Jeffrey Gundlach is the founder of DoubleLine Capital, an investment firm. He was formerly the head of the $12 billion TCW Total Return Bond Fund, where he finished in the top 2% of all funds invested in intermediate-term bonds for the 10 years that ended prior to his departure in 2009.
The resurgence of risk aversion
Gundlach said that he has been surprised by investors’ “calm response” to the fiscal crisis and with pending decisions on the debt ceiling and sequestration cuts looming, he said there is “ample opportunity for resurgence in risk aversion.” Gundlach added that 2012 was a year when “just about everything did better than it deserved to.”
A looming sell-off
“As interesting as the complacency is regarding the United States, it’s like another order of magnitude how amazing the complacency is around Europe,” Gundlach said. The high unemployment rate in Europe trumps any signs of stabilization, he added, giving European bond yields an unattractive risk/reward profile. Gundlach also noted that the incredible stability and profitability of risk assets with no sell-off in sight usually means that a sell-off is happening soon.
Speculation is taking hold
Gundlach said that the zero-interest-rate policies of the global central banks are “absolutely starting to force people into throwing their money into speculation.” He added that the housing market, which is seeing an influx of hedge fund money, is the clearest example of this speculation. “what’s really changed is you are starting to see widespread buy-in to the idea that the housing market — particularly in the areas that were subprime financed — have clearly improved,” Gundlach said.
Bullish on nonagency market
The mortgage sector is “pretty dicey” in terms of refinancing risk, according to Gundlach, and he has reduced prepayment exposure across DoubleLine portfolios. While he isn’t predicting price appreciation in the agency market, Gundlach said that the nonagency sector could deliver double-digit returns this year. “The best reason to be bullish on parts of the nonagency market is it’s quite likely that with housing [prices] improving in some of the areas that underlie these securities . . . refinancing is going to start becoming a positive benefit to those assets,” Gundlach said.
A growing interest in U.S. Treasuries
As he continues to increase risk integration in his portfolios, Gundlach has found U.S. Treasuries an “intriguing option to offset the risk of credit sectors.” He noted that Treasury-bond market yield has moved up over the last six months, while the credit-market yields have dropped by a significant amount. He is interested in Treasuries only for short-term investment strategies, and said that on a short-term basis, “the relative value of Treasuries is actually higher than most people seem to want to give credit for.”
Fixed-income investors have grown complacent
Gundlach said that a sell-off of risk assets could push the 10-year Treasury yield down around 1.5% again and investors should take note of these long-term risks. But he also said that he believes investors are “too complacent” about the downside risks of other fixed-income sectors. “If Treasury bond yields rise further, it’s sort of hard to figure out why you would hold your value on a 4.25% double-B corporate bond,” he said, “so I think they have duration risk, too.
Overall, Gundlach said that fixed-income investors should have lowered expectations for returns in 2013. In fact, he suggested that he would be pleased if DoubleLine Total Return can deliver mid-single digit returns. “If things show some volatility, then hopefully we’ll be able to have better returns as a consequence of working that volatility,” Gundlach said, “but I have no interest in going to a maximum risk position here at all.”
– Compiled by Jeff Fisher, Partner with South Coast Investment Advisors, LLC **