Don't Follow Bill Gross Off the Cliff

One of the hardest things for investors to do is to admit that they've made a mistake. PIMCO bond maven Bill Gross seems to have done exactly that.

Earlier this year, Gross made one of the most outspoken criticisms of Treasury debt made during this unprecedented period of low interest rates. Yet as Treasuries soared ever higher, Gross and his PIMCO Total Return mutual fund started falling behind its competitors. Now, PIMCO has announced that the fund has increased its Treasury holdings back to a more reasonable level. What's behind the move, and what does it mean for you and your own bond holdings?

The ultimate about-face to save face
Gross made a point of saying earlier this year how his fund, which is the largest mutual fund in existence, sold Treasuries short. He alluded to a number of colorful metaphors, suggesting that "your pocket will basically be picked if you stay" in Treasuries and that those who "stay in the pot" would "get cooked."

At the time, the move made plenty of sense. Effective real yields on inflation-protected Treasuries were negative for maturities as long as six years, while traditional Treasuries had rock-bottom rates pretty much across the yield curve. Yet longer-term bond ETFs such as the iShares Barclays 20 Year Treasury (NYS: TLT) had already come off their highs, emboldening those using short-Treasury plays like ProShares UltraShort 20 Year Treasury (NYS: TBT) to try to profit from a potential drop in Treasuries.

Yet across the board, bonds have held up a lot better than stocks. Vanguard Total Bond ETF (NYS: BND) and iShares Aggregate Bond ETF (NYS: AGG) are both up for the year, which is more than you can say for the S&P 500 and the Dow Jones Industrials (INDEX: ^DJI). Interest rates have continued to fall to record levels, with mortgage rates at multidecade lows. Even municipal bonds have recovered from their late-2010 swoon.

What should you do?
With Gross caving under pressure after his fund fell to the bottom 20% of bond funds in terms of one-year performance, should you follow suit and buy Treasuries? For most investors, the answer is "no."

When you buy a 10-year Treasury right now, you're committing to receive less than 2% on your money through the year 2021. In exchange for that interest, you get full exposure to all the risks that the U.S. economy faces right now, be it rampant inflation, dollar devaluation, government default, or a host of other less catastrophic events.

Now compare that risk with the pros and cons of holding shares of multinational giantsCoca-Cola (NYS: KO) or McDonald's (NYS: MCD) . With sales around the world, neither of these companies is beholden to any one country. If prospects in the U.S. worsen, then they can shift their focus abroad and capture growth opportunities there. And all the while, shareholders will reap yields that at the moment far exceed the paltry 2% that Treasuries offer.

Of course, if you're absolutely convinced that stocks will suffer another Lost Decade in the 2010s and not provide even 2% returns between now and when your 10-year Treasury matures, then buying Treasuries may not seem silly at all. The key, though, is to understand that when you take dividends into account, stocks have to perform really badly to fall short of what Treasuries pay. That's a trade-off that Bill Gross may need to make, but you don't have to follow him.

Stay safe
For good or ill, most investors need to have at least some of their money in safe, income-paying investments like Treasury bonds or their equally safe yet higher yielding alternatives, bank certificates of deposit. But you shouldn't take Gross' move back into Treasuries as a sign that they're likely to perform any better than Gross originally thought earlier this year. While he has the pressure of running the biggest mutual fund in the industry, you can sit back and make better moves with your own money.

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At the time thisarticle was published

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