DoubleLine Capital’s Jeffrey Gundlach is repositioning portfolios to hedge against a tail risk of the U.S. government unilaterally restructuring its nearly $31 trillion of debt, a move he warns could be triggered by a future recession. The strategy involves swapping higher-coupon Treasury bonds for the lowest-coupon alternatives of the same maturity to mitigate potential losses from a forced reduction in interest payments.
"What if they say, ‘You know what? Our interest expense is now $3 trillion. We had a recession. Rates have gone up. We’re now issuing 30-year bonds at 6%. We can’t afford it,’" Gundlach said in a Bloomberg Television interview. He described a scenario where the government could slash coupons on all outstanding debt to 1% as “the ultimate way of kicking the can down the road.”
The move comes as the 10-year Treasury yield holds above 4.3%, and public federal debt exceeds 100% of U.S. annual economic output. Gundlach’s trade involves selling, for example, a 4.75% coupon Treasury to buy a 1.5% coupon bond of the same maturity, a defensive shift he believes pays for itself by eliminating the risk of a larger coupon reduction. Credit default swaps show the market-implied probability of a U.S. default within five years remains below 1%.
While Gundlach admits the probability is low, he argues the consequences would be severe, potentially locking the U.S. out of borrowing markets for generations and causing bond prices to collapse. The "Bond King" is making a calculated bet to protect his funds from a low-probability, high-impact event, drawing parallels to his successful call on the 2007 housing bust.
White House Rejects Default Scenario
The White House forcefully pushed back against the notion. National Economic Council Director Kevin Hassett stated that a government default is an impossibility. "This administration would never do anything that even looks like a default on our debt," Hassett said, emphasizing a commitment to fiscal responsibility and a strong dollar. He argued that accelerating economic growth, similar to the 1990s, will help manage the nation's debt burden.
Despite the official denial, the debate highlights growing investor concern over the U.S. fiscal trajectory. Economists project annual budget deficits to remain near $2 trillion for years, continually increasing the Treasury's financing needs. Gundlach’s defensive posture, even against a remote possibility, reflects a broader market unease with the sustainability of U.S. debt levels.
This article is for informational purposes only and does not constitute investment advice.
