Why Retirees Should Listen Closely to Bill Gross

As the manager of the largest bond fund in the world and a founder of PIMCO, Bill Gross is a leading authority on all things related to yield.

Since retirement finances are fundamentally about generating income from accumulated assets, retirees should care greatly about any comments and insights from Gross.  This is especially true since the world is starved for yield.

Gross regularly shares his insights through commentary on the PIMCO website.

His most recent commentary expands on his notion that much of the world is failing to imagine the potential unintended consequences of accommodative monetary policy.

Gross suggests that the Fed’s stated policy of maintaining ultra low (near zero or “zero bound) interest rates through the end of 2014 may not result the desired effect.  Specifically, low interest rates may not stimulate economic activity through credit extension and asset purchases.

Gross describes an alternative scenario in which low interest rates result in credit destruction due to investors preferring to hold cash rather than assume any risk by extending credit.  Japan’s experience provides an example of this type of liquidity trap.

The logic behind this alternative scenario is as follows:

  • Yields of most bonds—particularly short and intermediate Treasury yields—are near zero.
  • The flatness (everything near zero) of certain yield curves results in few incentives for investors to assume risk by extending credit to longer maturities.
  • This risk aversion is compounded by the fact that certain yield curves are flat near zero or at the zero bound.  In other words, the first problem is that investors are not compensated for assuming the risk of longer maturities.  This problem is made worse by a flat yield curve near the zero or lowest end of the range offers very little potential for price appreciation and quite a bit of potential for downside risk should rates rise (really the only meaningful possibility when rates are at or near zero).
  • The net result is investors hold cash rather than extending credit.

The message to retirees under this scenario is pretty clear: save more or plan to spend less because retirement is very expensive in a zero bound world.