Gundlach’s Forecast for 2025
What the "bond king" predicts for the economy and markets this year
Investors routinely rely on paradigms, such as an inverted yield curve being a precursor to a recession. But, according to Jeffrey Gundlach, virtually all of them are unreliable because the macro environment of the past 45 years – secularly declining interest rates – no longer exists.
Gundlach is the founder and chief investment officer of Los Angeles-based DoubleLine Capital, a leading provider of fixed-income mutual funds and ETFs. He spoke to investors via a conference call on January 14. Slides from that presentation are available here. This webinar was his annual “just markets” forecast for the global markets and economies for 2025, and its title was, “Man Leaving a Bus: What Does it Mean?”
Before reviewing Gundlach’s forecast for this year, let’s see how accurate his predictions were a year ago. In his “just markets” webinar, he made five core predictions:
Rates will decrease starting in mid-2024. Economic conditions, particularly a potential recession, will force the Federal Reserve to reduce rates by mid-2024 or later. The slowdown in economic activity and inflationary pressures are expected to prompt a shift in monetary policy. [Incorrect. The benchmark 10-year Treasury yield was 3.95% at the start of 2024, and it was 4.58% at the end of the year. Rates peaked in November. There were three rate cuts in 2024.]
Gundlach forecasted higher market volatility in 2024, as the economy grapples with slower growth, inflationary concerns, and the Fed's policy moves. [Incorrect. The VIX averaged 15.5 in 2024, and it was 16.9 in 2023. GDP is expected to grow 2.7% in 2024, slightly faster than 2023, when it grew 2.6%. Inflation was 2.7% versus 3.4% in 2023.]
He was highly concerned about the risk of a recession in the U.S. in 2024. He emphasized that the lagging effects of the Fed’s rate hikes and tightening financial conditions will likely lead to a contraction in economic activity. [Incorrect. There was no recession in 2024.]
Due to the combination of lower growth, higher volatility, and a potential recession, Gundlach said that the stock market will face challenges in 2024. He believed that equities will likely struggle as economic conditions worsen and market uncertainty rises. [Incorrect. The S&P 500 returned 25.0% in 2024.]
Gundlach viewed bonds, especially U.S. Treasury bonds, as an attractive investment opportunity in 2024, particularly as interest rates were expected to decline. [Incorrect. The 10 largest bond funds averaged a return of 1.39% in 2024. The iShares 7-10 year ETF (IEF) returned -0.61% in 2024.]
All five of Gundlach’s predictions were incorrect. That may explain why, in this webinar, he provided an in-depth analysis of the economy and markets but made few specific predictions.
Man leaving a bus
As a collector of contemporary art, Gundlach frequently references works in his webinars. Man Leaving a Bus is a sculpture by the artist George Segal, done in 1967:
Gundlach owns the piece, but said he was never asked what it means until very recently. Its meaning, he said, relates to the depiction of the person as aloof, introspective and disconnected. The passenger is leaving a group environment in the bus into the loneliness and isolation of everyday life in society.
“We are leaving the bus,” he said. “What we thought we knew was informed by a secular environment that has changed, such as declining interest rates. The traditional metrics don’t work.”
Recession and economic indicators
Gundlach discussed several metrics with historically ominous implications, but he did not predict a recession for 2025.
The Fed has been cutting short-term rates, but long-term rates are going up. That has caused the tightest spreads ever on corporate bonds, he said, which could be due to fear of the federal budget deficit. It has the result of making corporate bonds appear safe, but that may be an illusion.
Those born in the 1940s benefitted from fortuitous timing, he said, as the American economy was growing quickly following the end of World War II. That group includes Nancy Pelosi, Warren Buffett, and Mitch McConnell, but they are all disappearing from public life.
Now, he said, “The impossible debt trajectory can’t be sustained, and more people are aware of this.”
Historically, once the spread between two- and 10-year Treasury bonds de-inverts a recession happens, but that has not been the case. The leading economic indicators (LEIs) are not working either as a forecast for a recession, which he said was because of the growth of the service-based economy starting in 2020. The LEIs have been negative for three years, which always meant the economy was deeply in a recession, but not now.
The PMIs are also signaling a recession, but Gundlach discounted their reliability in that respect.
Housing affordability is terrible, he said, especially since mortgage rates rose approximately 100 basis points in the last four months.
Credit-card write offs have risen dramatically, he said, and are ahead of where they were pre-pandemic. Gundlach said this was “something to look out for.”
The Trump factor
In another example of a paradigm shift, Gundlach noted several dynamics related to Donald Trump’s ascendancy.
Since early October it was obvious that Trump would win, according to Gundlach. The NFIB small business optimism index was at historical lows under Biden, but staring in early October it went from 87 to 105. The same pattern occurred in 2016, he said, prior to Trump’s first presidential victory.
Median wages started to increase under Trump’s first term, he said, but stopped under Biden. Gundlach said that, under Trump, all age-based cohorts of wage earners gained.
In October, the consensus forecast for GDP growth in Europe went from 1.4% to 1.0%. But forecasts for the U.S. went from 1.7% to 2.1%. He said this was surprising given the strength of the dollar.
Expectations of higher stock prices were rising before October but went to an all-time record once Trump’s victory became likely. “I do not view this as bullish,” he said.
Monetary policy
Before 2016, central banks were divergent in their rate cuts. But since then, Gundlach said they have been synchronized, and since the pandemic they have been in unison.
The Fed was far behind in its rate cuts. Before the first Fed cut, analysts were predicting 250 basis points of cuts in 2025; now, they expect a little less than 100. That is a reason the stock market is not happy, he said.
Rate cuts are not affecting the markets as they have in the past. He said the 10-year yield has never gone up with a rate cut, but it has risen 117 basis points since the day before the first cut last year. He said the slide below was the most significant in the webinar. It shows the divergent performance in 2024 of 10-year bond prices following the initial cut.
“When the Fed starts cutting rates,” he said, “you may not see a rally.”
The 10-year has explained the movement in the dollar, Gundlach said. Rates have risen more slowly outside the U.S., causing a flow of non-U.S. assets into Treasury bonds.
Chinese 10-year yields are now well below the U.S. 10-year yield, which he said, “suggests there are problems in China.” Japanese yields are also greater than those in China.
The copper-gold ratio does not work anymore, according to Gundlach. It says the 10-year should be yielding 1.5%.
Gold is not being bought for the reasons it was in the past, he said, as there has been more buying by central banks. “Gold is being treated as a safe-haven asset,” he said.
Crude oil is in sync with the 10-year, he said, suggesting oil may go above $85/barrel, “which would be a problem for the Fed.”
Inflation
The core PCE deflator was in a “good spot” in May 2024, Gundlach said, but reversed a bit since then, but it is not alarming. The core PCE is at 2.4% and not falling. The CPI is higher than Fed’s target, with core at 3.3% and “stalled out,” he said. Producer prices were good, but now core and headline are at 3.3%.
“This is too high for the Fed that chants the mantra that it is targeting 2%,” he said, which means there could be fewer cuts in 2025.
Core CPI excluding shelter is at 2%, however. Fed Chair Powell said a couple of years ago that this metric would become more important for the Fed, but he has not emphasized it recently.
The Fed’s uncertainty is driven by month-to-month changes in the CPI, according to Gundlach. The Fed was happy in early 2024, when headline inflation was declining for three or four months. But that has risen over the last five months.
“The Fed has become overly short-term dependent,” he said.
Unemployment and deficits
The two- to 10-year slope of the yield curve tracks the unemployment rate, according to Gundlach. As the curve inverts, unemployment goes down. But that data is distorted by the composition of labor force.
The crossover between the unemployment rate and its 36-month moving average is a recession signal, but it has not been triggered yet.
Unemployment looked like it was forecasting a recession four months ago, he said, and now has “the look of a recession.”
Powell has said the labor market is in balance between supply and demand. Gundlach said that Powell should be happy with the 4.1% unemployment rate, but not with the budget deficit as a percentage of GDP.
“We are at recessionary levels of a deficit,” Gundlach said, “but not in a recession.” He added that the deficit does not reflect any spending on California fire relief.
“We should have a deficit of 0% of GDP rather than 7% based on levels since 1960,” Gundlach said. “That’s pretty bad.” Deficits will go up, especially if there is a recession. At a 5% rate on long end, with a 10% of GDP deficit, the federal deficit will be $4 trillion, and the interest expense will be “pretty horrifying,” and “Trump is talking about cutting taxes.”
The stock market
The S&P 500 is at one of its most overvalued levels, he said. Stocks were cheap relative to bonds in 2022, when yields were close to 1%, but now yields are 5%.
The stock market “is in a world of its own,” Gundlach said.
The capitalization-weighted index has outperformed the equal-weighted index by 40% since 2023, and the same pattern has been true for growth versus value. For the last 20 years, the U.S. outperformed non-U.S. markets. The outperformance has been even more extreme in emerging markets, which have underperformed the U.S. by 100% since 2015.
This performance is “ridiculously off the charts,” he said, but we need the dollar to “top out” before valuations converge to historical norms.
Since the global financial crisis, the dollar has strengthened. But the dollar index looks like it has not topped out yet, he said.
Spread tightening is consistent with a strong dollar. This has happened across all credit levels, but especially among riskier bonds.
He said it is not hard to get 6% in non-risky bonds, specifically in mortgage-backed securities. Agency mortgages have little prepayment risk. The mortgages in those bonds were taken at 4%, but mortgage rates are now at 7%, 300 basis points out of the money.
Gundlach said that money market assets have risen over the last decade, and that pattern has accelerated over the last two years. That will be bullish for bonds, he said, because that money will go into bond funds yielding 6% or more.
“Nobody is going from a money market to stocks that are much riskier,” he said.
Robert Huebscher was the founder of Advisor Perspectives and its CEO until the company was acquired by VettaFi in 2022. He was a vice chairman of VettaFi/TMX until April 2024.