down near 52 week lows and now off about 40% from what certainly is looking like a bubbly peak in 2011. Bottom line: everything investors were told to fear about inflation, a falling dollar, and the urgent need to own commodities was nothing more than a Wall Street scare tactic. After years of commodity underperformance, investors are starting to bail on all things ‘hard asset'.
The month's big financial news was in bonds. Just a few days ago we cleansed our Conservative portfolio of two PIMCO funds due to management turmoil at the debt super-giant and the departure of PIMCO co-founder Bill Gross. These now Powerfund ex-holdings, PIMCO Mortgage Opportunities D (PMZDX) and PIMCO BOND ETF (BOND), were actually some of our best performing funds in September and in general did well since we purchased them just over a year ago (only BOND was managed by Gross).
As we noted last week, the goal of this trade is to get out of PIMCO funds for the time being, not to significantly alter the portfolio's overall bond and stock allocation. We still prefer mortgage bonds to say, high yield corporate (junk) bonds and emerging market bonds at this time, so we're shifting to a safe, investment grade low fee, somewhat generic, choice with Vanguard Mortgage-Backed Securities (VMBS). This new fund is a little too low-duration (insensitive to interest rates) for our taste, but since we have long-term bonds elsewhere in the portfolio it's a good choice for now.
Something fishy has been building at PIMCO for quite some time. The firm could be on shaky ground (or at least reorganizing) similar to how Janus started to fall apart near the top of the tech bubble in 2000 (something we wrote about extensively at the time).
We're not sure if the fault lies with co-founder and (dethroned) Bond King Bill Gross, the closest thing the bond industry has to a rock star, or management. Probably it's a little of both.
Gross reportedly made about $200 million a year at PIMCO, while the recently departing CIO, who was reportedly not on good terms with Gross near the end, had to scrape by with a salary of only $100 million. The firm managed almost $2 trillion at its height, but that number has been dropping steadily for a while now. Tens of billions of outflows went out PIMCO's door in 2013, more from general bond market fears than management turmoil.
We would have expected Gross to start his own firm similar to how Jeffrey Gundlach started DoubleLine after walking out on TCW funds, but it turns out he's heading over to Janus of all places. It is possible Bill Gross doesn't want anything to do with the management duties of running a fund family and just wants to prove again how thoroughly he can trounce his zero-rate environment peers — call it one last hurrah before retirement. Very low rates bond investing is a lot like poker — you have to outplay your competition to beat a low-fee index by making the right rate and credit calls that they make wrong. Gross is probably dying to beat PIMCO, DoubleLine, and Vanguard's indexes in one fell swoop.
Without getting into too much speculation yet about the increasingly bizarre world of highly-compensated fixed income mutual fund managers controlling the world's debt markets, here is what we know and always have known at MAXfunds: you don't want to be in a mutual fund that is experiencing big investor outflows because selling portfolio holdings to meet redemption requests can drive prices (and therefore performance) down, which can lead to even more redemptions and lower prices and worse performance.
There is no telling if things at PIMCO will get worse (or even if things are currently all that bad). There are many, many 401(k) plans that have Gross's erstwhile Total Return fund as one of a few options in the bond area — and the reason that many plan administrators chose it was Bill Gross himself. They may eventually dump the fund. That's a long term problem for PIMCO.
How much of the hundreds of billion at PIMCO are there only because of Gross? We're about to find out. There doesn't seem to be a compelling reason to stay. Performance has been lackluster recently even with Gross, probably largely because of reversing asset flows. Why pay an above-index-fund rate for whomever PIMCO taps to take Gross' place? The new manager will be in charge of a huge portfolio that is hard to manage.
Hopefully for the bond market (and interest rates in general) PIMCO's outflows will be quickly reinvested into large bond funds at competitors. But won't it be the strange if the great interest rate upward adjustment happens not because of the Fed or inflation, but because of management disruptions and panic selling in the bond market?
Bill Gross should be managing his 'new' Janus Global Unconstrained Bond Fund soon — a tiny $12 million dollar in assets fund that was created — a little suspiciously in hindsight — earlier this year (and has been sitting largely in cash since).
We're thinking of buying this new fund in our model portfoios, and have already started buying in our managed accounts, even though at 1.07% for the retail class it's expensive for a bond fund ('I' class JUCIX is slightly more reasonable at 0.84%). Unless Gross gets barred from the business, this fund will likely bring in tens of billions in a few months. It's very difficult for a fund to underperform a benchmark with that sort of inflow.
We will certainly have more to say on this in coming months. Stay Tuned.