We’ve been saying since January that investors were showing signs of fading the reflation narrative (a.k.a. “the Trump trade”).
Our rationale was simple: charts…
Look! We’re geniuses! Someone give us a $100 billion to manage.
No, but seriously. It’s to a certain extent ridiculous that everyone on Wall Street is suddenly spending all this time making charts showing how different Trump trade “winners” (think financials, etc.) are being faded relative to benchmarks or to presumed Trump trade “losers”. Those are great visuals to have at your disposal, but all you had to do was look at 10s and the broad dollar in mid-January to see where this was going.
Well anyway, talk of “reflation frustration” has reached a fever pitch of late on the heels of the GOP’s failure to “repeal and replace” and everyone is weighing in, including Jeff Gundlach who, in an interview with FT, warns that “this reflation trade concept is predictably going away.”
Read below for more.
Jeffrey Gundlach, the influential bond investor, has warned that appetite for the so-called reflation trade will evaporate further in coming months as expectations for an acceleration in US economic growth and inflation are tempered.
The past month has already shown up cracks in the trade, which was powered by hopes that the White House would deliver a big domestic stimulus package just as growth improves in the world’s other main economic regions.
US government bonds have rallied, while shares of banks in both the US and Europe — among the biggest beneficiaries of hopes for an upturn in growth and interest rates — have fallen.
“This reflation trade concept is just as predictably going away, at least temporarily, as the reflation concept entered the psyches of investors last year,” Mr Gundlach, who oversees $105bn as chief executive of DoubleLine Capital, told the Financial Times. “We will see if the reflation trade comes back, but that is not the next trade in the chess game.”
Mr Gundlach also pointed to the likely easing in the next few months of headline inflation, which has been buoyed in recent months by comparisons with the first quarter of 2016 when crude was much lower. Economists expect figures released this week to show headline inflation in the US eased to 2.6 per cent in March from 2.7 per cent in February.
“We know it [the reflation trade] will dissipate because we know consumer price inflation will go down in the next few months,” he added. “We know that if oil stays where it is, all other variables being equal, we know the CPI will go back below 2 per cent by the end of this year.”
“Tips [Treasury inflation-protected securities] and break-evens are not going up any more and they’re probably going to come down a bit,” he said. Tips have returned 1.4 per cent this year, although they suffered a marginal decline in March, according to Bloomberg Barclays indices.
One of the few well-known investors to predict Mr Trump’s election victory, Mr Gundlach’s total return bond fund has lagged behind its benchmark by 6 basis points this year. Over the past three, five and 10 years it has outperformed the Bloomberg Barclays US aggregate index.
A more serious stumble for the reflation trade has the potential to hurt US equities, with the S&P 500 failing to touch a new high since the start of last month. Mr Gundlach told investors last week that US stock valuations are “undeniably high.”
The yield on the 10-year Treasury bond will not be back up to 3 per cent this year, a level he had previously said would spell the end of the bull market. DoubleLine’s founder told investors he believed it would head higher over a longer period and could reach 6 per cent in four or five years.
While he still preferred floating rate securities and asset backed securities shorter maturities, Mr Gundlach told the FT it was “hard to get bullish” on two-year Treasuries.