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Why Gundlach Prefers Mortgages versus the High-Yield Market?

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Jeffrey Gundlach sees limited upside in the US stock market

In his March 8 webcast, Gundlach surprised the Markets when he stated that “risk markets have a poor risk-reward setup. Using the stock market as a proxy, the S&P 500 (SPY) (SPXS) could have 2% upside and up to 20% downside for a 10:1 risk-reward ratio.” He sees a huge divergence between high-yield bonds (HYG) (JNK) and the S&P 500. This is a bad sign for risk assets. He thinks that the S&P 500 profit margins have peaked. They could fall more.

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Gundlach’s love for mortgages

On May 2, Gundlach announced that his mutual funds attracted $1.4 billion worth of funds in April 2016. His firm’s largest fund, the Total Return Bond Fund, received about $98 million net inflow in April. The fund has a net asset value of about $58.8 billion. It’s primarily invested in mortgage-backed securities. Currently, Gundlach is advising investors to invest in mortgage-backed securities as a good alternative to get returns beyond the stock market.

What makes mortgages score over the high-yield market?

Gundlach prefers mortgages versus the high-yield bond market. He identifies inherent risks when investing in the high-yield market. He said the asset class is challenged with things like:

  • amount of leverage in the system
  • global slowdown
  • lower oil prices to some extent

In contrast, the mortgage (REM) market doesn’t have those risks. While lower gasoline could result in more high-yield issuers going bankrupt, on the mortgage side, it would only help people pay their mortgages on time if not sooner.

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