By MATTHEW CRAFT
THE ASSOCIATED PRESS
NEW YORK - The bond market is said to be populated with worried, glass-half-empty types. And Pimco, the world's largest bond fund manager, is never shy about making the big picture look pretty bleak. The thing is, they keep getting it right.
Not long after the financial crisis hit in 2088, Pimco laid out a gloomy forecast for the years to come. Debt piled up over the boom years would drag down the U.S. and Europe, straining government finances to the breaking point. Markets wouldn't rebound as quickly as in the past. Pimco believed the rules of the game had changed.
Pundits and many investors attacked Pimco's view as overly pessimistic at the time. But a few years later, the European debt crisis, slow-moving economic growth at home and the turbulent stock market have turned Pimco's "new normal" into conventional wisdom.
So what's their view of the year ahead? Much like this year, everything hinges on Europe. In a recent interview with the Associated Press, Tony Crescenzi, a Pimco market strategist says the new year may look a lot like the old one. Investors should be prepared for the worst. In other words, don't rule out a collapse of the euro.
Q: How do you imagine 2012 will be different from 2011?
A: The world is playing a game of hot potato right now. There are more and more banks and investors seeking to sell assets and more assets seen as toxic. So you have more hot potatoes - such as, European bank debt and European government debt. The only player with oven mitts is the European Central Bank, but it's refusing to be the lender of last resort. And at the same time, there are fewer and fewer places to hide from market volatility. Even gold in recent days has lost some of its luster as a store of value. This environment is likely to linger into 2012.
Q: Even after the recent agreement to put tighter controls on government budgets, you don't think Europe's debt crisis is anywhere near fixed?
A: Europe hasn't sought solutions that fix its current problems. Italy and Spain, their governments and banks combined, need around $500 billion in funding next year. That's a massive need. What if they don't get it? It creates a risky, volatile climate.
Q: This year, whenever Greece or Italy seemed to be struggling with their debts, everybody bought dollars and Treasurys and sold stocks. In 2012, do you expect markets will react like they did this year?
A: Like the second half of this year. That means people will be buying Treasurys. They'll be the big beneficiary again as people flee other assets. You want bonds that will behave well in a risky environment. For instance, Canadian government bonds, the U.K. gilt market, Australia, shorter maturities in the Brazilian market. And German government bonds, still.
In corporate bonds, it means underperformance. The dollar will continue to benefit as it has been recently. The dollar is up about 5 percent since July. We'd expect continued strength in the dollar.
Q: Pimco is buying U.S. Treasurys again. What else are you doing to prepare for this climate of uncertainty?
A: This is a time to be a true guardian of capital - that's an expression Bill Gross (one of Pimco's founders) likes to use. You want to avoid catastrophic losses. And if there's a breakup of the euro there's a potential for catastrophic losses.
Within portfolios, we're choosing companies with strong balance sheets in strong industries. Second, we're also buying high in the capital structure. Meaning, that if there's a bankruptcy, you're first in line. Third, we're buying companies with hard assets to sell if there's a bankruptcy. Finally, we like to find products that are resistant to swings in demand. This isn't a recommendation but tobacco, for instance. That's a way to fortify a portfolio.