The Age of Disruption with PIMCO

the global bond market. I actually want to begin though in Q four the equity markets crater in the credit market arguably is seizing GARB, and pretty much every single one of the major funds here at Pimco delivers positive returns. How do we arrive at that moment? Monny Well, I would say that's the occasion to show we get tested, and we get tested in difficult markets, and we had a view thanks too down on value and what the

right position was to have before QUE four. I wouldn't say we saw that coming, but proper risk management and proper liquidity medic avoid the problem and we're quite pleased about the result in QUE four defensive arguably twelve months ago down going into the key final quarter, coming out of it and deciding to re risk is a different proposition. De risking is one thing than having the I guess, enthusiasm confidence to say now is the time to re risk,

that's a different question. You approached that by saying now is the time to re risk, slightly buy some of the weakness what we three, what you actually did coming

into the new year. I think that's right. That you know, in response to an environment in the fourth quarter where we did sense that markets were overshooting fundamentals, we decided as a firm in across these strategies to add risk in liquid more liquid areas of the market, as more of a tactical view, uh, not trying to be too overconfident and looking at time bottoms and markets, but usually the opportunity where others needed liquidity at that point in time to add risk on the margin and look to

generate a bit more total return, at least during the first half of the year. So many people talk about the process and how the process is different. It doesn't matter what asset manager I speak to, they say, our process is different. That gives us our ridge. What is so special about the process here down We have a large team, we have a global footprint. I think that it starts there um, so we have access to different

areas of the markets that certain firms do not. And then I think the other key theme, and one of the reasons we're here discussing the secular outlook today is that we take a long term orientation. We don't try to time markets over different quarters, you know, even over

the course of you know, a one year period. With that longer term orientation, you know, we try to protect our clients from areas of the market where from the ellups and where the ingredients are there for work extreme underperform. What do you think that froth is right now, there's froth you know, across different areas of the market, But by far the area of most concerned for us here at PIMCO is in the credit markets and specifically relating

to corporate credit risk. That's an area where you know, we've had about a decade now, are very low yields in an area where we're getting you know, a lot more concerned about fundamentals. And it's course spader spading, and it's been a great time for week issuers to issue paper in Europe and in the US who was very weak covenant, and it's been good for them. And I think we've shy away from morning disposition. And when things get worse, do you think we'd have many opportunity to

buy them cheap? You think things aren't gonna get worse for sure? On the on the week on the weak high credit was weak covenant in business which are cyclical. Of course, what was interesting about spending the day with you guys is actually how bearish you sound around corporate credit. But we bond managers were always barish, right well, typically that's the store, sorry, but but much more so relative to your competition. I speak to bond investors on a

daily basis. I have to say I've been struck by just how bearished down the firm seems to be on corporate credit right now. It's a it's a subtle point.

I think when we look at the world today, we see some near tournament certainty that could be resolved, at least to some degree, tremendous mental liquidity combinative central banks, so within the credit sector, spreads can certainly go tighter over the short term but this is the signal area of the financial markets that are prone to overshooting to the downside when people's views towards economic growth change, and as many said, as primarily fixed income managers, the most

important task that we need to focus on is avoiding permanent capital impairment or the type of downside volatility that's likely to take place when people begin to fear credit risk once again money. You mentioned some of the excesses that we've experienced over the last couple of years. It's being with some members of the team. They think maybe things could get a whole lot more excessive in the

coming years. There was a comparison used earlier on It's way now in the period approaching the mid two thousand's. Is that historical parallel that you're thinking about increasingly in the coming years. I think we do. I think I think we will both say it's very hard to call the turn of the market. But what you want to have is a framework where you think of value and you say, given us enario, what are you going to do?

What are the things you want to buy? And make sure that we do what we say we're going to do. So you know, why do we take pride in what of funds offered because in times of turbanent market, when equity go down, we need to perform. We are the building block in people's portfolio where they want to count on us to perform in difficult markets, and the last thing they need is us to be overweight in lazy credit where the credit drops fifteen points and we haven't

done property or work. Within the secular outlook, number five is the one that really stuck out. So make financial or market vulnerabilities the idea that the market no longer absorbs the news, it makes the news. Dan, talk to me a little bit more about that. How concerned are you about this financial market vulnerability that you've highlighted in

the report. We're quite concerned. Now again, you know this dynamic. Uh. It may take some time for this dynamic to rear it's ugly head, but we're concerned about the markets being able to facilitate risk transfer when investor mindsets change. Uh. We saw a preview of that in the fourth quarter. So as an active manager, you need to be prepared for market overshooting and ideally, if you're prepared, you could

profit from that. The keyword there many active UM. I imagine the argument for active is a whole lot stronger over the last twelve months that it once was were active for fixed income. So I think I think we have a very different view than most waiving active fixed income management, that it is the good and it's as simple as this, and there are reason why this is the case. They are structural reason in terms of how

the indices are computed. There are behavior reasons why some agents in the market have none company non economic reason to buy papers. Think of the Central Bank. I think sometimes of insurance company who have servency issues. And so we think we can deliver constituentally axcess return of a benchmark in a much easier way than equity managers can. And so when I hear about active versis passive, I said, don't talk to us. We've delivered a good on a one,

three or five, an ten year basis. But there are reasons, and our job is somehow easier than equity managers, and I think we we acknowledge this. But it's a lot of tools we can do. Imagine a company. A company always has two hundred bonds outstanding, some trading dollars, some trading years. You can serve them back there's so many things we can do. We can use derivative, there's so many things we can do to enhance value and deliver better. It sounds to me like, do you think you can

avoid the right of department phase? You won't be part of that. We won't be part of this. You need to stigment your offering. You need to say this is a value proposition. We're never going to be the cheapest. We're trying to add value day after day. We want to be there when things are difficult, and we want to be too, you know, we need to invest into our business and have other things to offer which go

beyond simple performance. Well, do do you think that's unique to PIMCO or just unique to fixed income bond investors? To to manage point quite clear that there's a big difference between the equity investor and the fixed income investors as specific to PIMP or specific to fixed income investing. But I think the advantages that we have relate to the fact that we're operating in the fixed in camacy class where you have noneconomic players that work, you know,

literally every day that trading markets are open. I would uh and do believe that PIMCO has some advantages at this stage of the cycle. We've had about a decade of convergence in terms of beta compensation. Going forward, we think it's gonna be much more challenging environment and environment with lower base case returns but much higher volatility. And in that type of environment, Pimpco should excel given the depth and breadth of our resources across markets and size matters.

I mean, the reality is we have a lot of people who helped them delivers the performance from you know, seventy credit analysts to a hundred quant and these people matter in terms of long term sustainable returns. So what what often people don't see is the need for investment inside the kitchen and the need for investment is growing. One way, if you needed twenty people twenty years ago, you need two hundreds today. Let's talk about that further.

I have so many people say I need a bigger team, We need to invest in technology more digdator as the future. Help me understand what you guys are actually doing right now, how that you create alpha developed that story by investing in tech, investing in people actually can be so real. Examples down how does it work? There are one areas technology, technology and analytics, acquiring larger data sets, UH, utilizing those

data sets, you know, understanding key drivers of return. We even use this big data for economic forecasting, UH, coming through a lot of offerings as well. So that's one area, you know, the highly technical aspects of data collection. Another area that we've been spending a lot of time and many has been quite helpful in this arena is in behavioral finance, UH, working with this research to make better personal decisions when we look to retract. And we've got

a tough in amera. I mean, I mean the the the biggest problem of fund management is other confidence. And so we signed this partnership with University of Chicago. Why because we wanted to have a way to rationally see how we make decision, what we do well, what we do less well, how we optimize risk and a portfolio, and be able to back that with data. Can you give us a real life example of how this is

how in the last twelve months I've done sure. We literally have teams that look at senior portfolio managers how we make decisions across markets relative to what's optimal. So, for example, do we tend to hold out to losers a little bit longer than we should do. We run with trades that are working out on behalf of investors long enough. Uh, we get that information. It's sometimes puts us a little bit of an uncomfortable area because it

reminds you of how the brain is playing tricks. But at the end of the day, it leads to better structure where we can understand our own tendencies and biases, even within the PIMCO group, ideally learned from it, and then make better decisions going forward. And this is a type of research stream that we intend to continue for many years to come. You've acted on these conclusions, Manti, Yes, we do, we do, and I think I think it's

a constant evolution. Right, There's plenty of things we learned, you know, we we were just were is welcome, Richard THEATO is a consultant, you know, to think about a retirement, but also to think of how we may decision. You know. Then there's something great in the I. C is always the last one to talk, so everyone has a chance to opine, and the most senior guy is not the one who lecture everybody for ten minutes before everyone has

a chance to talk with Guess what you know? People usually don't disagree with the buss once it's talk for ten minutes and so and so you need to have a process and you need to think about the process, so everyone has a voice from other portfolio managers to quant to behavior, finance and be able to kind of combine all of this together to you know, make the best possible portrait, even in the new office outside of

the comfort of the West coast. How's that going and how does that attract the kind of talent Ultimately one of attracts at them card. So we thought, I mean, I think Dan and I an executive committee, thought that we needed an office to be able to hire talent

and technology. And I think it's fair to say than when it comes to hire tech people, we compete against other financial companies, but we also compete against big tech company and also startup And we looked at six different locations and concluded that Austin, given the university, was the best place for us over the next twenty years to

hire significant amount of talent and technology. And then we're going to move, you know, some small part of the businesses which makes sense to be in Texas, and so that was quite attractive and we did a quite in depth study and and and and you know, so far we have a better hundred people down there. You've been expanding, you've expanded in some municiples as well. What's left any gaps here at PIMCOW that you're looking to fill and it holds that you'd like to fill out the next

coming years. I think the main thing is not so much what you need to feel, is whether you know something about it and how you're going to grow it. And I think we are of the view that we want to grow organically and that from time to time there may be small things we can do and bring to the PIMCO organization, but by large, it's hurrying people, and it's make sure that we understand what we're good at and what we're not good at, and and and and there's a lot of introspection which comes into this

and making sure that we do that well. And a lot of what we're trying to do is anticipate the next investment opportunity for our clients. So, you know, we talked about credit, credit issuance, development of markets. A lot of that's a credit outside the United States with an emerging markets across Asia. You know, even in pockets of Europe. So a lot of our growth areas are focused on

where we anticipate there to be the best return. In this business, you have to start sometimes multiple years before that opportunity actually is out there and ready to be realized upon. So that's one of the key areas of our focus resources with a slight tilt towards credit outside the United States, let's talk about private credit markets. Is that an opportunity money that you'd like to ded what

it is? An opportunity and it's something that we've been doing for limited that right, eleven years and it's an opportunity and it's going to become even more attractive when the business cycle turns. How scalable is it, Well, it's never going to be as scalable as what PIMCO does on the liquid side, and you know what, it doesn't matter. But what we do think is that there are opportunity because of what banks used to do that they don't

do anymore, for us to do various things. And it goes from lending against real estate to buying securities in housing, to being able to opportunistically do direct lending, to do various private credit transaction which if managed properly and constructed the right way, should deliver ten to twelve of the business cycle, never fit and and and and that's the opportunity for us and for other people and then big returns. And they key question is other people. I mean, it's

an incredibly competitive environment right now. And we've talked about areas whether it might be froth. Is that an area down where that might be a better froth? Well, again, you know, consistent with our views are corporate credit on the public side. That's where we see the froth in terms of direct corporate credit issuance. Outside the financial space. We look at areas like commercial real estate, residential real estate,

private or public, we continue to see considerable opportunity. That's a sector that, despite the global financial crisis being eleven years past, where we still see frictions and markets where we still see opportunities for investors on the private side as well as the public side. And that's really been our focus for now looking at the harvest opportunities within that space. How important is that alquidity premium so to speak, that you can get out of private credit markets money, Well,

it's it's two fold. I think I think we were just written a paper on this. It's probably a couple of percent and and and I'm I'm so over simplifying what the paper is about. But people get compensated for holding eloquent securities and and and there are people who can very easily hold this kind of paper. I think offensition plan for example, who don't need the liquidity you think of insurance company. And so there are people who can own this. And clearly it's one of the most

interesting risk preming. But more importantly, it's also a way to structure transaction where you think you have an edge and where you understand an industry better than most. And we're going to find part of what we're currently doing very very attractive and some other things not so attractive. And I think we we're quite cognizant of that. We're

recognizing the liquidity is one thing. The liquidity illusion in public markets down is something you've talked about in the past, and I'd like to talk to you about it now. Do you think enough people are focused on that You've talked about financial market vulnerability is the potential for more gaping markets. It's a market that's got bigger participation, arguably is increased over the last several years. And yet fundamentally, just in term sort of structure, it's a market that's

got weaker. Just makes sense of that for people, Well, people talk about it, people are aware of the risks. Then you'll have a volatility event like the fourth quarter last year. When you look at returns, it appears that people are more exposed to this. Uh. These less liquid areas of the market then would be suggested from the rhetoric, but we haven't been tested yet. Volatilities have been relatively

low the last several years. UM. You just have to take a look and feel the markets from a day to day trading perspective to know that when views shift, there's going to be overshooting. Uh. And we don't necessarily mean that this is going to lead to another financial crisis per se. We do think it's gonna lead a disappointment in the form of overshooting. You'll constantly in and out of the market. What's changed in the last five years?

What is it that has changed that you can identify just in terms of being in and out of the market. What's different it's really been the last decade. UM. There's less willingness for market participants to step in and provide a buffer when investor views change. More often than not, in the type of markets we operate in today, it's about lining up a buyron seller on the other side. If that buyer does it happen to be there or seller does it happen to be there, you end up

with this overshooting dynamic. So liquidity management from the standpoint of an active asset manager needs to be top of mind today and I think that that's going to be likely one of the route awakenings that we referred to in our in our more recent secular out And I think generational experience also matters, and that's one of the things that we've explored in terms of behavioral finance, the fact that that when you've seen different business cycle you

sort of recognize pattern. You know, this looks like nineteen one and this looks like nine, And I think what has changes. You have a whole generation of people who basically sort of greatest boolmarket since two dozand and nine and us keep on going up really steadily for a very very long time. When you have the committe's meetings, do you see the difference in terms of investor buses within PIMCO based on the age, based on the demographics.

Is that something you see quite clearly, we noticed differences of you. Now, whether that's I s or perspective is always tough to up front. I think it's a little bit of both. From time to time, it is a worry that it's been a long long time since people have gone through a period of heightened volatility or have gone through a credit cycle. And that's why sometimes you know, as an active asset manager, it's best to sit back, be patient and read economic history books as opposed to

be on your terminal trading every day. I mean, it gives you Bloomberg come on money one bias and give you one bias one biases. You know, we do like company who eventually makes money. Now, it's okay to lose money for a while. It's even okay to lose money for a long time if you're acquiring a lot of customers. But at the end of the day, we're sort of hoping that there will be an at some point in

time and people do make money. So you guys, I think that's that's that's there's a generation of people who clearly think it doesn't matter. Essentially, you guys, then therefore looking to be what you called liquidity providers and not liquidity demanders. There's a period of time that you're waiting for that's building a moment where you want to keep this dry powderforn have senced it all day speaking to you, guys,

I mean this could be several years away. Are you willing to sit out the period of excess that could develop? I've prepaired us a couple of years. Then are you willing to want to perform what say some of your payers could be delivering in terms of gains by being defensive? The answer is yes. The good news is there's been enough localized volatility dislocation over the last couple of years where you can be defensive, you can be patient, you

can be relatively liquid and still generating incremental return. If you get to a point like we were in back in two thousand five or two thousand six, where there's a direct trade off between short term performance UH and being defensive, we absolutely willing to do that. It's absolutely essential as an active manager and perfectly consistent with generating strong returns open It's not just something you're willing to do,

it's something you're anticipating happening, isn't it. That's correct? And I think that you know, maybe you see a boxers analogy that this is a counterpunching type market. Um, sit back, be patient, and wait for others in the market to ask for liquidity and then provided, assuming you're getting sufficiently compensated. So it's subtle, but it means be defensive, the patient, be more liquid, look for lots of little trades along the way that hopefully can generate some incremental return, and

then strike when you have these bouts of volatility. We haven't had that much of that the last decade, but going forward the next five or ten years, we think it's a type of environment where that style of active management's going to win out in the end. No, I very much agree, and I think I think that we were sort of hoping for more difficult environment and and and once again, whether it happens in six months so in in two years, it's very hard to chord it.

But um, but I think we're going the firm for more to mature of this market and and and making sure we have the resources and we have a game bran. And I think having a game bran and sort of thinking about various options and various opportunities is what we get paid to do. Thanks for listening to the Bloomberg Surveillance Podcast. Subscribe and listen to interview us on Apple Podcasts, SoundCloud, or whichever podcast platform you prefer. I'm on Twitter at

Tom Keene before the podcast. You can always catch us worldwide. I'm Bloomberg Radio