Pimco's Gross Predicts Dow 5000

The nation's biggest bond manager, Pimco's Bill Gross, took another swipe at pricey stocks Friday, saying the market would remain overvalued until blue-chips plunge by 40%.

Saying that dividend yield, rather than earnings growth, is the key to any stock market appreciation, Gross predicted stocks would continue to flounder until the Dow Jones Industrial Average hits 5000. The Dow closed Thursday at 8283.70.

Gross made the comments in his monthly investment outlook posted on Pimco's Web site. Gross's flagship fund, the (PTTBX Quote - Cramer on PTTBX - Stock Picks)Pimco Total Return fund, has grown steadily this year and is now the nation's No. 2 mutual fund, behind the (VFINX Quote - Cramer on VFINX - Stock Picks)Vanguard Index 500 fund.

"Earnings have been phonied up for years and the market still sells at high multiples of phony earnings," Gross wrote. "Stocks can be, and often have been poor investments. The return on them depends significantly on their beginning valuation and right now valuation remains poor."

Gross said his outlook doesn't envision a collapse of the U.S. economy or other apocalyptic scenarios. Instead, he says that stock prices have become so inflated, earnings so low-quality and dividends so scarce that there is no way stocks can be expected to outperform bonds until there is a steep market correction.

"Stocks historically return more than almost all other alternative investments but only when priced right when the race begins," Gross wrote. "If you start from day one with P/E's too high or importantly, dividends too low, you will not obtain equity returns in excess of bonds."

Gross, who has long been skeptical of stocks' valuation and has often noted the lower risk profile of bonds, carries a lot of influence in the bond market. He called the peak in bond yields back in early 2000 and the end of the bull market in Treasuries in 2001.

Gross's Total Return has outperformed its peers each year for the past decade. And even if Gross didn't have a penchant of getting it right, his comments matter simply because he controls so much money.

The bearish remarks come at a particularly dicey junction for the market, as investors grapple with the anniversary of the Sept. 11 terrorist attacks amid conflicting signs on the health of the economy. Since hitting a spring 2000 peak, stocks have fallen sharply, wiping out billions of dollars of shareholder wealth.