UPDATE 1 -Prudential's Greg Peters says bond yields signal recession possibility

Wed May 21, 2014 5:35pm EDT

(Adds quotes from Peters, bond flow background, paragraphs 2-6; byline)

By Jennifer Ablan

May 21 (Reuters) - Greg Peters, the former Morgan Stanley chief global asset strategist who sounded an early alarm about the financial crisis, said on Wednesday there is currently a remote chance of another U.S. recession but bond yields are signaling a troubling scenario.

Peters, now a senior portfolio manager who helps manage over $418 billion in assets at Prudential Investments, told Reuters that another recession, "is not off the table completely. The market is telling you that probability is higher today than six months ago."

The yield on the benchmark 10-year Treasury bond has dropped conspicuously to 2.53 percent from 3 percent at the start of the year.

Peters says fundamental factors, led by slowing growth, are pushing yields lower. Prudential's official GDP estimate is 2.9 percent this year but the firm is moving the guidance lower.

"You can see that the bond market is not buying 3 percent GDP growth." Indeed, taxable bond funds attracted $4.4 billion in new money in the week ended May 14, marking their 10th straight week of inflows.

Peters said he favors double-B-rated junk bonds over U.S. equities as valuations look better in the high-yield market with 5 percent-plus yields. He also added that emerging market debt securities look "interesting" as Mexico continues to look attractive relative to other countries even at relatively tight spread levels. He also likes Brazilian local-debt markets.

"In addition, we continue to find value in structured product such as CMBS, CLOs and certain ABS," Peters said.

Peters warned in November 2007 that there was a greater than 50 percent chance that mortgage losses would cause a systemic shock that would bring the financial system to a "grinding halt." (Reporting By Jennifer Ablan; Editing by Chris Reese and Tom Brown)

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