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NEW YORK (Reuters) - U.S. economic growth will not be "much greater" than 2 percent over the next three to five years, while global inflation will likely pick up, Pimco, the giant bond firm, said on Tuesday in its investment outlook report.
Inflation may become "higher and less stable" globally over the next three to five years, while China's growth will remain in the range of 6 to 7.5 percent, Mohamed El-Erian, chief executive and co-chief investment officer of Pimco, said in the firm's Secular Outlook.
In light of its growth horizon and view that central banks have "distorted" the pricing of assets, El-Erian said Pimco will continue to reduce exposure to risky assets.
"Especially with ever-elevated prices, and absent a favorable growth shift, we will continue to bring down risk postures of portfolios," El-Erian said.
The firm's Pimco Total Return Fund, the world's largest mutual fund, increased its allocation of U.S. Treasuries holdings to the highest level in over a year in April, to 39 percent from 33 percent in March, data from Pimco's website showed last week.
Pacific Investment Management Co., a unit of European financial services company Allianz SE, had $2.04 trillion in assets as of March 31. El-Erian runs the Newport Beach, California-based firm with Bill Gross, Pimco's founder and co-chief investment officer.
El-Erian said a break-up of the euro currency is still possible, though not very probable, and said Europe will face additional debt restructurings. He said returns on financial assets may fall over the next three to five years.
On the outlook for the global economy, El-Erian gave broadly contrasting scenarios for either high or low growth, saying the global economy is in a state of "stable disequilibrium."
The lower growth scenario, he said, would worsen financial instability and political dysfunction in Western economies.
Central bank policies worldwide will likely change over the next three to five years, something that "will not be a smooth process," El-Erian said. He painted a mixed picture of the benefits of monetary easing, saying it has helped the business models and finances of U.S. banks, but has done little to spur investment by larger companies, which instead have focused more on cost control.
El-Erian said that peripheral European countries, given high unemployment and "fragile debt dynamics," are on the brink of either a "sunny" or "stormy" economic scenario.
"In the interim muddle through, the slowest economies and vulnerable sectors elsewhere face a growing risk of 'zombification,'" El-Erian said. He defines zombification as the notion that institutions' contribution to growth deteriorates over time.
On Japan, El-Erian said the country's economy will undergo an initial surge in growth, but will be "challenged" by structural reforms and an "increasingly less accommodating regional and global context."
The Bank of Japan last month said it would inject about $1.4 trillion into the country's economy in less than two years to fight deflation, mainly through purchases of long-term Japanese government bonds.
El-Erian also said Pimco sees social issues playing a more critical role in the outlook for Western economies, but he does not see a major improvement in Western politics.
"It is sad to admit but, absent much greater social pressures (which no one wishes), we see little basis for predicting a major political and institutional revival over the next three-to-five years in the West," El-Erian said.
El-Erian said investors should focus on investing opportunities that are not influenced by the "wave" of global stimulus measures as a means of gaining returns while generally seeking less risk.
He also warned against investing in currencies that are influenced by central bank stimulus and that also do not maintain a reserve currency status.
Ultimately, real economic growth will be crucial to gaining returns on investments, El-Erian said.
"Long-term investors should realize that, in addition to balance sheet strength, the resumption of acceptable and sustainable levels of real economic growth is critical," he said.
Reporting by Sam Forgione; Editing by Leslie Adler