NEW YORK (Reuters) – Pimco, an investment firm that manages the world’s largest bond fund, said on Tuesday in its three-to-five-year outlook titled “The New Neutral” that low central bank interest rates underscore an end to bull markets in financial assets.
In the report released on the firm’s website, Pimco said that neutral real, or inflation-adjusted, central bank policy interest rates close to zero suggest “an end to bull markets as we’ve known them, but no perceptible growling from the bears.”
Pimco said the firm saw perhaps 3 percent annual returns for bonds and 5 percent annual returns for stocks over the next three to five years.
In global monetary policy parlance, a neutral central bank interest rate does not spur or slow economic growth, with all other factors being equal. In financial terms, it refers to a market that displays neither bullish or bearish tendencies.
Pimco, whose flagship Pimco Total Return Fund has $230 billion in assets and is run by co-founder and chief investment officer Bill Gross, said markets had incorrectly assumed that central banks could set higher policy interest rates.
Richard Clarida, Pimco’s global strategic advisor, wrote the secular outlook section of the report, while Gross wrote the investment implications portion.
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Gross has said that while current Federal Reserve participants believe the neutral rate is 4 percent, Pimco believes 2 percent is “closer to the mark.”
Gross added that if the neutral rate is 2 percent, asset markets are “not bubbly, just low returning.”
In Tuesday’s report, Pimco said implications are for “low returns yet less downside risk that investors currently expect,” and that it expects 10-year Treasuries yields to be range-bound between 2.5 to 4 percent over the next three to five years.
One factor weighing on the potential in equity markets would be that Shiller price to earnings ratios are above historical norms. The “Shiller P/E” was named after Yale University economics professor and Nobel laureate Robert Shiller.
Pimco assured investors, however, that it could still deliver higher returns over the next half-decade despite modest growth and low upside on assets.
“A sow’s ear can be turned into a silk purse even if 10-year Treasuries are range-bound between 2.5 percent and 4 percent as we expect over our secular horizon,” the report said.
In economic terms, a secular trend is a market tendency that is sustained over the long term. The term is most often used to distinguish those tendencies from seasonal variations and the effects of economic cycles.
The “New Neutral” title of the report marked a shift away from the firm’s “New Normal” phrase, which it coined five years ago to describe a period of global economic stabilization following the 2008 financial crisis.
Pimco said that, despite the promises of an energy revolution for the U.S. economy, there was a risk that the U.S. and the broader global economy would be unable to grow and generate inflation at levels that preceded the 2008 financial crisis “for many years to come.”
The company also said large sovereign debt in many euro zone countries would probably lead European Central Bank policymakers to keep interest rates lower for longer and added to the odds of a “major quantitative easing program.”
The company said that euro zone growth rates would likely not exceed 1.25 percent on average over the next three to five years and that the region was “not really healthy.”
With regard to China, it said monetary policy must remain accommodative and growth would be between 6-6.5 percent.
Gross’s prediction of an end to bull markets over the next half-decade came after his call in May 2013 that the bull market in bonds likely ended on April 29, 2013.
He also said in a monthly letter to investors dated August 2012 that the “cult of equity is dying” and that lower returns on stocks and bonds would mean individuals would have to work longer to save for their retirements.
Those predictions have failed to materialize.
Despite a bruising bond market selloff that began shortly after Gross made his call last year, bonds have recovered this year and the benchmark Barclays U.S. Aggregate bond index is up 2.9 percent this year, beating the 2.6 percent return of the S&P; 500 stock index over the same period.
The S&P; 500 also rallied nearly 30 percent last year, notching its best annual return since 1997.
Pacific Investment Management Co, a unit of European financial services company Allianz SE, had $1.94 trillion in assets as of March 31, according to the firm’s website.
(Reporting by Sam Forgione Editing by W Simon and Diane Craft)