Bonds are the new stocks, 'melt-up' possible, BofA-Merrill says
Global equities might be headed for a 'melt-up' should historical trading patterns for the different asset classes hold up, strategists at Bank of America-Merrill Lynch said.
According to Michael Hartnett and his team, on past occasions when the US Federal Reserve has only hiked interest rates once and then stopped large cap stocks had on average clocked in with gains of 10.4% over the following nine months.
In parallel, over that same time span government bonds had returned 16.2%, the US dollar index had tacked on 3.9% and copper had surrendered 13.0%.
Given that backdrop, the following week's Fed symposium at Jackson Hole did hold the potential to move markets.
However, a word of caution was also in order, they argued.
"Should a dovish Fed in coming weeks coincide with rising risk assets & a sell-off in long-end, this would be first market “tell” that Fed making “inflationary” policy mistake, setting stage for correction in markets later in the year."
In their weekly update they also said investors were now "significantly" less 'bearish' but not yet 'euphoric', implying that there might still be some gas left in the tank for global equities, although their contrarian trading rule suggested emerging market stocks was an area of the market to watch for a possible sell signal over the coming two to three weeks.
Taper Tantrum II risk this August?
Perhaps most poignantly, Hartnett held that bonds were the 'new stocks' as investors grasped for the yield and beta on offer from fixed income.
Hence, the weekly flow data revealed another strong performance for investment grade, high-yield and emerging market debt, they pointed out.
"There is no point shorting stocks when these 3 assets classes are so well bid; important to note 6 consecutive weeks of US Treasury outflows (Taper Tantrum II remains prime autumn risk for asset markets)."
Equities recorded another strong week, registering $5.1bn of inflows - for a total $11.6bn over the past two weeks, the largest inflow year-to-date. Bond inflows were even stronger at $8.6bn, while outflows from money market funds came in at $34.5bn, the most since March 2016, possibly due to the new regulations which were due to come into effect soon.