Jeff Gundlach on the global economy, the Fed's next move, and negative interest rates

Jeff Gundlach held his latest webcast on markets and the economy, called “Connect the Dots,” on Tuesday.

The big takeaways were:

  • The Federal Reserve has no business raising rates right now. Markets aren’t pricing in a hike this month in, and no one has forgotten the volatility that ensued after the first hike in December.
  • The rally in risk assets is near its end. Stocks have 2% of upside but 20% of downside. And there’s still time to wait for commodities to cheapen more before buying.
  • There isn’t a strong case for an imminent US recession.
  • Negative interest rates are bad for the world. They are having the opposite effect on currencies like the Japanese yen, which has rallied instead. They are also hurting European banks.

Here’s the summary:

Here's the title slide for Gundlach's presentation.

DoubleLine Funds

If you look closely, there are two bears, which tells you much of what you need to know about Gundlach's outlook.

On politics, he said that if you think this election cycle is crazy, then just wait four years. He thinks Republican hopeful Marco Rubio may drop out after Tuesday's voting.

He said that politics will continue to drive markets and the economy. And he added that a win by Donald Trump would mean more fiscal stimulus for the economy.



The Fed needs to review its rate-hike plans.

DoubleLine Funds

That's the Fed's dot plot, which shows the Federal Open Market Committee's (FOMC) projections for interest rates out to 2018. Gundlach said that the Fed's forecasts are not wise given how they diverge from central banks' abroad.

This is what that divergence looks like.

DoubleLine Funds

'The Fed has been saying four hikes this year and the market is having none of it.'

Expectations for rate hikes have shifted around.

DoubleLine Funds

When markets sold off earlier this year, the probability for a March hike dropped to zero. It is still very low and stands at 4% right now, implying that the market thinks there's no chance the Fed will raise rates.

That's even though assets have recovered and the unemployment rate is below 5%.

Gundlach said it's important to remember that markets got volatile right after the Fed raised rates in December.

'I would think it would be really dicey to raise rates again' even though some of the economic fundamentals have improved, he said. 'Markets will be ill-prepared for a Fed rate hike.'

'Why are we raising rates 300 basis points as a base case if there's no traction at all in real or nominal GDP?'


But one thing is clear: Negative rates are bad for the banking sector.


'The banks are bleeding money' in a negative-rate environment, which is in place in Europe right now. Gundlach hopes that the Fed doesn't go down this path.

Negative rates are part of why there's 'incredible carnage' in the banking system, Gundlach said, citing Deutsche Bank's recent turmoil.

'There seems to be ample evidence that negative rates are more ample than helpful.' If used in the US, 'it's going to backfire like an old Model T.'

He thinks the European Central Bank (ECB) might buy corporate high-yield bonds as part of its quantitative easing (QE) program, since the message being sent from the likes of Deutsche Bank is not good.

He thinks QE in the US is over.

Despite the slowdown in manufacturing, and recently in services, Gundlach doesn't see an imminent recession as a base case.

DoubleLine Funds

This chart is a good forecaster of recessions, and it is showing that recession is not close.


When the unemployment rate rises above its 12-month average, it usually coincides with the start of a recession.

So, it would be premature to talk about a broad-based recession until the unemployment rate -- now at an eight-year low -- starts moving higher.

But we don't need an inverted yield curve to enter recession.


Japan, another developed economy, has had several recessions while the yield curve was positive.

Gundlach is sceptical of China's growth rate.


China's growth is forecast at about 7%. When you look at some of the economic data and the extraordinary stimulus measures, that figure is likely false, he said.

If so -- if Chinese growth is flat, for example -- it would mean all of the forecasts above need to be lowered, as global GDP growth would decline.

So basically, a lot hinges on the integrity of Chinese data.

This chart suggests that there's something wrong with the Chinese economy.


South Korean exports have been heading south for a while now, and Chinese exports and imports are negative.

'Explain to me how they can have 7% GDP growth this year with negative imports and negative exports year-on-year.'

China has been calling the shots in global stocks.


The correlation between global stocks and the yuan is pretty close.

Stocks have also moved in tandem with inflation.


'It's clear that stock markets fear deflation,' Gundlach said.

What's driving this fear is commodity prices, especially oil. Oil has rallied recently, but it's still too low.

Inflation is moving higher.


Core consumer price index (CPI) is moving higher in a 'definitive way' and the Fed's preferred measure -- core personal consumption expenditures (PCE) -- is rising.

'A lot of this probably has to do with wage gains.'

Here's a closer look at core inflation, which excludes food, energy, and owner-equivalent rents.


It's rising, but we're not seeing commodity prices going up the same way.

Gundlach asks, 'If various measures of inflation are going up, but commodity prices remain in the basement, how is that supposed to be good for companies' in the materials and energy complex?

He thinks this is one of the reasons why we're not yet out of the woods.

'It's simply not true that the dollar strengthens while the Fed raises rates.'


Gundlach made the call in January that the dollar's rally was probably done for the moment, which he said some people thought was silly.

But the dollar has softened since the Fed raised rates in December.

Gundlach thinks the dollar remains in a long-term bull market, though.

The junk-bond market is making a weak comeback.


That's because commodity prices are still in the pit.

He said, 'We need oil certainly above $38 and probably above $45 if we're going to get any (recovery) in the health of the companies that rely on the sale of commodities' and their suppliers.

He thinks people buying junk bonds right now with exchange-traded funds (ETFs) will eventually sell them at lower prices. Maybe to DoubleLine, he joked.

'As long as commodity prices remain in the vicinity that they are, time is on your side to not buy them.'


Gold is going to $1,400.


But he's not sure when and recommends trimming holdings of gold-mining stocks.

We may have seen the bottom in interest rates.


The yellow circle is the trough of the 30-year Treasury.

Profit margins will probably continue to be pressured by higher wages.


He's not sure how earnings are supposed to rise when wages are increasing and GDP growth is low.

'Are you kidding me?'


You can't make a case for a rally in oil prices because inventories are too high, he said.

This is how it played out before.


We saw a rally in oil prices only when inventories went down.

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