King of bonds Jeff Gundlach says there’s a simple reason Treasury yields are so low even as inflation soars

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DoubleLine Capital’s bond guru Jeffrey Gundlach said it’s no mystery why U.S. Treasury yields are pegged lower despite evidence that inflation is rising in an economy trying to bounce back from a mind-numbing pandemic.

Talk to CNBC Half-time report On Thursday, Gundlach said the financial system remains inundated with liquidity – that is, willing buyers who appear eager to buy benchmark government debt, a factor that has been one of the main reasons of rising prices and yields as a result.

“The yields are so low because of all the liquidity in the system,” Gundlach told the business network.

The 10-year Treasury bill TMUBMUSD10Y,
1.303%
was down about 1.32% Thursday afternoon after hitting about 1.7% just two months ago.

In theory, yields should be higher as the Federal Reserve has signaled that it plans to end its asset purchase program, which includes some $ 80 billion in treasury bills per month. The Fed’s quantitative easing, or QE, helped prop up financial markets during the worst disruptions caused by the pandemic last year.

But the prospect of halting QE and surging inflation, which erodes a bond’s fixed value, should trigger Treasury bill sales and push yields higher and prices lower.

Gundlach, however, said purchases from pension funds, foreign buyers and other investors remain strong and provide substantial support for lower yields, even as the Dow Jones Industrial Average DJIA,
-0.23%,
the S&P 500 SPX index,
-0.75%
and the Nasdaq Composite COMP,
-1.30%
are trading near records.

Gundlach said that “banks are teeming with deposits” and this is creating dislocations in the areas of financial markets. Indeed, demand in the New York Federal Reserve’s overnight repo program (RRP) has started to flirt with record highs of around $ 1,000 billion.

The Fed’s reverse repo program allows qualifying institutions, such as banks and money market mutual funds, to park large sums of money overnight at the Fed, at a time when short term finance rate have fallen to next to nothing, and finding accommodation for money has become more difficult.

Repo transactions have absorbed some of the excess liquidity currently plaguing U.S. money market funds, which have been inundated with liquidity this year, market participants note.

Federal Reserve Chairman Jerome Powell told Senate lawmakers in a semi-annual report to Congress on Thursday that inflation came as a surprise to monetary policy makers.

“It’s a shock going through the system associated with reopening the economy, and it has pushed inflation well above 2%. And of course, we’re not comfortable with that, ”Powell said.

That said, Powell and other Fed officials called the price hike temporary, evidenced by the consumer price index rising 0.9% in June, the rate of inflation over of the 12 months ended in June rising from 5.4% to 5.4%, marking the fastest rise since 2008, when the CL.1 oil,
-1.34%
hit a record high of $ 150 per barrel.

Gundlach says pension funds aimed at investing cash provided by fiscal stimulus during the pandemic have increasingly turned to longer-term treasury purchases.

Yet despite the anomalies that are emerging in the market, the boss of DoubleLine said he was still a buyer of shares. “I think you can hold on,” he said, noting that he had reduced his cash levels and increased his holdings of stocks.

He said it made sense until the market got more clarity on future federal spending plans.

He said he didn’t think inflation was going to go away, but described a precarious situation for the US central bank that could remove its accommodative measures to curb inflation at the risk of seeing the still unstable labor market falter.

Gundlach said the Fed so far has already got one thing wrong: its definition of “transient.” He said policymakers initially described the term “transient” as one or two months, but that “now the term transitional is six to nine months.”

I think some Fed officials think this “inflation is going to stick around longer than they thought.”

“Jay Powell always wish, hope, pray that this [inflation thing] is fine, ”Gundlach said.

“The bond market seems to think the Fed is going to make a religion… about inflation,” he said.

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