Gundlach: Inflation Will be Above 5% for 2021
There is at least a 50/50 chance that headline CPI inflation will exceed 5% for all of 2021, according to Jeffrey Gundlach. He also predicted that neither Joe Biden nor Donald Trump will be on the presidential ticket in 2024.
Gundlach spoke via a webcast as the opening keynote for the Advisor Perspectives 2021 Thought Leader Summit. You can view a replay of his session and register for other CE-eligible sessions here. Gundlach is the founder and chairman of Los Angeles-based DoubleLine Capital.
Inflation will not be transitory, as the Fed has previously claimed. That is evident, he said, by the fact that the Fed has already backtracked on its definition of “transitory,” adopting the view that inflation will be more persistent than it originally believed.
The PPI has increased 9.6% year-over-year, and the headline CPI is up 5.4%.
The CPI has lagged in its incorporation of the increasing costs of home ownership. Prices of homes are rising rapidly across the U.S., he said, and CPI’s use of owner-equivalent rent does not reflect this.
The health of the economy and the direction of interest rates
The economy is healthy, Gundlach said, but only because it is buoyed by government support and deficit spending. GDP has bounced back through many rounds of stimulus, he said, but most of it is from consumption. Our trade deficit has expanded by 3% of GDP since the onset of the pandemic because the Chinese economy improved and imported goods to the U.S.
“We haven’t produced more than pre-pandemic,” he said, “we’re just consuming more from China.”
Unemployment is still five million more than before the pandemic, which shows that we are “not really growing the economy,” he said. The reason there are so many open jobs is that the government is competing with the private sector, through measures such as unemployment insurance.
Once stimulus measures like extended unemployment insurance start rolling off at the end of September, he fears that GDP growth will be challenged.
“We’ve become very dependent on stimulus measures,” he said, “and the pandemic keeps wearing on.”
The eviction moratorium is especially problematic. Once that expires, Gundlach said that landlords could raise rents aggressively, creating a housing shortage. Rents are already rising rapidly in many parts of the U.S.
“If you say you can evict people,” he said, “a lot of commercial real estate operators will evict people.”
We could see significant increases in rent that will then be reflected in the CPI, he said.
Gundlach was critical of the Biden administration’s handling of the withdrawal from Afghanistan and said that it could embolden other counties to take actions against our allies. Taiwan, he said, faces the threat of a seizure by China.
“The handling of the Afghanistan withdrawal was mind-blowingly dumb,” he said.
“I would be surprised if Taiwan were not overtaken by China during the Biden administration,” he said.
The bond market
The 10-year Treasury yield was 1.25% on the day he spoke. That, combined with the core CPI-U’s most recent 4.2% reading, means that real bond yields are at the lowest level in Gundlach’s career. He said that Treasury bonds have “never been more overvalued.”
He noted that the duration of the AGG has increased about 50% since the start of the pandemic. With real yields at all-time lows, Gundlach said the risk-return profile for Treasury bonds is particularly bad.
Yields will remain in the 1% to 1.5% range for the remainder of the year. The Fed has embraced yield-curve control and yields should be higher. Gundlach often refers to the copper-gold ratio, which he said shows that the 10-year yield should be at least 3%.
“We are at the mercy of the machinery and those who are pulling the levers of that machinery,” he said, in reference to the Fed.
Even if the Fed backs off its quantitative easing (QE) policies, bond yields may not rise. Historically, they have tended to go down in those situations, he said.
Fund managers are notorious for “talking their book” – emphasizing the opportunities in whatever strategy they oversee. As a primarily long-only bond manager, this was a rare case of a manager claiming that his strategy was out-of-favor.
Stocks, based on the S&P 500, are similarly overvalued, Gundlach said. Equity prices are vulnerable to when the Fed begins its “taper” and reduces the $80 billion of Treasury bonds and $40 billion of mortgages it purchases monthly. The start of the taper will undermine the support for stock prices.
Gundlach doesn’t expect the taper to begin before December, although he said that was just a "guess."
Stocks are less overvalued than bonds, he said. The extreme overvaluation of bonds and their artificially targeted yields supports stock prices.
Gundlach said that parts of the $1 trillion infrastructure bill passed by the Senate will be “well spent” – better spent than paying people not to work (through unemployment insurance).
Modern monetary policy (MMT) has been discredited by the past 18 months, according to Gundlach, as inflation has risen while deficits have grown.
“We doled out trillions of dollars,” he said, “and prices of a lot of things are up.”
“Inflation is there, and you can see it.”
The only support for MMT, he said, is if you keep interest rates at zero, in which case deficits don’t matter. When rates rise, it brings to the forefront the problems driven by the deficit.
MMT is ultimately about giving people money, he said, and it is getting support from some futurists who envision a world where robots do all the work. That would be very depressing, he said.
The ESG movement and cryptocurrencies
Environmental, social and governance- (ESG-) based investing is a “fad,” he said, and declared that DoubleLine will never offer an ESG product. ESG returns have benefited, he said, because people have “crowded” into them, and when that unwinds returns will suffer.
As evidence of the faddish nature of ESG, he said that in the 1970s, the scientific community feared a new Ice Age.
Now they fear the opposite - global warming. “There is some evidence of that,” he said, “but it could be a statistical fluke.”
Moreover, the definition of what constitutes a good ESG investment is “squishy,” he said. A company with a monopoly might double its prices and deserve a failing grade for its governance. But that decision could play out well for shareholders, generating excess revenue and profits.
Investors should avoid cryptocurrencies like bitcoin that are not convertible to a fiat currency. He said he has not been short or long any cryptocurrency, and that cryptocurrencies are only useful as a speculative tool. Its speculative value comes from its high volatility. Speculators who can anticipate price changes, which are “somewhat predictable,” can profit. But investors should shun bitcoin and others like it.
Nor are you freeing yourself from government oversight with cryptocurrencies, he said. He noted that federal officials have been able to apprehend criminals specifically because they were paid in bitcoin.
“If bitcoin is so anonymous,” he said, “tell me how federal officials were able to catch criminals who used it.”
Bitcoin’s price now is in the “speculative stratosphere” and should be avoided – even by speculators.
Where to find value and opportunity
While bonds and stocks are overvalued, he said that emerging-market equities – in particular, India – are attractively valued from a long-term perspective. The caveat, though, is how long it will take those countries to overcome the threat of the virus and its mutations.
Emerging markets were cheap entering 2021 and they have gotten “tremendously cheaper” since then. The trigger for an upward move in those markets will be a decline in the dollar, which Gundlach said is likely as the “twin” (fiscal and trade) deficits grow. “That will be a catalyst for a tremendous outperformance of emerging markets relative to the U.S.,” he said.
European stocks are also attractive, and he said he has rotated some of his positions from U.S. to European equities.
Gundlach has been a proponent of the “permanent” portfolio – 25% allocations to cash, equities, long-term bonds and real assets. He still likes that portfolio, he said, although he would adjust it to lower the allocation to cash, which has a negative real yield, and increase the allocations to European and emerging-market equities, and to real assets. He would keep the allocation to long-term bonds as a hedge against deflation.
Biden, Trump, political predictions and Gundlach's daily reading list
His daily reading list begins with the newswires. He said he is looking for how they are “spinning their data and turning it into their narrative.” He looks for instances when the data is changing but narrative isn't and vice versa. That foretells market movements, he said.
Among the analysts he follows are Jim Grant, Jim Bianco and Lacy Hunt. He also is a regular reader of the 13D Research report, which consists of eight to 10 articles on a variety of topics, not all of which are investment related. It is written by Kiril Sokoloff.
Gundlach, known for making bold political predictions, said that the Democrats will lose the House in 2022, as did President Obama in 2010. That will be driven by rising discontent among Americans over the concentration of power in Washington, D.C. Democrats may be able to retain control of the Senate, but he was less certain of that prediction.
It is “literally impossible” that Biden will run for reelection in 2024, he said, because the presidency is too grueling a job. Gundlach said that every year of a term adds four years to the effective age of a president. Biden took office seven months ago at age 78, so he is now effectively nearly 81 years old. By 2024, Biden will not be up for running a presidential campaign.
Donald Trump will not run for the presidency either in 2024, according to Gundlach, because of his age. But Trump is “loaded with energy, perhaps to a fault,” he said, and will exert his influence across the political landscape.
Robert Huebscher is the founder and editor of Advisor Perspectives.