Financial Advisor: Not many people really see a recession out there.
Gross: We're talking about 18-24 months. Because if the Fed goes up another 50 or 100 basis points, we get into this problem of overreach and the inability to lower interest rates like I talked about on the other side, so my trend target would probably be 18 to 24 months, and it would be predicated, at least to some extent, on the Fed moving even higher from here.
Financial Advisor: There are a lot of anecdotal signs of a slowdown out there in the housing side. People in the construction business say their backlog isn't what it was. Do you think part of this is the first signs of the wealth effect?
Gross: That's the key. The Nasdaq is down 35% and that was from the peak. Some would argue it's above where we were 12 months ago. So you have all these different time frames and levels and it gets confusing. But the fact is that the psychological effect of coming off 35% from a peak can be very damaging at the margin to those who were spending the big money, and the big money was no doubt being put into second homes and third cars and the expensive goods and services that would logically fall from a wealth effect. I think that's what we're beginning to see now. We're not seeing the average American, who doesn't have much in the market, cut back substantially. But you're seeing the wealthy investors at the margin cut back. In addition to that I think you're also seeing the effects of higher oil prices.
Over the past six, seven, eight months, gasoline, has been moving steadily higher, and that's absorbed a nice piece of change from the average American, who doesn't even invest in stocks. That, in combination with the wealth effect plus higher interest rates [on mortgages and credit cards] is starting to absorb some purchasing power and spending power from the U.S. consumer.
Financial Advisor: So you basically put a 50% chance on recession within 24 months?
Gross: Well, put it in terms of the next three years. But I'd say some point in the next 12 to 24 months is our most dangerous period because of the potential for the Fed to overreach and the inability of the Fed to drop rates once they get to where they think they're going. That certainly takes more than six months from here.
The fact is there's so much excess in the U.S. economy and to some extent excess in the Japanese economy. Europe is sort of in the middle of the seesaw. But the United States has excess in terms of the trade deficit, has excess in terms of the savings rates of U.S. consumers; there are no savings. There are excesses in terms of the wealth effect and the bubble, excesses in terms of the dollar, and excesses in terms of corporate debt. So there is lots of excess, a lot of it having the same origins in terms of credit creation and an over exuberance of investment that may or may not be productive in future use.
Fuss: Remember, we're coming off very high numbers. But nevertheless, should we draw a trend line from that? I don't think so, because people are still working. They're getting paid good money. But at the increment, there are some signs and you can't dispute it. And when you flip through the commodity pages and look at industrial commodities, not oil and gas but everything else, you find a decline in the price of the underlying commodities. My first rule has always been if I want to gauge how things are going, I pick up the commodity page and see what's happening.
Right now even in linerboard and boxboard, the edge is off the rise in price and the incremental price is actually down a little bit. In a lot of these cases, people were double ordering. There was a lot of double ordering, particularly in some areas of paper. And I think there was quite a bit of double ordering in some areas of petrochemicals. There were some strange price actions for some of the petrochemical projects and some of the specialty chemicals that just didn't make sense, even allowing for fairly good demand. I think that was people trying to build inventory if they had price rises. Now all of a sudden that's stopping.