Billionaire bond king Jeffrey Gundlach says that negative interest rates will cause long-term problems for the banking system.
Earlier this year, negative-yielding debt worldwide peaked at nearly $18 trillion, but has since retreated to around $11.5 trillion. With major central banks flooding markets with cheap liquidity to help sustain growth, investors are effectively paying governments to hold safe-haven debt — a dynamic that economists warn isn’t sustainable.
"It's one of these things that [policymakers] view as a short-term solution, knowing that over the long-term it's devastatingly bad," the CEO of $150 billion DoubleLine Capital said in a recent wide-ranging interview with Yahoo Finance.
That hasn’t stopped President Donald Trump from demanding negative rates in America, something Federal Reserve Chairman Jerome Powell has ruled out for now. The European Central Bank’s push for sub-zero rates has created headaches for the continent’s banks, and fears over future implications.
According to Gundlach, the negative interest rate problem can be likened to the U.S. national debt predicament, in that it has grown massively but "still hasn't appeared to be a problem.”
The billionaire investor told Yahoo Finance that “what they're doing is they're trying to stimulate their economy through negative interest rates. And the banks and the insurance companies are really suffering underneath this policy.”
The morass of negative rates means that European banks and insurers have “massively underperformed for obvious reasons. If interest rates are negative, how can an insurance company that has annuities that pay a positive rate — how can they possibly achieve that return?" Gundlach asked.
The investor believes negative rates will be "pretty fatal" in the long-run, using Deutsche Bank as an example. Gundlach pointed out that the bank’s stock has underperformed amid an inability to profit from lending.
"When Germany was at negative-70 basis points, Deutsche Bank stock was down about $6 or something. Whenever you get a big rise in interest rates in Europe, you get a relief rally in Deutsche Bank stock,” he explained. “So basically, negative interest rates are fatal over the long term to the banking system."
That said, "nobody really owns these negative-yielding bonds" and it's a "weird circular financing scheme,” Gundlach said.
"That's one of the strange things about it. Ninety-seven percent of all the negative-yielding debt in the world is owned by central banks and the financial institutions that they regulate, that are then required, like banks, to own these sovereign bonds and the like. So nobody really owns them," he added.
Gundlach also noted that the Fed is not planning to fight the next economic downturn in the U.S. with negative interest rates, which is why he gives Jay Powell a “C-” — but not a “D” or “D-” — for his performance.
"[I] strongly and loudly applaud his statement that he doesn't think we should take interest rates negative in the United States. Because if the United States went negative with Japan negative and with Europe negative, I think it would be fatal to the global banking system. Because there'd be nowhere for capital to go."