Jeffrey Gundlach is a prescient and accurate forecaster. Last week, as he does each January, he offered his market outlook. But unlike prior years, when Gundlach typically offered high-conviction investment ideas, this year he said he would let market movements over the near-term dictate his outlook.
Gundlach spoke to investors on January 12, which was his annual “Just Markets” conference call. He is the founder and chief investment officer of Los Angeles-based DoubleLine Capital.
The slides from his presentation are available here.
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“Now is not the time to be a hero,” he said. “This is a market where you don’t make a lot of money. You try to protect your capital and then play another day.”
Gundlach cited numerous problems facing the global economy– for example, recession risk, weak energy prices and competitive devaluations. But the core issue, he said, is that the large, developed economies will not grow fast enough to support high growth globally.
“This is the centerpiece of the problem that is facing the markets today,” he said. “Without economic growth potential in the high-growth economies, there just isn’t enough growth to go around.”
I’ll walk through Gundlach’s analysis of the global economy and major asset classes. But let’s start with his take on Fed policy.
Gundlach compared the Fed’s zero-interest rate policy to a tractor pull. Those policies “pulled” not just capital-market returns forward, but also risk-taking and consumption, and with that a lack of volatility. Now, following the Fed’s rate hike, volatility has returned to the markets.
Contrary to what Ray Dalio and Jim Grant have predicted, Gundlach does not expect the Fed to reverse course and ease. But he does not believe the Fed will follow through on comments from some of its members that it will raise rates eight more times over the next two years.
Market levels do not support tightening that aggressively. Compared to September 2015, when the Fed backed away from a rate hike because of market conditions, the emerging-market, junk-bond, commodity and S&P indices are all lower – and the dollar is higher.
Indeed, the market thinks the Fed will raise rates by only 60 basis points or so this year, based on the implied futures rates, according to Gundlach.
The most compelling economic data point to support the Fed’s rate hike has been the increase in hourly earnings. Ironically, though, not only will that detract from corporate earnings and overall economic growth, but tighter monetary policies will impede further growth in wages.
“What’s wrong with the middle class getting higher earnings after years of stagnation?” he asked. “But somehow the Fed doesn’t seem to want that.”
Spreads in the high-yield market are approximately 700 basis points, about twice the level when a tightening cycle has begun. Gundlach said today’s spreads are more typical of an easing cycle.
CPI and PCE data do not support the view that the Fed should raise rates because of inflation fears. The only component of the CPI where prices are rising is shelter, which is based on implied rent. Implied inflation rates, based on the TIPS market, are approximately 1.75% for the foreseeable future. Inflation in the U.S. is lower than in the rest of the world, Gundlach said, yet we are the only major economy that embarked on a tightening cycle.