Gundlach: Corporate Bonds Could Be a Repeat of the Sub-Prime Crisis

A collapse in the corporate bond market could rival the sub-prime debacle a decade ago, according to Jeffrey Gundlach.

Corporate bonds are not as overvalued as sub-prime mortgage debt was prior to the financial crisis, according to Gundlach. But because the corporate market is so much larger than the sub-prime was, the overall exposure to investors could be of the same scale. Indeed, “We could easily see $400 billion in losses,” he said.

Gundlach is the founder and chief investment officer of Los Angeles-based DoubleLine Capital. He spoke to investors via a conference call yesterday. Slides from that presentation are available here. The focus of his talk was DoubleLine’s asset-allocation mutual funds, DBLFX and DFLEX.

Gundlach’s fear is rooted in the excessive amount of corporate debt, particularly bonds that are rated BBB, the lowest investment-grade rating, just above high yield.

Corporate bonds have been rich by one standard deviation for most of the last three years, he said, and now are at an “outright sell” level. A massive amount of corporate debt is weighing on the corporate bond market, and a lot of bonds are “complacently owned.”

Gundlach cited a Morgan Stanley report that showed the oversupply and weak ratings standards that could lead to downgrades. Based on corporate leverage ratios, 38% of the corporate bond market should be rated junk, according to Gundlach. That’s actually an improvement over the last time he cited this data, when the corresponding metric was 45%.