Gundlach – The Tipping Point for Stocks and Bonds

Jeffrey Gundlach predicts trouble for the equity, corporate and junk-bond markets if the yield on the 10-year Treasury bond goes above 3% in 2017. Even the housing market would suffer.

Gundlach is the founder and chief investment officer of Los Angeles-based DoubleLine Capital, a leading provider of fixed-income mutual funds and ETFs. He spoke to investors via a conference call on December 13. Slides from that presentation are available here. The focus of his talk was DoubleLine’s flagship Total Return Bond Fund (DBLTX).

Corporate bonds, as measured by the ETF LQD, have done poorly since the market bottom on July 8, returning -5.4%, but the junk-bond ETF JNK “massively” outperformed, returning 3.6% since that date, Gundlach said. But he said if the 10-year bond, which closed at 2.46% on the day he spoke, goes above 3%, then junk bonds would “fall into a black hole of illiquidity.”

Investment-grade corporate bonds are already “as overvalued as it gets,” he said, and are threatened by excessive leverage in the corporate sectors.

A push above 3% would cause investors to rethink their equity holdings and shift allocations to bonds, he said. Financial services – specifically banks – would suffer because their dividend yields would be significantly less than 3%.

That rate increase would translate to a 30% increase in mortgage payments for homeowners from the July levels, according to Gundlach. This would hurt resales, he said, since there is “no way” the median income would rise by nearly 30%.

Gundlach said that “3% is a really big number on the 10-year. It won’t happen soon, but it may happen in 2017.”

“If you are above 3% on the 10-year, it is no longer possible to make the case that the bull market in bonds is intact,” he said, “at least based on the charts.”

Let’s look at Gundlach’s take on the market implications of the Trump presidency and his other comments.