For the first time since February 2020, Covid-19 is no longer the biggest fear among portfolio managers investigated by Bank of America, the bank said on Tuesday.
The findings highlight how drastically the situation has changed over the past year. Confidence is growing due to the deployment of vaccines, the easing of health safety restrictions and unprecedented support from the federal government.
“Investor sentiment [is] unequivocally clumsy, ‘Bank of America strategists wrote in Tuesday’s report.
US stocks recovered quickly from the pandemic. The Dow fell to 18,592 on March 23rd. The index has since risen by 77%. The Nasdaq has doubled over that team.
The hottest economy in decades
Economists are also very optimistic, especially since Uncle Sam supports the economy much more than many people probably thought just a few months ago. Last week, Congress approved President Joe Biden’s $ 1.9 billion US bailout package.
Nearly half (48%) of Bank of America surveyed fund managers now expect a V-shaped recovery, compared to just 10% who predicted it in May 2020.
A record 91% of sophisticated investors expect a stronger economy, surpassing the confidence shown after the Trump tax cuts were passed in late 2017 and during the early stages of recovery after the Great Recession.
Fear of inflation is increasing. But are they overdoing it?
But all this optimism – in addition to the unprecedented stimulus from Congress and the Fed – is causing some on Wall Street to overheat the economy.
The big fear is that resurgent inflation will cause the Federal Reserve to raise interest rates rapidly, shortening the economic recovery and the market boom. This is what happened in the 1970s and early 1980s when the central bank led by Paul Volcker tamed inflation with aggressive interest rate hikes.
According to Bank of America, a record 93% of fund managers expect higher global inflation over the next 12 months. This is higher than 85% of what it said in February.
However, US officials have pushed back against inflation fears. Finance Minister Janet Yellen said over the weekend that inflation could move higher, but only temporarily.
Ed Yardeni, president of investment advisory firm Yardeni Research, is not too worried about runaway inflation as about 10 million U.S. workers are still unemployed due to the pandemic.
“A wage price spiral in the 1970s is, in our view, unlikely despite the fiscal and monetary excess of our government,” Yardeni wrote in a note to clients on Tuesday.
The tipping point for bond returns
A related risk is a repeat of the taper increase in 2013, when treasury yields rose after the Fed indicated that bond purchases would gradually slow as the economy recovered. Higher treasury rates can make equities look less attractive in comparison.
After crashing to 0.3% last spring, the ten-year treasury rate recently climbed to 1.6%. The rise in yields has troubled investors, prompting US equities to fall sharply before falling.
So how high would the yields have to climb to derail the bull market?
Bank of America said 2% on the ten-year treasury could ‘be the level of stock settlement’. Nearly half of the fund managers surveyed said the 2% return would result in a 10% correction in equities. About half of investors indicated that the ten-year treasury rate of 2% or 2.5% would make bonds attractive relative to equities.
Yet professional investors do not see a bubble, at least not yet. Only 15% of investors believe the US stock market is in a bubble, according to the Bank of America survey. A quarter say the stock market is in the bull market at an early stage, while 55% are in a late stage bull market.