BofA Says Equity Rally Faces Inflation Reckoning

(Bloomberg) — Next week’s US inflation data will mark a turning point for the equity rally at a time when investors are swapping stocks for bonds amid the specter of a recession, according to Bank of America Corp. strategists.

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Global equity funds had outflows of $7.4 billion in the week through Feb. 8, according to a note from the bank that cited EPFR Global data. Cash funds also saw redemptions at $10.1 billion, while $7.4 billion entered bonds.

Bank of America strategist Michael Hartnett said that while it was “so very tempting” to believe that last week’s blowout US jobs report for January indicated the economy could avoid a contraction, the consumer prices data on Tuesday will be “vital” for clues on when the Federal Reserve would start easing up on monetary policy.

In the meantime, Hartnett — who was broadly negative on stocks last year, while the S&P 500 sank into a bear market — reiterated his recommendation that investors sell the S&P 500 above 4,200 points — about 3% higher than current levels.

After posting their biggest annual decline since 2008 last year, US stocks have rallied in 2023 as investors bet the Fed could further slow the pace of rate hikes. Even so, the outlook for bonds is widely perceived to be relatively better amid the risk of an economic slowdown. Portfolios with 60% stocks and 40% bonds — one of the popular investment strategies — have gotten off to the best start to a year since 1987.

Bonds are “the best thing about stocks in 2023,” Hartnett wrote in the note.

The EPFR data showed a resumption of outflows from European equity funds, while US funds saw their first redemptions in three weeks. By style, US small cap and growth had inflows, while money exited value and large cap funds. Financials and technology led inflows among sectors, while healthcare and energy each had outflows exceeding $1 billion.