Jeffrey Gundlach is the CEO of DoubleLine and has degrees in philosophy and math. DoubleLine is a fast-rising star in bonds with hundreds of billions in assets under management. The firm aims “to deliver better risk-adjusted returns.”
In an interview for the Sherman Show published on YouTube on July 18, Gundlack talks for nearly an hour about a wide range of important economic and market-related subjects, including the roller-coaster ride in the equity markets, odds of a U.S. recession, knock-on effects trade tensions, the Treasury yield curve and more. Here’s a summary of Gundlach’s thoughts. You can watch the full video below.
Views on the current market
Gundlach starts out by dismissing the year-to-date rally that is at the front of people's minds. The start date for 2019 was an unusual low point. The low was Dec. 26 of 2018. If you look back to September, very little had changed.
Central bankers around the world want higher inflation rates. They are not getting the inflation and are perplexed why they can’t. They are trying to cure the sick patient, i.e. European banks, by making it sicker. In other interviews, Gundlach gave Deutsche Bank (DB) as an example.
There is a lot of concern about global growth in the markets. South Korean exports are down 17%. South Korea is an important country to watch because half of its economy is exports.
OPEC said they feel forced to extend production cuts. Usually, oil goes up if there’s news about OPEC limiting supply. This time, oil went down on the OPEC extension. The organization is implying there is no demand forcing them to maintain the status quo or collapsing the price. This sent a ripple of global slowdown fears because oil demand is associated with strong economic activity.
Eighteen months ago, indicators like the purchasing manager's index and others were glowing. Today, they are poor or terrible. In the U.S., you see real concern from local Federal Reserve offices in Dallas and Chicago in their PMI indicators.
The tariffs and trade threats have knock-on effects that are easy to quantify, but are damaging to the economy. Gundlach believes it is not impossible the economy is intentionally weakened. If you want to push it into a recession now, to be out in time for 2020 elections. It is very easy if you put in place tariffs and then continue to talk like a deal is close. This will cause people to delay purchases and the economy will fall of a cliff. Then you remove them closer to the election.
When you run for election, you take off the tariffs and it could spur a recovery. The health of the economy will be the number one variable for Trump in the election.
Recession risk
The Fed’s yield curve model indicates a recession probability. It is showing a very heightened probability of a recession. It is at a 40% chance of recession. It never hits 100%. If you calibrate things a little differently, it indicates a 63% chance of a recession. The latter is in line with Gundlach’s sense of the probability of a recession.
Consumer confidence posted a large decline in the latest reading. If it drops again, that’s really bad. The most recent one was on the back of the May stock market, which was horrible at that time. Gundlach doesn’t expect the next confidence reading to be as bad.
Many areas of the stock market, like transportation, are far below 2018 highs.Ă‚
With one of the better year-to-date performances of the stock market, you should expect junkier corporate bonds to have done very well. Instead, investment-grade bonds have been doing better.
The market had a very violent reaction to Jerome Powell saying he wouldn’t cut rates.
The Fed is now saying they may cut rates this year. The bond market is implying the central bank will cut it this month by either 0.25% or 0.5%.
With 1.75% on the 10 year, you have to wonder if people are not shooting themselves in the foot or head if they switch to longer-duration assets.
What is causing these lower interest rates? It has to be some kind of economic event that isn’t favorable to corporate bonds and these type of assets.
In regard to the iShares iBoxx $ Investment Grade Corporate Bond exchange-traded fund (LQD) exposure; if rates fall, you will lose outright and if rates rise you lose on duration exposure. You basically only win if there is no volatility. Interestingly, David Einhorn discussed a short trade along this line in his latest letter.
You get yield curve inversions before the recession. People don’t understand it stays inverted for a while and then right before it starts to steepen. That’s because the bond market sniffs out when the Fed will be easing.
To a certain extent, that has already started to happen. Gundlach follows the five-year to 30-year spread. That has been widening constantly. It is now close to the steepest it has been.
Powell has his finger on the trigger of a rate cut.
Mario Draghi, head of the ECB, is going to leave with one last push of stimulus. As a welcome present for Christine Lagarde. She is probably going to continue Draghi-like policies.
When is the U.S. starting quantitative easing again?
The Fed now continues quantitative easing, a standard secondary tool. The U.S. is running massive deficits. Go to debtclock.org. In the lower-left corner you can see the real off-balance sheet debt. Under GAAP accounting, the deficit has increased to $6 trillion. It has to do with unfunded future liabilities on pensions and the like. That’s 30% of gross domestic product. The U.S. has $15 trillion in unfunded Medicare liabilities and all the rest.
During the last two recessions, we had 6% and 8% expansions of the deficit. In the next recession, we could have the deficit go up by 12%. In a normal world, that would run into clear problems with interest rates.
The Fed is warming us that quantitative easing is a normal part of the policy. If the Fed truly goes to quantitative easing to absorb the supply of coming U.S. government bonds, that quickly opens the door to income enhancement policies like universal basic income.
Political developments
Quantitative easing is partially responsible for the ever-increasing inequality. You have to give up something that is at least initially perceived as a salve to the wound of the working class poor that are suffering in this equation.
The French government was on the gold standard until 1747. Their deficit problem was very bad. They had a high amount of debt compared to GDP. They went off the gold standard and went on a money-printing system that started with doling money out.
When people think about universal basic income, they think about it in idealized terms. But it has to be administered. Usually, the administrators manage to over-allocate to themselves in the process. The people in charge of this scheme became very wealthy even though there was inflation. It was designed to benefit the lower classes, but they got much poorer. The money printing press led to the French Revolution.
Bernanke set the inflation target of 2%. Everyone assumes that is the right amount. Everyone assumes that’s price stability, but the real price stability is 0%.
Gundlach thinks the goal is to get inflation above 3%. They don’t state it because they don’t think we are ready for it. The only way they get there is through a monetary giveaway. This idea isn’t popular yet. Democrats like Andrew Yang want to do a $1,000 giveaway to everyone. Kamala Harris and Corey Booker have similar ideas, but they aren’t really pushing them because there isn’t a lot of enthusiasm for them.
What is popular are wealth taxes. Elizabeth Warren’s wealth tax is very popular in polls; 87% of Democrats were in favor of that tax. It is a winner among Republicans of above 50% as well. The administration of it would be insanely difficult.
The modern monetary theory that argues deficits don’t matter is right in that it points out a logical symmetry. Cortez and Blasio are right arguing it makes no sense to blow up the deficit for tax cuts, but not for free education. The tax cuts should not have happened. This creates incremental support for spending programs. After the tax cuts, it is harder for Republicans to argue against deficits increases.
What to do in this environment?
The team doesn't really discuss practical investments much, but one topic comes up:Ă‚ Gundlach has been a fan of gold since it hit $1,190 last September. Gold recently had a breakout.
The dollar is unchanged year to date. Gold is up in virtually all currencies. Once upon a time, the central banks said they would reverse their policies. Lately, they are not ashamed anymore. Both Trump and Warren are advocating for a lower dollar. The commitment to low interest rates at the ECB and Bank of Japan also play a role. Gold, at the least, yields zero.
In a blatant attempt to devalue the debt, the desire is to have the growth of the economy and the inflation to be substantially above interest rates.
Trump won’t win if there’s a recession. Joe Biden won’t be the candidate for the Democrats. Biden ran very often for president, but never got one delegate.
Disclosure: Author is long gold.
Read more here:
- Ariel's Charles Bobrinskoy: No Earnings Recession
- Another Winning Quarter Takes Einhorn to 17.4% Year to DateÂ
- First Eagle's Matthew McLennan Sees Non-US Bank Performance as a Warning SignÂ
Not a Premium Member of GuruFocus? Sign up for a free 7-day trial here.
