China Will Face Its Own Bubble, Pimco’s Gross Says

Nov. 20 (Bloomberg) — Bill Gross, who runs the world’s biggest bond fund at Pacific Investment Management Co., said Chinese growth is likely to be hurt by an absence of consumer demand from trading partners such as the U.S.

“The Chinese, I suspect, will have a bubble of their own to confront,” Gross said in a Bloomberg Television interview yesterday from Pimco’s headquarters in Newport Beach, California. “It’s gearing up for export that doesn’t find an end consumer, that’s the real problem in China.”

The “systemic risk” of new asset bubbles in global economies and markets is rising with the Federal Reserve keeping interest rates at record lows, Gross wrote in his December investment outlook posted on Pimco’s Web site yesterday. The Organization for Economic Cooperation and Development and officials in Asia including Hong Kong Monetary Authority Chief Executive Norman Chan are also warning of bubbles in the region. “With unemployment in the double digits and likely to stay close to that for the next six months despite job creation ahead, the Fed has nowhere to go,” Gross, co-founder and co-chief investment officer of Pimco, said on Bloomberg Television.

Surplus Doubles

China’s trade surplus almost doubled in October from the previous month to $24 billion, figures from the customs bureau show. M2, the broadest measure of money supply, increased by a record 29.4 percent in October from a year earlier, according to the central bank. The Shanghai Composite Index of shares returned 84 percent this year. The index is valued at 35 times reported earnings, more than doubling in a year. Under what Pimco has termed the “new normal,” investors should be prepared for lower-than-average historical returns with heightened government regulation, lower consumption, slower growth and a shrinking global role for the U.S. economy.

Treasury three-month bill rates turned negative yesterday for the first time since financial markets froze last year on concern the rally in higher-yielding assets has outpaced the prospects for economic growth. The two-year note yield dropped to 0.68 percent, the least since Dec. 19. The Fed cut its target rate for overnight lending between banks to a range of zero to 0.25 percent in December. Policy makers reiterated on Nov. 4 that they intended to keep the benchmark at the record low for an extended period.

‘Not Obvious’

Fed Chairman Ben S. Bernanke said after a Nov. 16 speech in New York that it’s “not obvious” asset prices in the U.S. are out of line with underlying values after a 64 percent jump in the Standard & Poor’s 500 Index from its March low. For China, the government may need to rein in credit growth to tame inflationary pressures and keep asset bubbles from emerging, the OECD said. The world’s third-largest economy will expand 8.3 percent this year, faster than a June estimate of 7.7 percent, the Paris-based group said in a report yesterday.

The Hong Kong Monetary Authority’s Chan said yesterday that policy makers exiting economic stimulus plans “too late” may increase the risk of asset bubbles for Asian economies. Hong Kong Exchanges & Clearing Ltd. Chairman Ronald Arculli said on Nov. 18 that asset bubbles may be looming in Asia amid burgeoning stock and property prices. China is among the emerging markets facing risks of property and commodity market bubbles, central bank adviser Fan Gang said the same day. Fed Bank of St. Louis President James Bullard said on Nov. 18 that experience indicates policy makers may not start to increase interest rates until early 2012.

‘Heavy Lifting’

The “heavy lifting” will likely be done first by other central banks such as those in Australia and Norway that have already begun to increase interest rates, Gross wrote. “China may abandon its dollar peg within six months’ time and with it, its own easy monetary policy that has fostered more significant mini-bubbles of lending and asset appreciation on the Chinese mainland,” he added. China has kept its currency at about 6.83 per dollar since July 2008 by buying the greenback to help sustain exports amid a global economic slump. The nation, with the world’s largest foreign-exchange reserves of $2.3 trillion, is the biggest creditor to the U.S., holding $798.9 billion of Treasuries as of September.

Renewed Appreciation

“With renewed upward appreciation of the yuan may come potentially volatile global asset price reactions to the downside — higher Treasury yields, and lower stock prices — which the Fed must surely be leery of before making any upward move, of its own,” Gross wrote. The U.S. economy grew in the third quarter for the first time in more than a year as gross domestic product increased 3.5 percent from July through September after shrinking the previous four quarters, a Commerce Department report showed on Oct. 29. Gross advised following the lead of billionaire investor Warren Buffett on buying utilities because their earnings growth will mimic U.S. economic growth and provide steady dividend income. Buffett’s Berkshire Hathaway Inc. agreed this month to take over Burlington Northern Santa Fe Corp., the largest U.S. railroad, for $26 billion. The Total Return Fund managed by Gross boosted its investment in Treasuries, so-called agency debt and other government-linked bonds to 48 percent of assets in September from 44 percent in August, according to Pimco’s Web site. The holdings were the most since August 2004.

The $192.56 billion Total Return Fund yielded 18.29 percent in the past year, beating 54 percent of its peers, according to data compiled by Bloomberg. The one-month return is 1.11 percent, outpacing 59 percent of its competitors. Pimco is a unit of Munich-based insurer Allianz SE.

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