The Bill Gross Dilemma

A few days ago I was talking with a colleague about what I have come to think of as The Bill Gross Dilemma. If you are not familiar with Bill Gross suffice it to say he is one of the better known investment managers of recent decades. Bill Gross ran the PIMCO Total Return fund until September 2014. At the time the fund was approaching $300bn in assets under management. In September 2014 Bill Gross had an acrimonious split with PIMCO. He was more or less ousted from the firm (which he had co-founded).

Now for the dilemma.

When you are an institutional investor you have predetermined policies and procedures for situations like this where there is a sudden manager change. The policies vary. Usually at a minimum the investment policy will require the fund in question to be placed on a watch list for a period of time. In some cases the investment policy may mandate an immediate redemption from the strategy followed by a cooling off period. So in this case most institutions were either forced to fire PIMCO or eventually chose to fire PIMCO after putting the situation under review. The proof is in the pudding: over $100bn left the fund in 2014.

Now in my opinion in the instance of PIMCO Total Return the results have not been particularly awful in the years since Bill Gross’s departure. One could argue that Bill Gross had gotten the macro picture wrong (or was at least carried out by central bank intervention) in the latter years of his tenure. So was it right or wrong to fire PIMCO? What would you do as a Chief Investment Officer?

My comment to my colleague was that I think you have to fire PIMCO.

The reason you have to fire PIMCO is that as CIO you face an asymmetric risk/reward proposition. In the absolute best case scenario you stay with the fund and it goes on to shoot the lights out. What do you get for your trouble? A pat on the back and maybe a few dozen basis points worth of net performance contribution?

Now say you stay with the fund and it goes very badly. Like bottom quartile performance for three years running and massive outflows. You will come under a great deal of scrutiny. You may even be replaced as CIO. The performance detraction will probably not be so terrible in the grand scheme of things — again maybe a few dozen basis points net of fees — but you still might lose your job. You deliberately looked past a red flag and made an embarrassing mistake. The embarrassment to your employer is worse than the performance detraction. Embarrassment even more than weak performance is something an asset manager cannot afford. Particularly in a situation like this where the story is getting mainstream media attention.

In the business we call this “career risk.” Career risk is best understood through John Maynard Keynes’ observation that your career is often better served by conventional failures than unconventional successes.

Here is another example.

I have a friend who works as a portfolio manager at a reasonably large asset management firm. Like all reasonably large asset management firms his firm has strategists and economists who develop economic forecasts and capital market expectations. The firm would prefer you build your portfolio in line with this “house view.” Critically, you are not forced to do so. However, my friend explained, if you break with the firm’s view in your portfolio and underperform as a result, you are almost certain to lose your job.

As for Bill Gross, I still follow his commentary at Janus Henderson. He remains deeply pessimistic regarding monetary authorities’ interventions in global markets and the ultimate impact on the global economy. I believe much of the money he manages today is his own. After all, to allocate to the erstwhile Bond King in size today would entail a not-insignificant dose of career risk.

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