Key to economic recovery may be in California

The credit crunch rolled from the East Coast across America like a tidal wave. But the U.S. is about to be whipsawed by a riptide rolling back from Southern California.

Best known for its celebrities and beaches, the region also is an enclave of the world's largest and most influential bond fund managers. And it will be these bond fund managers and their decisions of how to use their massive pools of cash to buy that will determine in large part when the credit crisis ends and the bond market stabilizes.

These firms are expected to be key players in the government's efforts to auction off many of the mortgage-related assets that have gummed up credit markets, necessary to get money flowing to companies, home buyers and entrepreneurs.

Southern California bond firms "are going to be enormously influential in both the methodology of tomorrow for bonds and in the actual construction of the markets," says Cynthia Steer of investment consulting firm Rogers Casey. "There's no question their influence is giant and deep-seated."

The size and influence of Southern California's bond investors and their importance in helping mend battered U.S. financial markets is evident from the fact it is home to:

•The largest buyers of bonds for institutions. Two of the three largest institutional bond investment managers are in Southern California, namely Pimco in Newport Beach and Western Asset in Pasadena, according to Institutional Investor. Pimco is the U.S. bond operation of Allianz Global, and Western Asset is the bond operation of Legg Mason. The two combined run more than $750 billion for large U.S. institutions, such as pension plans and endowments. The other of the Big 3 is New York's BlackRock.

•The largest buyers of bonds for individuals. That includes two of the three largest bond mutual funds: Pimco's Total Return is No. 1 followed by No. 3 Los Angeles-based American Funds' Bond Fund of America, says Morningstar. Vanguard's Total Bond Market Index is No. 2.

•The most skilled firms. All of the past five top fixed-income managers are from firms based in Southern California, going by the widely watched Fixed Income Manager of the Year award from industry tracker Morningstar. Thomas Atteberry and Robert Rodriguez of Los Angeles-based First Pacific Advisors won the award for 2008, following managers at Pimco in 2007, TCW in 2006 and Metropolitan West in 2005.

So while bonds are largely created and sold from New York, much of the buying is by the Southern Californian behemoths.

Why California has turned into such a bond-buying powerhouse is unclear. Some chalk up it up to randomness. Others say many of the junk-bond experts who moved to Beverly Hills along with former junk-bond king Michael Milken in the 1980s created a bank of expertise in the region.

Others are more cynical. TCW's Jeffrey Gundlach, widely recognized for spotting and vocally warning of the credit bubble, says the area's advantage is that it's about the farthest you can get from the sales pitches of the New York firms that make a living selling the debt instruments. "If you buy into the myths and lies of Wall Street, you will be a poor bond investor," he says.

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