Reuters / Jessica Rinaldi
- Jeffrey Gundlach, the CEO of DoubleLine Capital, sees a key lapse in the understanding of the yield curve, which has long been a favorite recession indicator of investors.
- The billionaire investor — who is commonly referred to as the "Bond King" — sees the phenomenon already taking place in financial markets. And he says there’s unfortunately no way to fix it.
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Trying to forecast when a recession is going to hit the US economy is about as easy as trying to hit a 100-mile-per-hour fastball. Basically, you’re better off closing your eyes and taking a hack at it. Maybe you’ll get lucky and connect, but odds are you’re going to whiff.
Money managers around the world have their own special go-to indicators including: purchasing manager indexes, employment metrics, consumer sentiment, and — perhaps most notably — the yield curve. And although these metrics serve as a valuable measuring stick, their reliability and accuracy tends to vary.
But, as Mark Twain famously stated it, "It ain’t what you don’t know that gets you into trouble. It’s what you know for sure that just ain’t so." And billionaire investor Jeffrey Gundlach thinks this false sense of understanding is creating a lapse in the market’s recession outlook.
Gundlach — who serves as CEO of DoubleLine Capital and is commonly referred to as the "Bond King" — thinks market participants are missing a key event that takes place right before the economy spirals into a recession.
"It’s true that you get these inversions in the yield curve prior to recessions, most of the time, if not all of the time," he said on The Sherman Show, a podcast hosted by Doubleline’s deputy CIO, Jeffrey Sherman. "But then what people don’t understand, is it stays inverted for a while, and it starts steepening right before the economy goes deeper into a negative momentum situation."
If this situation sounds familiar, it’s because it’s happening right now.
The US yield curve has been inverted since March, but has recently started to steepen. This would normally be a welcome sign, as a steepening yield curve coincides with higher growth prospects. However, it’s bad news when the steepening occurs because of a cosmic drop in short-term rates — and that’s exactly what has transpired.
Gundlach watches the 5- and 30-year US Treasury spread like a hawk, and its steady steepening as of late has been adding fuel to the fire.
He continued: "It’s like the bond market sniffs it out, and says ‘Ah ha! The Fed is going to be easing like crazy,’ and that’s going to obviously be in response to what we believe is going to be further economic downside momentum."
In short, Gundlach thinks the Federal Reserve is in a lose-lose situation. If they cut, they’ll exacerbate the rapid drop in rates, and if they don’t, markets will turn into a calamity. Either way, it’s not looking good.
"You get this strange situation where the yield curve model is not truly fixable," he said. "Your attempt to fix it, each and every time, has coincided with a recession actually showing up."
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