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Gundlach's High-Conviction Investment Idea

December 26, 2012

by Robert Huebscher

“It’s possible that taxes on the very wealthy in America could go very, very substantially higher, because there really is no resistance to raising taxes on the wealthy,” he said.

At the other extreme, Gundlach said that most of the jobs gained in the current recovery have been  low-wage.  As a consequence, he said, median household income has fallen in real terms since 2000, and in nominal terms it is below its 2008 peak. 

Labor-force participation has spiked for workers over age 75, who have seen their wealth depleted and can no longer live off their savings, Gundlach said.  Their incomes have grown slightly, but the economic hardship is worse for the younger generation.  Unemployment among teenagers has increased sharply, making it extremely difficult for them to get jobs, he said.

The message from Japan

The two-decade miasma of slow growth and fiscal imbalances that Japan has endured are a cautionary backdrop for US policymakers as they grapple with these challenges.  Gundlach had not discussed Japan in previous conference calls, but this time he drew a number of parallels between its situation and the US’s.

Gundlach’s analysis of Japan closely resembled that articulated by the hedge-fund manager Kyle Bass in a talk a month ago at a University of Virginia conference.

With debt more than double its GDP, Japan is far more indebted than the US and still headed in the wrong direction.  According to Gundlach, Japan’s debt has increased by half its GDP in just the last four years.

“Government spending, of course, is what’s responsible,” he said, and presented the data below showing the persistent rise of quarterly spending:

Japan Government Spending

Japan’s rising imports – exacerbated most recently by demand for new, foreign energy sources since the 2011 tsunami and nuclear disaster – have created a trade deficit, Gundlach said.  Its aging population is further depressing Japan’s current account, he added, forcing it to engage in increasingly aggressive monetary policies.

“Japan should be watched for moving into an inflationary exercise,” he said.  Japan is out of policy tools, according to Gundlach, and will “embark first on an exercise in debasement in an attempt to create inflation.”

Japan may still have room to lower its interest rates, since, unlike in the US, real rates remain positive in Japan. 

The potential for lower interest rates carries a message for those who expect high-dividend stocks to outperform bonds.  Gundlach noted that, at the end of 2009, Japanese stocks had higher yields than Japanese government bonds.  Yet, those bonds have outperformed stocks since then.  Gundlach did not predict the same outcome for US investors, but he said there’s “no guarantee that just because a certain stock portfolio might have a higher dividend it would outperform even a government bond portfolio.”