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Bond Guru and DoubleLine Capital Co-Founder Jeff Gundlach has been making headlines in Bloomberg and other places recently with his prediction that there is a "financial catastrophe coming." One of the things that we like best about Gundlach, is that he not only speaks his mind, but he also provides specific recommendations on how to profit from his predictions.

Here is an overview of what Gundlach sees coming, and 3 steps investors can take to prepare for, and profit from his predictions.

What is the financial catastrophe that Gundlach is referring to?

Gundlach says that we are currently in the second phase of a three stage process. The first phase was the explosion in debt levels that occurred starting in the early 80's, and lasting until the financial crisis in 2008. The second phase, which we are in currently, is characterized by the government and central bank intervention that we have seen since the financial crisis.

As Gundlach described in a recent video interview with Wealthmanagement.com's David Armstrong, central banks here in the US and other advanced economies have been going "all in" to try and contain the global financial crisis. Eventually, there will be nothing more to put on the table, meaning they will have fired all their bullets, and Gundlach says that we are getting close to that point. Once that happens, we get what Gundlach is referring to a "Kaboom" moment, where global markets collapse and/or we get massive inflation. This would be where the second phase ends, and the third phase begins.

While that all sounds pretty ominous for investors, Gundlach believes that there is a silver lining for those who position themselves correctly now. In fact, he thinks that when the third phase hits, the opportunity may be even greater than what we saw in March of 2009 when the US market bottomed out. Investors who got into the market at that point have more than doubled their money in just a few short years.

Here is Gundlach's advice on what investors should be doing:

1. Forget buy and hold and focus on principal protection.

Gundlach says that the market goes through cycles, and that buying and holding only works when we are going through a growth "super cycle" like we saw during the first phase outlined above. Currently, however, he says that we are in a transition period where the old rules no longer work.

In his view, the correct course of action currently is to focus on principal protection. He thinks that even if the markets continue to rally further, it's worth missing out on 5 or even 10% gains now. This way you will not be so damaged by the collapse he is predicting. More importantly, however, this means that you will also be well positioned to pile into specific types of investments that will have the most upside during the 3rd phase.

So what types of investments does he recommend for principal protection?

Cash and things that are close to cash like bonds with low duration (meaning little interest rate risk). One such option is Gundlach's DoubleLine Total Return Fund (DLTNX), which currently has a duration of around 2.

Sounding a bit like another bond legend PIMCO's Bill Gross, he also talks a lot about real assets. However, where Gross talks about gold, Gundlach talks about gemstones, art and commercial real estate. If you must be in US stocks right now, Gundlach says to stick with dividend paying stocks that are safe from recession. Examples he gives are consumer staples like Kraft (NASDAQ:KRFT).

2. After the financial catastrophe you want to own equities in the countries that are best positioned to recover from the global crisis.

Gundlach says this basically means buying stocks in emerging and developing economies. Developing economies not only have lower debt loads than advanced economies, but they have much better demographics as well. As Gundlach pointed out in a recent Bloomberg article:

"Beyond China, Gundlach says, the demographics in some emerging markets will support sustained growth. While developed nations will have fewer than three workers for every retiree by 2025, Brazil, India and Mexico will have almost six to seven workers, according to the U.S. Census Bureau".

While he did not come right out and say that he is planning on piling into Brazil, India, and Mexico, they are likely one of the first places he is going to look when the third phase begins.

Luckily for us, in addition to his popular DoubleLine Total Return Bond Fund, Gundlach's firm DoubleLine Capital also runs the DoubleLine Multi Asset Growth Fund (DMLIX). That fund has a "go anywhere" mandate and should be the first place that investors look to see where Gundlach is positioning when the third phase arrives. Examples of ETFs which give exposure to emerging market equities are BKF and ILF.

3. Here are the investments you want to stay away from.

Europe: Gundlach says that while there may be short-term high risk trading opportunities there, most investors will want to stay away from the Euro Zone for perhaps even the next decade. In order for the euro to survive, Gundlach says that Germany would have to be willing to disgorge all the gains that they got from the move to the euro. That they would basically have to be willing to transfer that wealth to the periphery. He says that if you know anything about European society and history, you know that's probably not going to happen.

Bank Stocks: If problems accelerate in Europe and elsewhere, there will be another blowup in the US banking sector.

Tech Stocks: Gundlach says that if there is one thing that history has taught us it's that tech stocks, even those that were at one time high quality dividend paying stocks, are not good investments over the long term. He says to see that all you have to do is take a look at companies like Research in Motion (RIMM), JDS Uniphase (NASDAQ:JDSU), and Wang Laboratories.

What's interesting is that Gundlach, who is best known for his track record as a bond manager, has been talking less and less about bonds. While I have not heard him come right out and say it, I think he feels that with interest rates so low, there are better opportunities elsewhere. While we agree that this may be the case for the active trader, for those investors who do not have the stomach or desire for higher risk strategies, we feel that bonds should continue to play a leading role.

For more from Gundlach see our recent article on one of his "highest conviction" ideas here.

Source: Jeff Gundlach: 3 Ways To Profit From The Coming Financial Catastrophe