Pimco co-CEO Mohammed El-Erian says European Bond Investors Must Accept Losses

“The main issue right now is the integrity of the eurozone is getting weaker and weaker as we delay the problem,” El-Erian tells CNBC. “They are simply kicking the can down the road.”

“Ultimately there will be a haircut to bonds issued by certain governments in the eurozone, and the longer we delay that recognition the bigger the problem and the more disorderly the process will be.”

El-Erian believes U.S. municipal bonds are an especially interesting market now.

“We are in the midst of a massive adjustment in the state and local level that we’re going to have to undertake,” he says.

“The key issue when you invest in municipals is two things: It’s not just in the rate risk, it’s interest rate and credit risk, and therefore be highly differentiated. You want to be very high up in the credit curve.”

In regards to Europe, El-Erian is not saying anything I did not say a year ago. In regards to Munis, he brings up several factors.

1. Rate Risk
2. Default Risk
3. Differentiation

I certainly agree. However, even if one can navigate number 3 (and I expect PIMCO to be able to do just that), you still have rate risk and you have something he did not mention, sentiment.

While sentiment will certainly impact rates, if several major municipalities blowup, or even if people think they might, there could be a massacre in munis across the board.

I see little reason to invest in munis until that happens. In the meantime, default risk is unappreciated in general, even though I disagree with Meredith Whitney who I believe overstates the problem.

Mike “Mish” Shedlock
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