Contrary to many reports of its death, the 30-year-plus bull market in bonds is still alive and deflation is now being imported into the U.S., according to DoubleLine CEO Jeffrey Gundlach. For many Americans, it looks like the good times have finally arrived after seven miserable years that began with the financial crisis in 2008.
Gundlach acknowledged that there are many things to like about the U.S. in 2015, but he also said certain financial assets like gold and junk bonds are indicating that trouble could lie ahead.
The broad degree of consensus about the financial markets increases the likelihood that a surprise could catch any number of crowded trades leaning the wrong way. Speaking at the eighth annual Inside ETFs conference in Hollywood, Fla., Gundlach noted that one year ago the conventional wisdom among bond investors was that it was impossible to make money on 30-year Treasurys yielding almost 4 percent.
In contrast to expectations, the long bond performed spectacularly last year and is now yielding 2.34 percent. Gundlach said it was possible that they could go to 2.0 percent. "There is no fundamental reason to raise interest rates except that the Fed doesn't want to be at zero when the next recession comes," he said.
What is interesting is that the long bond fell all through last year practically without retracement as the Fed terminated quantitative easing and signaled it would raise rates. In effect, the bond market was telling the Fed, "Go ahead, make my day," Gundlach said. Now, "many investors are afraid not to own Treasury bonds."
For several years, the consensus among investment professionals has been that 10-year Treasurys would end the year 100 basis points higher than they have. Like second marriages, Gundlach called this the triumph of hope over experience.
After watching America and Japan implement quantitative easing policies with negligible success, it's little surprise that clueless European policy makers are finally following like lemmings. Austerity failed them and having run out of most other options, there is limited choice.
Gundlach voiced some amusement that the chief economic official of Greece's new left-wing government announced that "Greece points the way" for Europe following his party's victory two days ago. The head of Germany's Bundesbank responded that Greece remains dependent on Germany's willingness to refinance loans the Greeks can't repay.
Gundlach said he wouldn't be surprised if Greece leaves the euro, add added it would encourage other struggling Club Med nations like Spain to follow suit.
Investors would rather be in German bonds with anemic yields or Swiss bonds with negative yields than Spanish bonds. Gundlach quipped that gold, with zero yield, is a high yielding instrument when contrasted against Swiss bonds.
The euro has enjoyed a recent rally in the hope that weak sisters like Greece and Spain may leave, but Gundlach isn't betting on it. DoubleLine "loves the dollar" and has held all foreign bonds in dollar-denominated terms since 2011.
Even if the whole world is piling into dollars, Gundlach noted that trends in currency markets tend to last a long time. With the Russian ruble crashing, one has to wonder whether Putin won't become more pugilistic than he already is.
Last year, 3 percent of investors liked gold, compared with 95 percent when it stood at its all-time high several years ago. That, and the possibility of more black swans, make Gundlach bullish on it. For Russian oligarchs who may fear increasingly irrational behavior from Vladimir Putin, one source of comfort is the price of gold. When translated into crumbling rubles, the precious metal has nearly doubled in the last year.
As for junk bonds, which were overvalued one year ago, they are starting to look interesting. Gundlach's guess is that if investors wait they could become a lot more interesting.
The 50% collapse in the price of oil qualifies as a true Black Swan event. No less of an authority than T. Boone Pickens is predicting that oil will return to $90 a barrel by the end of 2015.
Gundlach is dubious. Pickens knows more about energy "than I do, but I know something about markets." When a financial asset or commodity gets slam-dunked the way oil has in the last six months, history indicates that the odds of a rapid rebound are slim.
More bad news is likely to emerge from the energy patch. "Someone out there is on the verge of bankruptcy," he predicted.
The junk bond market is an "excellent indicator of the future" and it is "flat out ugly," Gundlach says. "They are a little cheap and probably on their way to really cheap."
However, he warned advisors not to make the mistake he once did as a novice. Buying a bond like Reynolds yielding 7% to sell an energy bond yielding 18% could backfire because at some point that energy bond will attract interest.
Against this backdrop, Gundlach saw positive trends in the U.S. In the middle of last year at just the time the Fed was ending QE.
Coincidentally or not, it was at this time that junk bonds began to wobble. A few months later, oil prices started to swoon like a teatotaler drinking 151 proof alcohol. For seven or eight months now, the American CPI has been in negative territory.