BofA Strategists See More Pain in Store Before Stocks Reach Low

(Bloomberg) — Stock markets and the US economy will have to experience more pain before the Federal Reserve pivots away from its aggressive policy tightening, according to Bank of America Corp. strategists.

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Thursday’s rally in US stocks after a hot inflation print resembled a “bear hug” amid oversold conditions, high cash levels and the lack of a credit event, strategists led by Michael Harnett wrote in a note. The development was the latest in a volatile year marked by fears of a recession with the Fed unbending in its resolve to bring prices under control.

It was a “decent counter-rally,” but lows won’t be reached until 2023, the strategists wrote. More economic and market pain will be necessary before the Fed backs down, they said.

Separately, Barclays Plc strategist Emmanuel Cau said Friday that defensive positioning and “uber bearish sentiment” can help stocks to bounce from oversold levels, but that “growth and policy fundamentals continue to argue against a sustained rally.”

According to the BofA strategists, the best contrarian trades once stocks hit their lows next year will be shorting the US dollar and going long a portfolio with 60% of its holdings in equities and 40% in bonds. The bank’s custom bull-and-bear indicator remains at the “maximum bearish” level, often regarded as a contrarian buy signal.

Global equity funds saw about $300 million of inflows in the week through Oct. 12, the bank said in the note, citing EPFR Global data which was compiled prior to Thursday’s US inflation report. Cash had inflows of $100 million, while $9.8 billion was pulled from bonds and gold saw redemptions of $300 million.

In the US, equity funds had $5.2 billion of inflows in the most recent week, while those in Europe posted outflows for a 35th straight week, BofA said.

By trading style, investors poured cash into US large caps, value and growth. Among sectors, tech had the largest inflows at $1 billion while consumer stocks had the largest redemptions at $800 million.