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Bill Gross is worried that central banks will lead the world into recession

  • Bond expert Bill Gross says the Fed and other central banks should use caution when raising interest rates.
  • The Janus Henderson fund manager has warned against stocks and bonds this year, though his fund is underperforming.

Bond guru Bill Gross is warning about looming interest rate increases and the damage they can do to a debt-laden global economy.

In his monthly investor outlook, the Janus Henderson Advisors fund manager said the course of global central banks toward tightening policy could be perilous for the economic recovery. Raising interest rates will increase the cost of short-term debt that corporations and individuals hold.

In the U.S. alone, households have $14.9 trillion in debt while businesses owe $13.7 trillion, according to the Federal Reserve.

"While governments and the U.S. Treasury can afford the additional expense, levered corporations and individuals in many cases cannot," Gross said.

The Fed is on a course of gradual rate increases, with financial markets expecting it to approve one more rate hike this year. In addition, other central banks are pulling the reins on bond-buying and other liquidity programs aimed at injecting cash into their respective economies.

Gross charged that the adherence of central bankers to hard-and-fast rules that govern when they should tighten policy has "distorted capitalism as we once knew it, with unknown consequences lurking in the shadows of future years."

For instance, he cast doubt on the belief it takes short-term interest rates exceeding longer-term rates — a condition known in economist as an inverted yield curve — to produce a recession.

Bill Gross
Lucy Nicholson | Reuters
Bill Gross

"The reliance on historical models in an era of extraordinary monetary policy should suggest caution," Gross wrote. "Logically (a concept seemingly foreign to central banks staffs) in a domestic and global economy that is increasingly higher and higher levered, the cost of short-term finance should not have to rise to the level of a 10-year Treasury note to produce recession."

Gross built his reputation as the founder of Pimco, which once ran the largest bond fund in the world. Amid a very public falling out with the Newport Beach, California, firm, Gross departed and now manages the $2.1 billion Janus Henderson Global Unconstrained Bond fund, which has performed poorly this year.

The fund has returned just 1.93 percent, compared with 2.71 percent for the Bloomberg Barclays U.S. Aggregate Bond index, according to Morningstar. The S&P 500 has gained 10.5 percent year to date. Gross has warned investors away from stocks and bonds, advocating real assets instead.

He continued his warnings about the current environment, particularly with tighter central bank policies ahead.

"Today's highly levered domestic and global economies which have feasted on the easy monetary policies of recent years can likely not stand anywhere close to the flat yield curves witnessed in prior decades," he said. "Central bankers and indeed investors should vie additional tightening and 'normalizing' of short-term rates with caution."