Gundlach: Biden Will Not Win the Democratic Nomination

Tariffs and trade

Gundlach said he chose his title, “YouTube University,” based on a conversation with an Uber driver, who told him that his education came primarily from YouTube videos and their ability to simplify complex topics. Gundlach said his goal in the webcast was to simplify the major economic themes underlying his market outlook.

For the last several webcasts, Gundlach has been focusing on Deutsche Bank’s weak stock price. It is down 95% from its high, and is firmly below $10. It stopped falling in the last week and may have “hit a resistance point,” he said.

The reason behind Deutsche Bank’s troubles is that its price follows the German 10-year bund yield, which is -0.26%. “How can a bank make money when interest rates are negative?” Gundlach asked, rhetorically.

Deutsche Bank’s problems are compounded by the threat of a global slowdown, which he said has become more likely due to tariffs. German exports have failed dramatically since 2018, as has the Korean economy, which is highly export-dependent, according to Gundlach.

“Trade wars are a very big deal,” Gundlach said.

Neither Trump nor Chinese President Xi want to give ground in trade negotiations. Trump said he got something for not putting tariffs on Mexico. It may have been something, Gundlach said, “but not very much.” That might embolden China to take a harder negotiating stance.

First quarter growth may have been helped by the threat of tariffs, as consumers accelerated spending in advance of Trump’s threats. Gundlach gave a small amount of credence to the logic that Trump paradoxically wants the economy to slow, in order to position it for a rebound prior to the 2020 election or to get Powell to lower interest rates.

Oil prices have been “cratering” because of lack of demand, Gundlach said, also suggesting that global growth is slowing. (Oil prices rose somewhat in the last week, corresponding to the attacks on tankers in the Straits of Hormuz.)

Recession likelihood rising

There are now several indicators saying that a recession could occur in the next year, according to Gundlach. The recession probabilities going out six months and a year have moved up in the last few months, he said.

The U.S. leading economic indicators (LEIs) don’t forecast a recession, he said, and there has never been a recession without them going below zero. That could happen by year end, he said, but not much sooner. The corresponding indicators in Europe, on the other hand, have been “chronically weak” since the fall of 2018, Gundlach said.

The economic data-change indicators are showing. One of the most concerning indicators is the comparison of future versus present economic prospects. When prospects for the future are at their minimum levels, it presages a recession. “We have a sea of red ink” in those indicators, Gundlach said, “comparable to past recessionary periods. If this trend continues, it would be a strong recessionary sign.”

The three-month to 10-year yield curve spread inverted prior to the last four recessions, Gundlach said, as is the case now. That spread became less inverted prior to the actual start of the recession, which would happen if there is a Fed rate cut.

The N.Y. Fed recession probability model is at a level that corresponds to a recession within the next year or so, he said.

The Powell balancing act

Fed Chairman Powell is faced with reconciling differences in outlooks for monetary policy coming from the market and his fellow Fed governors.

Bond yields dropped precipitously since March. The market is forecasting 2.75 rate cuts by the year end. Yet the Fed, based on its “dot plot” that shows rate projections of individual governors, is not forecasting any cuts this year; for 2020, the Fed is forecasting one hike.

Gundlach said he has a hard time believing that the Fed will stick to that single rate cut. He sided with the bond market in expecting rate cuts and said the Fed will probably blame tariffs for its failure to have a clear and accurate outlook. He said there is a greater chance of four cuts than one by year end; he predicted no cuts in June, possibly one in July and “September is a lock.”

Could the Fed cut 50 basis points? It did in 2000 and 2007 to start the last two easing cycles. If the bond market is right about three cuts, he said there could be a 50 basis point cut in September.

“If Powell cuts rates, he will be capitulating to the bond market, not to Trump,” he said.

The dollar stopped going up once the market started predicting rate cuts. It would be very unlikely for the ECB to be as aggressive in its cuts as the Fed will be, according to Gundlach, which would lead to an even weaker dollar.

Deficits and the dollar

The dollar strength correlates with budget deficits. As deficits increase as a percentage of GDP, it will drive the dollar lower. The U.S. deficit in May was at a rate of $1 trillion annually. As a percentage of GDP, this is typical of a recession, Gundlach said.

As in prior webcasts, Gundlach reinforced his belief that the U.S. is on a perilous fiscal path, with excessive debt and entitlement and mandatory spending, adding that the budget deficit is “consistently understated” as a result of the accounting principles the government uses.

“There is no relenting or end in sight,” he said, in regard to the fiscal problems facing the U.S.

Gundlach said he is long gold and gold miners. “They will break to the upside, due primarily to dollar weakness.”

Recalling one of his most aggressive predictions, Gundlach said the yield on the 10-year Treasury might get to 6% by 2021. If the Fed does not manipulate the markets, he said it would get there because of the “massive amount of debt.”

“If we head in that direction, the Fed will treat near-zero interest rates as a normal policy tool, not an emergency measure, as will be the case with quantitative easing,” he said. “It won’t let the market price naturally.”

Read more articles by Robert Huebscher