Occasionally the so-called “water-walkers” of the investment world deign to share their exalted views of the current state of affairs with us common folk. Their interviews are received with the kind of respect reserved for kings, but their musings generally do not tend to be something new. There are too many pundits in this space trying to achieve similar status by trying to predict the next whatever, such that most any new creative idea has, perhaps, already been espoused in some quarter. When our exalted experts speak, however, it may not be new news, but their voices do lend credence to the very predictions that they believe are plausible and should form the prevailing narrative.
Two such esteemed individuals are Jeffrey Gundlach and Ray Dalio. Both men founded their own hedge funds, are billionaires, and also pursue philanthropic pursuits when they are not spending time with their investments. Mr. Gundlach founded Doubleline Capital, and Mr. Dalio, Bridgewater Associates. Both men have recently appeared in the press, quoted in a number of financial articles, and, as the saying goes, when these men speak, everyone tends to listen. Are these types always spot-on with their predictions? Not necessarily so, but then you would not want to bet against them either.
For paid subscribers, you may hear Gundlach’s opinions on his frequent webcasts, which usually, according to many, repeat similar charts and pontifications of what might transpire in the near term due to fiscal policy, Emerging Markets and U.S. stocks, the Dollar, and Treasurys. Mr. Dalio, on the other had, was recently interviewed by Bloomberg on network television, where he “effectively spelled out what doomsday looks like for the U.S. about two years from now, when, in his view, the economic recovery is likely to sputter out.” As I said – people are listening, and it would be wise to take note of what they are saying. I will also share an interesting longer-term view that was posited by a potential expert-in-waiting in an article entitled, “The Dark Decade Ahead”. These thoughts may give you pause for our near, middle, and long-term prospects ahead.
What awe-inspiring messages did Mr. Jeff Gundlach deliver on his webcast?
The primary complaint shared by Mr. Gundlach and echoed since the beginning of the year by nearly every economist known to man is that it was ill-advised to pass a tax cut stimulus bill so late in the economic cycle. His own words: “It’s pretty much unprecedented that we’re seeing this level debt expansion so late in an economic cycle. The strangest thing is that Congress passed a $280 billion tax cut and spending increases so late in the cycle, and with interest rates rising. It’s like a death wish. The U.S. is taking on hundreds of billions of dollars of debt while raising rates, seems like a suicide mission, which means our debt-service payments are going to be under serious pressure to the upside.” Jeff adds his loud voice to the cacophony of others.
In his recent webcast, he also spoke to the growing divergence between U.S. stocks and those of Emerging Markets (EM). This divergence began back in April, exploded with the Turkey and Argentina crises, and threatens to spread, a form of contagion, to other markets, as capital flight gains momentum. Yes, a few emerging country central banks have raised interest rates to support their floating currencies in the forex market, but there is only so much that can be done using that monetary tool. We have also written about this plight several times, but, once again, Mr. Gundlach adds his loud voice by saying the present situation, as depicted in the chart below, is “unsustainable”.
What could ease the current tension? Gundlach argues that the USD must weaken, which it has slightly done over the past week, providing a brief reprieve for the EM sector. Speculators, however, are presently loading up long on the Dollar, as prospective interest rate hikes loom large, along with tariff ramifications – See below:
The green “splotch” at the right spurred the latest round of capital flight, but it has leveled off, if only momentarily. Per Jeff: “I don’t think we’ll have new highs in the dollar without first seeing new moves to the downside. We’ll probably end with the dollar lower at year-end than it is right now. It seems that the U.S. president wants a weaker dollar. Speculative positioning is way long the dollar and now they’re wrong.” Others proffer that he could be wrong, stating that, “Monetary policy divergence between the Fed and the rest of the world is USD-positive, and again, trade frictions have been a boon to the greenback for months on end.”
Lastly, Gundlach makes one last argument that is not as well received as his other ones. He purports that there is a “massive” short positioning in long-term Treasurys. For want of one small catalyst, the short squeeze in this arena could be “massive”, as well, driving 10-Year yields down to 2.25, thereby inverting the yield curve, and igniting a recession watch for the next 12 to 18 months. If you believe that “speculative positioning is a contrarian indicator”, then you might side with Jeff. Others call his guess “far-fetched”.
Alternatively, Mr. Ray Dalio wishes to spell out America’s worst nightmare
While Mr. Gundlatch may be doing the world a service by highlighting the stimulus and deficit issue, along with other near-term concerns, Ray Dalio is extremely critical about where all of these situations could lead one to two years down the road. His thesis begins with decrying, as did Jeff, the use of fiscal stimulus so late in this economic cycle, when interest rates have nowhere to go but up. One of Jeff’s charts is appropriate now:
In a televised interview with Bloomberg, he “effectively spelled out what doomsday looks like for the U.S. about two years from now, when, in his view, the economic recovery is likely to sputter out. It won’t just be a debt problem this time around, but rather a story about unfunded pension and health-care obligations. To address that looming crisis, the U.S. will need to ramp up issuance of U.S. Treasuries.”
How high can the U.S. deficit go before there are consequences? Everyone, including the rating agencies, want to believe that our “reserve currency status” will remain intact, regardless of the financial trajectory that looms large today. When it comes time to sell 10-Year Treasurys, will foreign buyers step up to the table, as they have in the past? Dalio argues that, “The Federal Reserve at that point will have to print more money to make up for the deficit, have to monetize more and that’ll cause a depreciation in the value of the dollar. You easily could have a 30 percent depreciation in the dollar through that period of time.” The world’s faith in our stability could be severely tested. Ouch!
Many insiders in the industry claim that Dalio’s voice is actually louder than Gundlach could ever be, but the same group, while it accepts that Dalio’s warning cry is worthy of debate, contends that the Dollar has been through harsher times and survived. The interviewer for Bloomberg summed up the discussion as follows: “Figuring out an endgame to this period of rampant government borrowing and unconventional monetary policy is a challenge, and Dalio deserves credit for at least trying to picture it. But for just about everyone’s sake, we should hope that he’s wrong.”
What does Eric Parnell have to say that is so interesting about the next decade?
Compared to Gundlach and Dalio, Eric Parnell might regard himself as a lowly portfolio strategist and CFA, but his recent long-term outlook, one that actually spans the decade to come, reveals a startlingly dark reality that might make you stand up and take notice. In his view, the process he describes has already begun. In other words, we are one year in with nine more to go to conclude his “Dark Decade”, with no turning back either.
His rather complex diagram is compelling:
In order to understand this presentation, we must start with the famous Shiller PE or CAPE Ratio. Today’s value is 33.25. To put that figure in context, here are a few reference points:
- 1929 Crash – Black Tuesday: CAPE value = 30.0;
- 2000 Dot-Com Crash: CAPE value = 44.5;
- 2009 Financial Crisis – The Great Recession: CAPE value = 27.5.
In other words, we currently rest at the second highest region in the history of this indicator. Much has been written about why this indicator has not signaled Armageddon, if you will, but explanations that these times are different due to central bank machinations, corporate buy-backs, and an excess of cheap liquidity are beginning to grow thin. Perhaps, the Shiller chart will be more convincing – See below:
Back to Parnell’s first diagram — The Red line and arrow point to where we are, 33.25 on the bottom axis, which translates to a negative 3.5% on the left axis, the projected return of the S&P Index for the next ten years. The Gray boundary lines also suggest a range of possibilities between a minus 7 and a positive 3 percent, but does that make you feel better? The last time we were at “30” was 2001. We barely broke even over the decade to come – See “The Long And Winding Road to Nowhere” below:
According to Mr. Parnell: “The U.S. stock market is overvalued. Sure, I know the S&P 500 Index is trading at a perfectly reasonable 16.3 times earnings based on 2019 Q4 non-GAAP estimates that may never come to pass. So what? Stocks are expensive. Got it. Heard it before. Why should I care? Because stocks have a long history of not performing well over the subsequent decade when valued as high as they are today.”
When billionaire investors speak, we tend to listen, especially when those opinions come from the likes of Jeffrey Gundlach and Ray Dalio. Yes, their opinions are not new news, but their loud voices lend credence to the prevailing concerns of others. Will these two gentlemen get around to supporting the hypothesis of Eric Parnell? Time will tell.
As for Mr. Parnell’s prognostications, to be forewarned is to be forearmed. His parting words are also worthy of consideration: “Enjoy the journey. The decade ahead may not be easy for U.S. stocks, but it does not mean that it has to be painful for investors. Enjoy the bull market in stocks while it lasts, but also use the time remaining wisely today to prepare yourself for what may eventually lie ahead.”