Last week, David Rosenberg of Rosenberg Research held a Q&A webcast with DoubleLine CEO Jeffrey Gundlach, the billionaire investor known as the “Bond King.” The following are some excerpts, which have been edited for brevity and clarity:
Jeffrey Gundlach: Well, the first question I seem to get when I meet with clients or with the media is how come there’s been no recession when everyone’s been predicting the recession. And I say I think it’s because the M2 [money supply] growth that had been so steady pre-pandemic all of a sudden [went up to] $7 trillion. ...
All of a sudden, M2 was off the charts. Historically, M2 goes negative and you get a recession on a year-over-year basis. And that didn’t happen because I think there was so much money that was sloshing around with that $7 trillion. And if you take that trajectory pre-pandemic of M2 and continue it forward to today, M2, the quantity of it on an absolute basis, is still a little bit above that trend. It’s getting pretty close though.
I feel like the other thing that went wrong with traditional economic analysis was, historically, things had been kind of repeatable. And this time with the money printing, it was very, very different. And then coupling that with the lockdown, we had this strange two-geared economy that had more legs than one would’ve thought mapping over past cycles. And it started out being goods buying.
People wanted to build out their home office for their Zoom calls or work from home. People wanted to build a barbecue deck so they could have some enjoyment at their house because you can’t go to a restaurant. And that fueled a lot of durable spending. We all remember that you couldn’t buy a refrigerator.
So all that started happening and then once you buy the new refrigerator, you build the deck or you build a home office, you don’t have to build another home office. And so that type of spending slowed down. And that filtered through into some of the sensitive indicators that are usually good at forecasting recession, like leading economic indicators have been negative for a long time now. I mean, they got down to recessionary levels and they’ve been staying at recessionary levels for almost an unprecedented length of time.
What was different this time was there was a baton passed from manufacturing to leisure and hospitality and services because everybody was sick of not going out to eat, being stuck at home and they wanted to go on revenge travel. You only live once. And so, people started to go out and I think go to a Taylor Swift concert in Tokyo and all this kind of nonsense and spending all of that government money.
And I think what has happened is a lot of these people got to a lifestyle trajectory that was higher than it was pre-pandemic, thanks to the government money, and then chose to keep it going through borrowing. So we saw a tremendous amount of credit card issuance in terms of just the number of cards issued. We’ve seen a lot of credit card debt. The interest rate has gone up, thanks to the Fed’s hiking.
So 23% [interest] is the average credit card debt, which is mind-blowing. Now we’re starting to see the delinquencies show up. I think people are stretched pretty thin.
I don’t want to lean too heavily on one month, but the data has not been great. The retail sales were negative last week. ...
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So, it’s a very uneven economy that way. But I’ve been basically of the belief that the lower parts of the capital structure in investing should be avoided. Triple-C bonds should be avoided unless you like equities because the triple-Cs are going to turn into equity when they default because the default rate is going to be quite high. The spread between triple-C junk bonds and double-B junk bonds is widening very substantially.
There’s a lot of recessionary signals out there.
A recession is going to come. Whether it’s going to come this year, I think so, but I don’t know.
But I think that’s going to happen. And that’s when you want to buy the illiquid stuff when it’s down. I remember in 2008, I had distressed funds going on in the bombed-out residential mortgage market and they were so cheap, just unthinkable. There’s been a few moments in my career where things were so cheap that if you tell people about it, they won’t believe you because it’s so out of the context of their own experience.
David Rosenberg: Let’s get back to markets for a second. You mentioned high yield before and you seemed to be, I’m not going to say sanguine, but okay with the high-yield market.
Gundlach: Spreads are very, very tight.
I remember one of the poorest trades I ever made. It was a completely complacent market. Everything was expensive and there was this credit security, it was in the mortgage market. And it was mediocre. I mean, it was mediocre. And we had a lot of money and we needed to get invested. And I ended up buying a piece of the security.
And as I was writing the ticket, I thought there’s a better chance than most of the things that I do that this isn’t going to work out. But there was so much complacency. There was this need for yield.
So, it just had a horrible risk-return profile. And I promised myself after that experience that I would never again do a trade without saying to myself, “If this goes wrong, when this goes wrong, how am I going to explain it to the client? Why did I do it? What was my risk reward? How was it favourable?” And that’s true of every portfolio and every strategy. I’ve expanded that out.
One of the things in the investment industry that one has to come to terms with is you’ve got to acknowledge that you’re going to be wrong. Hopefully you’re right more than you’re wrong, but you’re going to be wrong. Most people in the investment business are wrong more than they’re right and they fade away.
And then, people that are good are wrong about 40% of the time. You actually have get a good record going over time with that. I’m wrong about 30% of the time, but it’s still a lot. I mean, I’ve been in the business over 40 years. I’ve been wrong more than 12 years. Thank God they weren’t in a row. That’s all I can say.
But you’re going to be wrong. And so the thing is don’t build your investment strategy about going all in on your highest conviction idea because even if it’s your highest conviction idea, you’re going to be wrong. So, what you have to do is make sure that if you analyze your portfolio, assuming I’m going to be wrong, make sure that you don’t go out of business. Make sure you survive. No fatal mistakes. You’re going to make mistakes, just not fatal mistakes. And that’s really important. And that’s why I’m around so long. ...
The investment business is a game of survival. It’s not a game of dominance. It’s a game of survival. No fatal errors. And I think most people don’t really understand that.
Risk management is not about going all in. It’s about second guessing yourself and saying, “When this goes wrong, will I be able to explain it and survive? And that’s why I’m still here.” ...
I basically have a credit portfolio that is not at the bottom of the capital structure at all. More like in many cases the top of the capital structures like AAA-rated things that float because you’re off of CLOs or bank loans. I like double-B bank loans. They’re not going to default if you’re doing any kind of diligence on your underwriting.
But I really like things that are in the three-year, five-year part of the curve for credit where you can fairly comfortably get 6.5% with zero risk. I mean zero, no default risk at all.
Rosenberg: You’re also a mortgage market expert. So the other day, we got the Mortgage Bank Association, the weekly data. What is going on with U.S. mortgage refinancings activity? Have you seen the numbers? The mortgage applications for new purchases are diving and they’re down to something like 12% ... Prices aren’t up that much. Prices are up like 5% year over year.
Gundlach: You’re desperate if you’re doing that, right? You’re eating your seed corn. This is what’s happening. The dark side of the money printing, the stimulus checks, the dark side is it readjusted people’s perception of lifestyle up. They spent the money, they went on all this... And they got used to a certain lifestyle that they can’t sustain. They need the government money to sustain that lifestyle, but they’re reluctant to go back to where they were because they’ve gotten used to it. And they filled the gap by borrowing money on their credit card. And now they’ll say, “Well, I can refinance this mortgage and take out money. And yeah, going forward my monthly payment is going to be worse by a lot.” But it solves the problem for the foreseeable future.
When you’re in the end game, when you’re in the end days of debt schemes, which is where I believe we’re getting close to, people do things not because they think it’s smart, but because they think that it is one more option. They say, “I maxed out my credit cards, now I can do a cash-out re-fi. It’ll keep me going. And other than that, I have to cut back and I don’t want to cut back.”
Rosenberg: So what’s your view of equities?
Gundlach: I think equities are really expensive in the United States. They’re right back to where they were at the end of 2021, narrow as all hell, late cycle of the economy. I would not buy an index fund in equities for sure, because you’re basically buying seven stocks and they’re very expensive. They’re making a lot of money, some of them, I acknowledge that, but they look expensive.
And when I buy stocks anyway, I think long-term, I’m looking for themes. So you know, Dave, I’ve been bullish on the Indian stock market as a long-term hold. It’s probably not a bad time to buy it. The demographics are so strong. They’re benefiting for the supply chain being moved away from China, and I feel the same about Mexico. I feel comfortable with the long-term story.
The long-term story for the US is very uncertain to me and the valuation is just awful in my opinion.
Rosenberg: Absolutely.
And I wanted to hear your views on China and AI.
Gundlach: Well, China is something that at this juncture I would absolutely never invest in as a US citizen, a dollar-denominated person because the relations are just tattered and getting worse. And if you’re a US and you buy in China... If you do well, I don’t think you’re going to be able to cash out. And if you have a loss, you’re going to own it. I think it’s the worst risk reward from a practical standpoint ever. I also think... China’s [economy is] pretty weak and so it’s got to be a source of deflation and not inflation.
AI is not even a thing. It’s just mega mega computing power. That’s all it is. It’s just computing power to the Nth degree and it’s kind of dot-com-ish where if you mention AI on your earnings call, you get a bump. It’s sort of like that.
A lot of companies got taken out that were dot-com oriented and they deserved to have been taken out. A lot of companies that are AI-attached to for some reason, that’s maybe even peripheral, they’re not going to do well either. But Amazon did well, it tanked like a rock in the early ‘00s, but if you hanged on... I’m sure there’s some winners in AI.
But I am allergic to momentum investing and so I just don’t want anything to do with it.
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