Jeffrey Gundlach, founder of DoubleLine Capital and former CIO of Trust Company of the West, gave the keynote address at the Morningstar Investor Conference on June 23. He sat down with Wealth Manager Editor-in-Chief Kate McBride in Chicago that day to talk about his outlook.
When we spoke earlier, you mentioned the giant bond funds that are using derivatives instead of holding the underlying bond securities.
The mega funds use synthetic strategies–anyone with more than $200 billion. They can't really buy real bonds anymore–there aren't enough in the marketplace, and [the issue is] counterparty risk. The investor gets no payoff for the counterparty risk–so why take the risk for no payoff? Firms get the scale, and monstrous fee income and investors take the risk.
Nobody has been able to explain this to me in a way that makes me comfortable. In bonds there's a $600 trillion shadow market in a world that only has one-tenth of that in actual [underlying bond] assets. The total value of the bond mutual fund market is bigger than the total bond market; it's leveraged 10 to 1. The [counterparty] risk that showed up in September '08–Lehman–investors should get some payoff for that.
In September '08 if you had marked counterparty risk to market–what it would actually trade at–there would have been a run on the industry. No one will talk about it.
So was it that mark-to-market wasn't done?