The junk-bond bonanza that’s doubled the market to almost $2 trillion since the credit crisis has Jeffrey Gundlach heading toward the exit.
Less than 12 months after saying the Federal Reserve’s stimulus and a plunge in defaults would support the market for speculative-grade debt for another four years, the head of DoubleLine Capital LP is trimming its allocations. With borrowing costs for the least-creditworthy companies approaching a record low, junk bonds no longer provide enough of a buffer from rising Treasury yields as the Fed scales back its bond buying, said Gundlach, whose firm oversees $49 billion.
“They’ve squeezed all the toothpaste out of the tube,” the bond manager said in a telephone interview from Los Angeles. “There is interest-rate risk that’s just being masked by fund flows holding up the prices of junk bonds.”
Without that money moving in, he said, “if they start to suffer losses, you really wonder who’s going to buy them.”
Junk bonds, which have returned 148% since the end of 2008, are showing signs of froth as five years of easy-money policies by central banks caused investors to pour unprecedented amounts of money into the high-yield market. That’s helped push the amount of junk bonds worldwide to $1.97 trillion from less than $1 trillion in March 2009, Bank of America Merrill Lynch index data show.
DoubleLine cut its allocation to speculative-grade debt in its $1.8 billion Core Fixed Income Fund to 3% at the end of last month, compared with the firm’s expected average of 10%, said Gundlach, who last April predicted “junk bonds will do OK” for the next four years. The fund has outperformed 90% of its peers in the past three years, a period during which yields on junk bonds globally reached a record-low 5.94% last year, according to data compiled by Bloomberg.
Improvements in the job market and economy spurred the Federal Open Market Committee to trim monthly bond purchases by $10 billion in each of its past two meetings. The central bank in January reduced its bond buying to $65 billion.
Investors have deposited more than $27 billion into U.S. funds that buy junk bonds since 2009, according to TrimTabs Investment Research. Even after the inflows slowed last year to the weakest pace during that period, they’ve bounced back this year. After pulling $1.2 billion out in December and January, investors have since funneled $1.4 billion back into the funds, the data show.
“The market’s very rich, valuations are lackluster and there’s very little margin for error,” said Edinburgh-based Steve Logan, the head of high-yield at Scottish Widows Investment Partnership, which manages about $242 billion. “We’ve lightened up, taken profits. Yields and cash prices on the asset class haven’t anywhere much to go now.”
The global market for speculative-grade debt, rated below Baa3 by Moody’s Investors Service and BBB- at Standard & Poor’s, is poised to surpass $2 trillion in a matter of weeks, according to the Bank of America Merrill Lynch Global High Yield Index. That gauge, started Dec. 31, 1997, took 12 years to reach $1 trillion.