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Bill Gross says Fed won't raise rates for 2 to 3 years

Pacific Investment Management Co.’s (PIMCO) Bill Gross said the Federal Reserve is unlikely to raise interest rates for two to three years as it seeks to keep the economy from slipping back into recession.

Treasury two-year note yields dropped below 0.50 percent for the first time 6 Aug 2010 after the Labor Department said the economy lost more jobs in July than economists forecast. The difference in yields between 2- and 10-year notes is 2.33 percentage points, more than double the average of 1.11 percent for the so-called yield curve over the past 20 years. The spread reached a record 2.94 percent on Feb. 18.

Gross, manager of the world's biggest bond fund, has been benefiting from the steep yield curve by buying five-year Treasuries, holding them for a year before selling to pick up capital appreciation as well as interest income.  His $239 billion Total Return fund, has returned 13 percent in the past 12 months, beating 71 percent of its peers.

The two-year note yield fell two basis points to 0.51 percent after dropping to 0.4977 percent, the lowest level since the Treasury began regular sales of the securities in 1975. The 10-year note yield touched 2.82 percent, the lowest level since April 2009.

Gross, based in Newport Beach, California, said the benchmark 10-year note’s yield probably won’t fall below 2 percent and that equity markets have priced against deflation.

“What the market really thinks is that for the next two to three years, the Fed doesn’t do anything, but then magically nominal GDP and inflation reappear,” he said.

An overdependence on debt has the global economy entering a period of fundamental transformation that Gross, 66, calls the “new normal.” Pimco says mounting deficits and tighter financial regulation will dampen growth in the U.S. and the euro zone for the next three to five years. Excessive leverage led to over-employment in finance, mortgage, investment banking and government jobs, Gross said

The U.S. economy faces long term structural unemployment near 7 percent, according Gross, which makes “a significant statement about the future of the U.S. economy and the safety nets that will be necessary for it.”

Reference:  Bloomberg, 20100806, “Pimco’s Gross Says Fed Won’t Raise Rates for 2 to 3 Years”