(Adds Gross comments, background)
(Reuters) – Bond investing guru Bill Gross is warning investors and markets that mutual funds, hedge funds and Exchange-Traded Funds are most vulnerable when liquidity becomes scarce.
“Mutual funds, hedge funds, and ETFs, are part of the “shadow banking system” where these modern “banks” are not required to maintain reserves or even emergency levels of cash,” Gross said in his latest Investment Outlook on Tuesday.
“Since they in effect now are the market, a rush for liquidity on the part of the investing public, whether they be individuals in 401Ks or institutional pension funds and insurance companies, would find the “market” selling to itself with the Federal Reserve severely limited in its ability to provide assistance.”
Gross, who oversees the Janus Global Unconstrained Bond Fund, said the global markets have benefited massively from trillions of dollars of liquidity over the past few years stemming from the Fed’s and other major central bank’s loose monetary policies.
Gross said while Dodd Frank legislation has made actual banks less risky, their risks have really just been transferred to somewhere else in the system.
With trading turnover having declined by 35 percent in the investment grade bond market and 55 percent in the high-yield market since 2005, “financial regulators have ample cause to wonder if the phrase “run on the bank” could apply to modern day investment structures that are lightly regulated and less liquid than traditional banks,” Gross said.
Analysts say the anticipated interest rate hikes by the Fed, combined with the Fed’s ending of bond buying via the ceasing of quantitative programs in 2014, are exacerbating already thinning liquidity stemming from tighter bank regulation and a change in bank business models.
That has magnified price moves in many fixed income markets, even the generally safe and steady areas such as top-rated government bonds.
(Reporting By Jennifer Ablan; Editing by W Simon)