BofA: We Are "Irrationally" Bullish On 2019, But A Liquidity Crisis Is Coming In 2020

When it comes to the equity market, between the Trump and Powell puts, there appears to be nothing in this world - literally - that can put a dent in stock price. In what Bank of America's CIO Michael Hartnett calls a "Miracle on Wall Street" in his latest Flow Show weekly, he lists a barrage of negative catalysts including: i) yield curve inversion, ii) US-China trade war, iii) recession in Germany, iv) collapse in Chinese industrial production, v) contraction in global profits, vi) oil price spike, vii) BREXIT, viii) Trump impeachment inquiry, ix) Argentine default/Ford downgrade, x) Thomas Cook bankruptcy...and yet risk assets close to all-time highs and US stocks on course for 30% annualized returns, global stocks 24%, commodities 17%, global IG & HY bonds 14%, US Treasuries 10%... or as he concludes laconically, this is "breathtaking stuff."

Betting on a continuation of this "breathtaking" exuberance, Hartnett writes that he remains 2019 irrationally bullish as a result of bearish investor sentiment + desperate central banks/policy-makers + bond 'bubble', culminating in an "overshoot" in credit & equity prices this autumn; even so, Hartnett expects rising bond yields to trigger more frequent episodic violent rotations from deflation assets (e.g. bonds, growth stocks, defensives) to inflation assets (e.g. commodities, value stocks, cyclicals).

However, the party ends next year (as the presidential election looms) and BofA remains 2020 rationally bearish, when the bank's chief market strategist expects the bond bubble to pop and induce "big top" in credit (spreads trough) & equities (multiples peak), causing a Wall St deleveraging & Main Street recession. Of course, a broad economic recession just months before the presidential election would also have a dramatic impact on the election of the next US president, and may usher in MMT (i.e. helicopter money) far sooner than most had anticipated.

For now, the market isn't buying BofA's thesis, and instead it remains dominated by risk-off weekly flows: $9.2bn into bonds, $2.8bn into gold, $22.0bn out of equities; resulting in risk-off YTD flows…$358bn into bonds, $15bn into gold, $201bn out of stocks (for those asking why stocks remain just 2% below all time highs, we have a one-word answer: stock buybacks).

Here Hartnett makes the following notable flow observations:

Inflows to government bonds ($1.8bn inflows after $10bn outflows past 2 weeks) & 2nd biggest gold inflows ever ($2.8bn); inflows continue across credit markets (IG $5.0bn, HY $0.2bn, EM debt $0.8bn); big redemptions from equities ($22.0bn - reversal of $34bn inflows past 2 weeks); biggest redemptions from tech ($0.3bn) in 6 weeks & US growth funds ($6.1bn) in 3 months.

In response to this wholesale risk-off capitulation by traditional investors, central banks have once again gone "all-in", with 43 global rate cuts YTD, 751 rate cuts since Lehman. More importantly, the new ECB QE program, together with the upcoming Fed QE4 to "normalize the money markets", means a new all-time high of $16.6tn central bank balance sheets high by Apr' 20...

... while the stock of negative-yielding bonds will soon resume rising and surpass its prior record of $17 trillion, all of which BofA finds to be maximum bullish for Wall Street... at least until the moment if impotence arrives, at which point it's more or less game over.

Meanwhile, as we near the point of "maximum liquidity", we also hurtle toward the point of "minimum growth", with Hartnett reminding us that the BofA Global EPS Model forecasts -6.8% EPS growth next 12-months vs. consensus -2.8%, with the inflection point higher in global profits the "missing "ingredient to more sustained multi-quarter rotation from deflation to inflation assets.

In short, we are back to square one, as the playbook from the early 2010s - minimum growth & maximum liquidity - is applied all over again:

  1. own "yield" plays

  2. own "growth" plays (high beta when PMIs>50, low beta when PMIs
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