The economy and financial markets are flashing all sorts of signals, but their volatility ultimately points in the direction of an upcoming recession, according to Jeffrey Gundlach, CEO of investment management firm DoubleLine.
During a presentation on Tuesday at the Exchange ETF conference in Miami Beach, Gundlach said recent yield curve movements and financial market acton suggest there’s trouble ahead. He pointed to the recent inversion of the yield curve, when the yield on the two-year U.S. Treasury is greater than the yield on the 10-year U.S. Treasury.
“When it gets to the inverted level you’re supposed to be on recession watch, and we are,” he said. “But we’ve noticed something a lot of financial practitioners don’t appreciate . . . it’s when you disinvert from an inverted position that you’re really supposed to be on recession watch. And guess what? That just happened this week.
“So the fact that the two-year Treasury is now 27 basis points lower in yield than the 10-year Treasury, when two weeks ago is was higher in yield than the 10-year Treasury, is not a cause for celebration if you’re looking for economic growth,” he added. “It’s actually a cause for concern.”
Gundlach offered that a reversion of the yield curve from inverted back to normalized can portend a recession six to 12 months in advance.
“The thing about the investment business and financial markets that’s most challenging is that you can see the picture and connect the dots to have a high conviction about a future event, but you have to be patient,” he said. “The gears of the financial system turn very slowly.”
Adding to recession fears, Gundlach explained, is the heavy sell-off in U.S. equities during the past few months, particularly among names with high valuations within the technology dominated Nasdaq market.
“I would say that the setup in the financial markets in the fourth quarter of 2021 was very similar to the setup of fourth quarter 1999 in terms of one after the other a fractured market rolls over and we see the yield curve suggesting the trouble ahead,” he said. “That doesn’t mean we have a calamity happening within the next six to nine months. I would say there potentially is a calamity coming in 2023.”
Overseas Equities A Better Option?
Gundlach’s firm, DoubleLine, is known more as a bond shop than as an equity manager, though it has some equity funds in its product lineup. Regarding the latter, Gundlach said his firm last year bought European equities for the first time in its 13-year existence. At the same time, it sold U.S. equities.
He noted that Europe has had a divergent return profile year to date, with the UK being up, Spain being decent and Germany being not so hot. He added that while the S&P 500 Index has trounced the main index of European stocks for much of the past 11 years, both stock markets have performed the same since about mid-2020.