Growing concern about rising interest rates is no longer “a worry, it’s a reality,” DoubleLine CEO Jeffrey Gundlach said yesterday at a corporate event in New York City. “It’s wise to be aware of and prepared for economic weakness in the first part of next year,” the bond fund manager told attendees.
At the heart of his argument is the conviction that rising interest expenses are spilling over into the real economy and the federal budget, which is likely to see debt service costs consume an ever larger share of the federal budget. Beyond that lingering effects of the pandemic have slowed normal adjustments in the economic cycle, but those effects are potentially dangerous.
Gundlach said he was “pretty surprised” by the runup in credit card debt as interest rates climbed over the last year. He expected the rally in equity prices in this year’s first quarter but didn’t think it would last so long.
Perhaps the biggest post-pandemic effect is “so much dislocation in the workforce.” There has been a noticeable “reluctance” of companies to adjust their workforces, and he suspects that hesitation may be coming to an end.
“Cuts for middle managers may already be starting,” he suggested. One of the key areas he identified was Wall Street and other financial firms, adding this industry was one where businesses tend to follow each other.
“There is never just one cockroach,” he remarked. Zoom meetings produced evidence that many employees simply weren’t working. He noted that if a company held a Zoom meeting for 50 or 60 employees and returned to the Zoom call 10 minutes after the meeting ended, one could frequently find five or 10 employees still on the call—because they had their devices on but had checked out long ago.
“I have a feeling layoffs are about to come,” he told the interviewer, Fox Business’s Maria Bartiromo.
Gundlach noted that banks have underperformed the major stock indexes for two years and questioned why investors would want to own them. “Banks have mortgages that are under water selling at 83 cents on the dollar [and] they can’t sell them,” he said.
Banks also face “a bad setup when u invert the yield curve” and they have huge losses on their balance sheets based on cheap mortgages and other loans from the pre-2022 period of zero interest rates. If there were a housing crisis, Gundlach mused that “banks might pay people to default” to rid themselves of these loans.
At the end of 2021, equities were very expensive and yet were cheap relative to bonds as the Fed was maintaining the near-zero interest rate policy of the pandemic era. Today, Gundlach said that imbalance has largely reversed itself, although he didn't go so far as to call bonds a bargain.
Several other DoubleLine executives voiced concerns that the surge in bond yields in recent weeks could prompt a replay of the fears about regional banks last March, when two large institutions, Silicon Valley Bank and Signature Bank, failed. Gundlach himself did not predict a banking crisis but didn’t anticipate problems from higher rates to continue disrupting the business cycle.
The federal government’s finances could be Ground Zero for these dislocations. About 70% of the budget is dedicated to mandatory programs, so there is very little to cut as debt service costs crowd out other programs.