#62 - Jeffrey Gundlach: Big Picture Outlook

30:21Restructuring means restructuring. And there's a lot of vested interests that don't want to do it. So it'd be the easiest thing. All you do is you say if you're above X, I don't know, 50, whatever it is, you're good. But you can get it at age 65 or whatever it is. But every year less than that, we're going to start extending. And you'd pretty quickly get to a place where it wouldn't be such a problem. But people are going to have to give things up. And they always say that the entitlements are the third rail of politics, but just a little bit, the volume's coming up a little bit on talking about those things.

31:01And it's going to be obviously necessary. In the next recession, we're going to have to do it. So, we can't just do a 30 % of GDP deficit. We can't do that. Well, we started with the qualities of a great investor and don't get wiped out is priority number one. And if you just think about where we are, the stretching rubber band and kicking the can down the road and just responding with greater and greater stimulus, at some point that ends. I think we're the last one. Right. And then the interest rate cycle, we talked about that. So one thing that I've learned by talking to investors is they build a playbook.

31:45And the longer they've been in the business, they feel like they've got it figured out. And somebody who's been in the business for 40 years, I feel like I've got this thing figured out. But a lot of those assumptions may be flipped on their head because the world has really changed. Would you talk about that? I talked about secondly rising interest rates. And that's a very big difference. It will lead to different relationships, I think. I think we'll see much higher default rates. We're already seeing elevated default rates on bank loans because they reprice every 90 days, typically. They've already absorbed all those Fed hikes, and they're actually benefiting from the Fed cuts a little bit.

32:31But I think that the endless outperformance of the United States equity market will reverse with this regime shift. If you just look at the foreign investment position in the United States, it's gotten so big. It's$23.5 trillion. dollars. 15 years ago or so, it was like three was the net investment position. So the outperformance of the US has attracted money into the US. And that's led to a virtuous circle of US outperformance because the money keeps piling in because it's a one-way trade, particularly versus EM. I mean, it's been going on for like decades. And versus Europe, it went on pretty hard for over a decade, but that's suddenly reversing now, which I think is a tell on this one-way outperformance.

33:34It's driven in large extent by flows, and flows reverse or can reverse. And when they do, particularly if we're getting bellicose with other economies and other governments. Well, people used to talk about China not reinvesting their treasuries, but quietly they've been doing that for a long time. They're already down by 600 billion from their peak. That's already happened, but what if that accelerates? What if the non-cooperation, which obviously is the tariff rhetoric in just the past month has gotten people not getting along. I mean, we've got the Canadians booing the NHL, the Star Spangled Banner when they play it in Toronto or Montreal.

34:28So, I mean, that's all part of things, you know, disassociating. My strongest belief on how this regime will play out is the mirror image concept. I think the dollar will go down as the economy weakens, and I believe that's happening. I mean, the dollar is already down by 10 % from its highs and it's fallen quite a bit just in recent months. And most people say, I know this. I've been doing this 40 years. I know exactly how this works. When the economy goes down, the dollar goes up. I think it's going to be the opposite. And I think during recessions, you know, the U.S. outperforms. Emerging markets don't do well.

35:11It's going to be the opposite. And so I really strongly suggest that investors that are U.S. dollar based, and I'm sure this is true, the predominance of U.S. citizens, they have almost all of their investments in the dollar, almost all. And I think it's been such a comfortable thing to do because it worked in a nonstop way. But that's starting to change, too. So, I think the investment consequences of this is you want to be much more diversified. People talk about 60-40. I think 60-40 went out the window with zero interest rates. And then we had the bear markets and stocks and bonds when the interest rates were rising.

35:59And I think I've been advocating more diversification, not just 60-40 stocks, bonds, but just take Take a look at what's happening with gold. Gold actually, if you take a very highly convenient start date, which is January 1st, 2000, so it's been 25 years, stocks have done quite well, gold's done better. If you just look at the S &P divided by gold, it hasn't rallied at all. We're starting to see interest away from traditional dollar-only, 60-40 types of investments. And that's why I believe gold has been so strong when other commodities have been weak. It's not so much for economic purposes. It's people are, by degrees, monotonically gaining mistrust in the way all of this is being run from all of these embedded elites.

36:58And it's amazing how many politicians we have that were born in the 1940s and they're still in office. They just don't want to leave. But I think the dropout due to age or just death, I mean, you're going to see all those people that are clinging to this belief that it's still 1960. I'm talking about all of the 80-year-old politicians. They all seem to think the same thing. And their ability to hang on to that will decrease by circumstances, but just by simple demographics will go away. And the United States has been in a very strange position for a long, long time, and that is spending way more money on retired people than on young people.

37:57I read a magazine article back when there were magazines on airplanes and you had to read them because you didn't have anything else to do. I read an article, this is quite a few years ago, and it said that if you take a look at 65 plus and compare them to, I think it was 25 and younger, we spend seven times as much on 65 plus as we do on 25 and under. And spending money, a lot of money on 65 plus, you're just giving them, you know, you're just giving them sustenance. You're not investing in the future. There's no such thing as investing in an 80 year old. But the future is the younger generation.

38:34And if you're not developing them, you're not educating them, you're really missing out. So you see this everywhere. You know, the leaders, the leaders of all this are like California seems to lead everything. in advance of everything. And California spends so much money per student on education, and yet they have very mediocre results. So it's like we're in this place where we're not logically managing. And I think it has a lot to do with the political cycle. It's always yield to next election for politicians. elections, and it's one of the downfalls of democracy is if you have regular elections and the US is really extreme in this regard.

39:24I mean, it's set in stone two years, four years, six years. Well, it's hard to do long-term planning. So one of the ways that China managed to keep it together for a long time is autocracy, But we have benefits of democracy or the republic or democratic voting. But there's also the idea that the regime can change awfully quickly, as we saw in the first four weeks of Trump's second term. I mean, things are changing very, very quickly and they can be changed back. We have one executive order that says, well, the next guy comes in and changes back and then comes back and changes again. So it's not a system that has like a spirit or a belief system.

40:10It's just it's devolved into very short termism. And I think what with the USAID thing, I mean, I know that some of that stuff is probably legitimate. But I mean, those lists that they were reading off the first few days of looking into that was pretty horrifying. I mean, it's not a lot of money, but the fact that it's anything like that reveals – you can only imagine how much rot there must be in the Defense Department, which fails every audit. I mean, they don't know where the money went. You can only imagine what they're going to find in Medicaid, Medicare, and the Department of Defense. I mean, there's a lot there.

40:53And I think it will accelerate the dissatisfaction with the way we keep kicking the can down the road and allowing for blatant corruption. I mean, just blatant corruption. And I guess everybody always knew that politicians were corrupt, but I don't suppose they suspected the extent to which it could go. You know, decades ago, people were getting angry because the government was paying$100 for a hammer in the Defense Department. I mean, that sounded bad at the time, but what we got going on now really was unimaginable and unthinkable just 20 years ago. You brought up a topic that I think is worth digging into a little bit, which is obviously the macro environment is highly uncertain.

41:46there's a lot of risk and regime shifts and everything we talked about. And then you also talked about, in consequence, and as a function of this, you want to be more diversified. Yet, when you look at most investors, they're much less diversified today than they were 10 years ago. I think that's right. Particularly with the fads, when the manias come, and we had a mania in 2024. I mean, the whole Magnificent Seven thing is an obvious mania. I mean, it's exactly a carbon copy of what happened in the latter part of the 20th century. And so you get to these manias and people buy the S &P 500 index fund because they're like ETFs are cheap and the whole thing, but they don't realize that seven stocks are this massive piece and they're all highly correlated.

42:34So an S &P index fund has such a massive AI or had, it's less now, but massive AI sort of awaiting. But I think people need to diversify out of financial assets as the only thing that they so-called invest in. I mean, people have a house, but they can't really sell your house. You got to live somewhere. But I think the reason gold has gotten new life is because people are buying it as an asset class, not as a speculation, not as some commodity pool advisor or something. They're buying it because it's outside of what they see is a deteriorating financial management at the governmental level in much of the world.

43:23They're going to that. I think real estate, just land, farmland. I was never a real estate guy, but over the past 10 years, I bought three significant properties. I have a mix now. I'm different. Asset allocation is very personal. It has a lot to do with where you are in life and what your resources are. When I just talk about everything that's non-double line, because I don't know what bucket to put double line in. It's such a unique thing. But when it comes to real assets versus financial assets, I'm basically 50-50. So I believe in tangibles. I believe in land. I believe in gold or other high concentration stores of value.

44:15And I think it'll be a long time before I go out back into financial assets of greater than a 50 % sort of allocation. So I've gone, that's pretty significant. When I talk about other for other people who aren't in a more common situation, I've been advocating 25 % cash for the last six, eight months. and only about 25 % in stocks, and the stocks be equal weighted, not market weighted, so you actually have diversification in the US. Then I like long-term plays, and my favorite long-term play, and I've been saying this for over a decade, is India because of the demographics and the education and the changes and global supply chains and escape from China.

45:16They have the same demographic profile today that China did 35 years ago, which means hundreds of millions of people entering the labor force. China actually has a decreasing labor force now that we're suffering the back end of the consequences of the so-called one-child policy, which was never a one-child policy. But they did have a low birth rate. And that's challenging too for the fourth turning, if you will. You've got all these developed economies and they have horrible fertility rates, under two. And so their population is dwindling or they need immigration. The most common male name in 2024 in the UK was Muhammad, which kind of tells you how the demographic shift has been evolving.

46:09And so, we don't have quite the same problem here, although we've certainly decided that our fall off in the labor force could partially be replaced ultimately with immigrants. If you had to rank the performance of these four asset classes for the next 10 years, where would you rank them? US stocks, non-US stocks, bonds, and gold? I think number one would probably be non-US stocks. Number two would be gold. Number three,

46:47I guess it would be US stocks. That's a close call between that and bonds. Yeah. If you'd asked me that 18 months ago, I would have been much higher up on bonds. I mean, the yields were much higher. You could easily put together a low risk bond portfolio with 8 % or 9 % yield. Now, 6 % is the new 9%. Yes, stocks might be able to do 6%, but from the starting point of where we were at the end of 2024, I would think stocks and bonds, I would think getting 9 % or 8 % out of stocks from where we started, it just seems impossible. The CAPE ratio, Schiller's sickly adjusted ratio was at 37. It just can't get higher.

47:37I mean, it's only higher once in history. I think that was 1999. So it's all earnings. You can't expect expansion from a 37 CAPE ratio of any significance. So what are the earnings going to be? Well, people are hoping for 12 % this year. They were hoping for 14%. I think the ways they're shaping up, I think it's going to be single digit. Yeah, I think bonds and stocks are sort of close, but where we are now on yields with some rates now below four again on the treasury bond market. I see very significant problems for long-term treasury bonds as well. So, I would put long-term treasury bonds as the least attractive, even though rates have come up some.

48:32We have been de-emphasizing long-term treasury bonds. And one of the things that I'm still grappling with is we entered this year with very little extra compensation versus historical norms from buying non-treasury bonds, by buying junk bonds or corporate bonds. And it stuck for a long time. And so on a valuation basis, you should be saying, I don't want to have heavy allocations to these things. But I think the reason that we've had such a prolonged period of that de minimis compensation for taking that risk is I think people are waking up to the fact that that risk might not even be a risk. If you're really willing to accept at least the notion as possible that they restructure the treasury debt, you might be better off in corporate bonds.

49:32When I started in this business, there were corporate bonds that yielded less than treasury bonds. IBM, for example. IBM's still around, so there wasn't a lot of risk there, but it was perceived that IBM was a safer bond investment than the treasuries. Because you could trust the company more than you could trust the government? Well, yes. And people thought that the government was running a bad fiscal policy. And we still are. It's worse. It's worse. So I think that investment-grade corporate bonds, really like single-A corporate bonds, I think they're safer than long-term treasuries. Even though the government can print money to pay its debt.

50:20Yeah, but they can print it, but it won't be worth anything. That hurts your corporate bonds too, because they're dollar-denominated. But the government has been printing a lot of money, and it's getting to the point where it's not your grandchildren's problem anymore. I remember years ago, people used to say, Social Security is going to run out of money by 2050. Then 10 years later, it was, oops, it's 2040. Then 10 years later, oops, it's 2032. I think they're out of money in five years. This is a real-time problem. So, and this is why non-financial assets, non-dollar investments, I think, are more attractive now than any time in the past 10 to 20 years.

51:14And that's part of being diversified. You talked about diversification. So, being diversified across non-financial assets and financial assets, different asset classes. And when you just look at where people are, it is extremely concentrated. It's heavy in stocks, heavy in US stocks, heavy in a handful of companies. It's almost the opposite extreme. Yeah. Well, like I said, it's highly reminiscent of the last few years of the 1990s. You know, yes, something that investors that are successful have in common. I think one of the things is, and I don't know if you're born with this or there's some way of developing it, but it's sort of an emotional memory where you remember facts.

51:58Most people can remember facts pretty well, but they don't remember kind of how it felt. That's what I mean by emotional memory. I've been really sort of lucky with that. It's the thing that really, really defined my almost unique success during the global financial crisis for someone that wasn't shorting things. I remembered 1994 in the Fed cycle, and the bond market was poor in 1994. It was, you know, 2022 was way worse, but 1994 was not great. And there was a lot of malinvestment that was banking on interest rates not going up, and then the Fed had to raise rates during 1994. for, and there was no bid.

52:49Nobody had any money because everybody was a seller. Prices were just gapping lower. Certain securities that were in the news as being money losers for some public pension plans and stuff, nobody wanted to buy them. They either didn't have the money or it was viewed to be imprudent. And the securities got so cheap, it was unbelievable. It was truly unbelievable. There was absolutely no way to lose. People were just giving them away. I mean, there were securities that if you put on the worst possible assumptions, you would still have significant excess return versus treasuries. The worst possible case assumptions.

53:35And I was just amazed at how low they went. And I learned the lesson. I said, you know, it's not always about value. Somebody has to actually take out a wallet and buy. And the global financial crisis was just getting started. Countrywide wasn't gone yet, but there started to be problems with the defaults going up. And one Friday afternoon, which is a really terrible time to do a margin call, but a mortgage REIT, a very high-quality mortgage REIT, maybe the best one in terms of their underwriting, ran out of money, and they got margin called. These floating-rate mortgages had never traded below 100.

54:25The prices started to give, and they were down to about 98, so not much of a discount. This list comes in from this REIT, and there were big blocks. It was a big read. And there were several trades that were in the hundreds of millions. And they said, we're talking it at 97. And I said, I don't know. I'll pay. I bid 93. Four-point back bid. And I got hit on 300 million. And one of the younger guys, he now works at DoubleLine. He's worked for me his whole career. He was, this is, he's had a Russian accent. He's like, this is too cheap. This is the cheapest bond I have ever seen. And it was like a lightning bolt went off.

55:15So I was like, you're writing that on the ticket. Cheapest bond I've ever seen. You're tacking it onto the blotter on the board. Because mark my words, they yielded, at that price of 93, they yielded 8. And I said, mark my words, this isn't going to end until these things yield 15. Well, I was wrong. They actually went to a yield of 40. But the point was, I said, we are not buying any more of these, period, none. We're not putting on a throwaway bid, nothing. And we ended up, there was a small rally early on in the credit crisis. We were able to get out of them at a profit. But those bonds went down to like 45 cents on the dollar.

56:03And today, they're like 103 again, right? But there was nobody to buy them. And that's what people don't understand. The popularity of index funds is dangerous because you have – index does well, attracts money. Index does – the index outperforms 95 % of active managers in stocks. A bull market has something to do with that because the index has no cash. But it's that thing that people are just reinforced to buy more. Then all of a sudden, it starts going down and they start selling and there's nobody to buy it. Index funds are very susceptible to this because you're running an index fund, they give you money, you buy the stocks.

56:54You're buying, puts them higher, people give you more money. Again, it's a virtuous circle. The other side of that is the vicious cycle of selling. I don't think investors quite understand the danger of having so much money in index funds that have such lack of diversification. This theme runs through everything. It's just a question of degree. And I think the worst is US index funds because of the foreign investment position. We could have$20 trillion come out of this market in the next however many years. Could even happen in a more compressed timeframe. That would lead to tremendous underperformance because maybe that money goes home because Europe is now outperforming in recent weeks.

57:49It's now outperforming. Emerging markets have started to perform. Maybe that becomes a trend and everybody wants to switch to the new ball game. And I think the odds of that, again, it might take longer, probably will take longer than people think, but it's going to be very severe. And the underperformance is going to be very acute and painful. And that's what will accelerate that turnover from sector to sector from country to country. And that's, yeah, I believe it has started. And if I were to tease out the insight in what you just described, the way I would summarize it is, as an investor, you have to be very careful about the assumptions that you make.

58:36And in some ways, the ones who have been in the market for a long time have deeper assumptions that they feel are investment truths. And when you go through a big regime change and the backdrop changes radically, you got to be really careful because that's what can wipe you out. Yeah. I put it in a very simple, practical way of operating. Every single time that, and I learned this probably 30 years ago through a painful experience or two, every time you make a change or you're reconsidering allocation, the first question I ask myself is, if and when this goes wrong, how am I going to explain it to the client?

59:25What is the spectrum of my assumptions? And somewhere within that spectrum, there has to be analysis done that assumes that this is going to be wrong. And then say, yes, it was wrong, but I had a legitimate thesis. It was very well thought through, but I'm wrong about 30 % of the time, which is quite a low number. I mean, most people are wrong more than 50 % of the time, and people that are reasonably successful in investment business, they're right like 55 % of the time. 70 is very high, but I've been doing this for over 40 years, and I've got tons of data, so it's statistically pretty significant.

1:00:11So you know you're going to be wrong. So you just say, okay, this is one of the 30 percenters that I got wrong, but this is how it was risk mitigated. This is how the loss was contained and how it didn't become a fatal risk. And that's really important because there's nothing worse than... I've seen some real horror shows. I've been in meetings with pension committees years ago now where they would have all their managers come in. And the managers would present with the other managers present going around the table. And I'll never forget one. It was during the emerging market, the long-term capital management meltdown, the world of markets.

1:00:58And this poor firm had really abysmal performance. And this is in bonds, too. And it's many percentage points below an index one. And they said, so can you explain this to us? And the guy from that company, wow, he said, you know, we have no idea what happened. We're just as confused as you are. He was fired on the spot. And he deserved to be fired on the spot. But it was just like, it almost sounds like, hey, you know, we're throwing some darts one day and this is where they landed. There was nothing there. So, I really think it's important to say, when and if this goes wrong, how am I going to explain?

1:01:45I mean, when we had that tremendous interest rate suppression that yield zero interest rates for so many years, we had owned some securities and they had, because of the yield starvation and the lack of volatility, they had gone down to very low yields. In fact, it got to a point where the yield under the most likely outcome was negative, actually negative because it was a premium dollar price. The mic could be returned quickly enough that you would have bigger dollar loss on the price than the interest you received. And one of the guys that was helping to run that product, he was like, I don't know what to do because these look so unattractive, but there's nothing to buy.

1:02:37I said, we cannot own something whose base case is a negative return in a way that's not even conjectural. I mean, it's just very simple mathematics. I said, we just can't do it. I'd rather own cash. I can explain to the investors why we have 30 % cash a lot better than why I own this. So sometimes you just have to really think, no, I can't just sit here and do nothing. You know, the problems that people have in the investment business, they're very emotional. Every up day, they're bullish. Every down day, they're bearish, right? And the other problem is lack of action. There's a syndrome in a lot of people that says, ready, aim, aim, aim, aim, and they just can't pull the trigger.

1:03:34And that's your first question about investing and what makes people good investors. You got to act.

1:03:45And there's an old bond phrase. It's probably true in all investment classes. your first loss is your best loss. What that means is don't hold on to something praying for a recovery, right? Small losses, more often than turning back into profits, turn into bigger losses. So you have to be able to accept that and move on. So that's important. The last question I wanted to ask you, and thank you for your time, is on inflation. So one of the assumptions, and it may not be overt, is that inflation volatility has been relatively low for a long period of time. It was, yeah. Yeah, until recently. But you basically had low and stable inflation for a long period of time.

1:04:33And then all of a sudden, inflation spiked, it came down. But it seems that inflation volatility is a thing now. And that has a significant impact on the way you invest, because that is something that you could see people undervalue because it was not an issue for a long period of time. Right. I've been predicting for over two decades that the response to recessions or economic weakness would increasingly be money giveaways. And we did it under George W. Bush. It was a few dollars in the global financial crisis, and that's not enough. Then there's different rounds of this stuff, but you get to a certain point where it's too much.

1:05:23The monetary authorities and certainly the leadership in government, they have no idea where that is. We obviously passed that by the inflation rate going from 1.4 to 9.1 on the year-over-year CPI. And the next round, I'm afraid, is going to be bigger. And so inflation went up to 9.1 pretty quickly. So few people in the Fed saw this coming. And yet, it just seems to me that anybody, you don't need economics lessons. When I was like five years old, we didn't have any money. And I remember saying, you know, mom, why doesn't the government just give everybody a million dollars? Everything would be great.

1:06:14She says, Jeffrey, if the government gave everybody a million dollars, an apple would cost a thousand dollars. And I was like five years old. And I said, hey, she's right. Because it's just not—I used to, in speeches, I used to say, I hear commonly the most ridiculous idea that you cannot bring inflation back because of demographics and all this stuff. I said, I can bring inflation back by 5 o 'clock this afternoon. Have the Treasury Department declare I'm going to be hyperbolic for dramatic effect, that they're going to give every single American$1 billion. And I said, if there isn't inflation by 5 o 'clock tonight, the lines at the Ferrari dealers are going to be something to behold.

1:07:06Of course you can get that happening. It's always and forever a monetary phenomenon. And that amount of money. So I think you're right. We had inflation was so stable. I mean, it was two plus or minus for so long. And it didn't matter what terrible policies we were in. It didn't matter that we started giving money away. But we've crossed the Rubicon. We did it. And I don't know if that will... They won't suddenly get a new dose of caution and fiscal rectitude. Because when the trouble comes, it's always the same thing. We've got to do something. Desperate times call for desperate measures. and these crises keep getting worse.

1:07:53And so I think its base case is the next one will be worse than the last one. And that means a bigger response and that's going to be the catalyst. Well, Jeffrey, I appreciate you sharing your insights. I always enjoy our conversations and I hope our listeners did as well. Thank you. Thanks everybody for listening. Thanks for listening. We hope you enjoyed this episode. Please visit our website at insightfulinvestor.org to access past shows and learn more about our podcast. If you have questions, feel free to email us at info at insightfulinvestor.org. And if you enjoyed the discussion, please subscribe to this podcast to ensure you don't miss future episodes.

1:08:36And don't forget to forward today's conversation to others you think would enjoy listening. This podcast is provided for informational purposes only and should not be relied upon as legal, business, investment, or tax advice. All opinions expressed by podcast participants are solely their own opinions and do not necessarily reflect the opinions of Evoque Advisors, their affiliates, or companies featured. Due to industry regulations, participants on this podcast are instructed not to make specific trade recommendations, nor reference past or potential profits. and listeners are reminded that securities trading, commodity trading, and alternative investments are complex and carry a risk of substantial losses.

1:09:16As such, they are not suitable for all investors.

1:09:22Listeners should be aware that guests featured on The Insightful Investor may have current or past associations with Evoke advisors or the host, including as an investment manager of a private fund opportunity by Evoke or access through an affiliated Evoke fund or as a client. Participation as a guest on the podcast should not be perceived as an endorsement or testimonial with respect to Evoke Advisors, the podcast host, or their services. Similarly, the inclusion of a guest on the podcast does not imply that Evoke Advisors or the host endorses the guest or any company with which they may be affiliated or employed.

1:10:02Evoke has neither paid nor received compensation from guests for their participation.