Bond king Jeffrey Gundlach, the founder of DoubleLine Capital, which oversees $121 billion in assets, warned that the corporate bond market has a "real potential for negative surprises."

"The corporate bond market has all kinds of problems. I think investors should use the strength of junk bonds that's happened as a gift and get out of them," Gundlach said on his "Just Markets" webcast on Tuesday.

Investment grade is often viewed as a sleepy part of the market, with many investors thinking of it as a stable place to tuck away money. Gundlach made a case for why that's not true in this environment.

Over the last ten years, with low borrowing costs, companies borrowed more. As a result, the investment grade market has exploded in size.

Corporate credit, as a percentage of GDP, has never been higher, Gundlach pointed out. He added that the scale is not all that huge, but it's still at "a really high level."

"So, the leverage in the corporate economy is very bad," Gundlach said, "There's been a lot of buybacks — borrow money at low rates, buy back stocks — which of course, it's just turning the equity market into a CDO residual, an equity piece, that's getting thinner and thinner, riskier and riskier.“

In the fixed-income markets, debt securities are sometimes bundled into collateralized debt obligations, or CDOs. In a process called tranching, the CDO is then sliced up into pieces with various levels of credit risk and those pieces are in turn sold to debt investors. The riskiest piece is referred to the Z tranche or residual tranche.

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“So, the balance sheets of corporations are balanced on ever-dwindling equities as they buy back shares and increase their leverage ratios. And that's not good."

Pick strong balance sheets over strong earnings

While a lot of investors tend to focus on earnings, they need to be focusing on balance sheets.

"I think investors need to go to strong balance sheets," he said, adding, "Strong balance sheets are going to be the way to survive during the zigzag of 2019."

Gundlach noted that there's also a lot of maturities coming in corporate bonds. In other words, the principal amount of the bond comes due.

In 2018, only $51 billion in investment-grade debt and just $4 billion in high yield matured, one of Gundlach's slides showed.

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"Corporate bonds did lousy even though there was really hardly any maturity supply to roll off. Sure, companies could borrow more money, but that was pretty easy to do with a market that wasn't being waterlogged with a lot of rollover maturities."

In 2019, the amount of investment grade debt maturing number leaps to $619 billion and continues in a range of upwards of $555 billion to $714 billion for the next five years. That works out to be 62% of investment grade debt maturing within five years, according to Gundlach. Elsewhere, 45% of the high yield debt market will mature by 2023.

Credit rating downgrades are on the rise

It's worth noting that the BBB part of the market, which is the lower rated investment grade debt, has grown significantly. In the fourth quarter of 2018, the pace of downgrades from the A territory into BBB is the largest since late 2015 when energy prices collapsed.

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