Most on Wall Street know (or should know) the myth of Icarus.
He was the son of Labyrinth-designer Daedalus, who fashioned him a pair of feathery wings held together by wax. Alas, Icarus ignored his father’s warnings and flew too close to the sun, melting his wings and plunging back to earth.
It is a narrative that Bank of America Merrill Lynch analysts led by Michael Hartnett, the firm’s chief investment strategist, want investors to heed.
Hartnett Co. in a research note dated Jan. 8, make the case that the so-called Trump rally—named so because of the boost stocks have enjoyed on the promise of the president-elect Donald Trump’s policies that appear to be pro-business, light on regulation and a boon for equities markets—could see more upside in the first half of 2017.
But they warn that after a minor speed bump this month and next, stocks and commodities could rise another 10%. After that, the market could be primed for a significant downturn, they said.
The Dow Jones Industrial Average
already has enjoyed an 8.5% rise since the U.S. presidential election, while the SP 500
and the Nasdaq Composite
indexes both have gained more than 6% during that period.
But all things must come back to earth.
“Our tactical view: after a Jan/Feb wobble, we believe stocks commodities will have one last 10% melt-up in H1. Call it the ‘Icarus trade.’ The current melt up, which started back in Feb 2016, will be followed by a meltdown later in ‘17,” they wrote.
How will investors know when it is time to bail before the fall? As MarketWatch’s Victor Reklaitis wrote in Need to Know on Friday, peak bullishness is the starkest clue:
• “unambiguous signs of bullish investor positioning”
• similarly enthusiastic profit expectations
The BAML strategists also point to more hawkishness from central bank across the globe. In other words, expect central banks from Europe to Japan to scale back on monetary stimulus and asset purchases aimed at boosting sluggish economies.
When central banks become upbeat about the economy, it is prime time to reconsider your investment posture.
The folks at B. of A. don’t see euphoria running “dangerously” high just yet, but expect such contrarian signs to take hold later in the year. The strategists believe that bond markets, which have experienced a spike in yields over the past several months, haven’t priced in a more “hawkish” central-bank stance.
The yield on the 10-year Treasury note
the U.S.’s benchmark fixed-income instrument, climbed from a low of 1.36% in July and reached a peak of 2.6% in the middle of December, but pulled back in recent weeks. Yields rise as bond prices fall.
Wall Street is already fearful that the Trump-inspired rise for equities could be fading ahead of Trump’s Jan. 20 inauguration. But it may be the second half of the year, that really burns investors, if they aren’t careful.
Read: Here’s why Trump’s inauguration could mark a near-term top for stocks