'Bond King' Bill Gross warns stocks are dangerously overvalued — and predicts an economic slump

• Bill Gross says stocks and long-dated bonds are overpriced and the US economy will slump.
• Stocks are too pricey relative to risk-free assets and company earnings, the "Bond King" says.

Brace for stocks and long-dated bonds to slump and the US economy to falter, Bill Gross has warned.

"I simply think that based on the low equity risk premium and relatively high PE ratios, the market's overvalued," the billionaire investor known as the "Bond King" told Bloomberg on Friday.

In other words, the expected return from stocks and risk-free investments such as 10-year Treasuries is now virtually the same, and equities are priced at historic highs relative to company earnings.

"You want to be very careful in terms of valuations here on stocks, despite AI and despite momentum going forward," Gross said, echoing a warning he issued in July.

The US stock market has soared this year, fueled by frantic buzz around artificial intelligence, and mounting hopes that inflation will recede, the Federal Reserve will cut interest rates, and the economy will escape a recession. However, Gross said that current valuations still strike him as excessive, and noted the full impact of the Fed hiking rates from nearly zero to north of 5% since last spring hasn't been felt yet.

Gross, who cofounded Pimco and managed the fixed-income titan's flagship bond fund, also rang the alarm on short-dated Treasuries offering higher returns than longer-term ones.

"A thriving, finance-based economy can't do well if low-risk investments yield more than high-risk investments," he said. "That's just a perverted yield curve and it won't do well for the economy going forward."

"We're going back to proper valuation on longer-term notes and bonds," he added.

Gross also predicted the economy will slow after getting a major boost from historic amounts of fiscal stimulus in recent years.

"Once that's used up, we're going to start to see the effect of a 2% real rate on consumers and consumption going forward, therefore lower real GDP and therefore inflation around 3%," he said.

Gross, who retired in 2019 to focus on managing his personal wealth and private foundation, also cautioned that regional banks could face more trouble after the Silicon Valley Bank fiasco this spring. Lenders' bond portfolios slumped in value after the Fed hiked rates, which spooked depositors and sparked runs on multiple banks.

Smaller banks may have slashed their duration risk since then, "but if they haven't there could be problems," Gross said.