Commentary on Political Economy

Friday, 22 January 2021

 

BofA Warns U.S. Policy Is Fueling a Bubble in Wall Street Prices

  • Strategists note risk of taper tantrum, volatility events
  • BofA forecasts a market correction in the first quarter
1 Wall Street near the New York Stock Exchange.
1 Wall Street near the New York Stock Exchange. Photographer: Michael Nagle/Bloomberg

Bank of America Corp. strategists warned the “extreme rally” on Wall Street that has pushed stocks to record highs, fueled by strong U.S. policy stimulus, is forming a bubble in asset prices.

“D.C.’s policy bubble is fueling Wall St’s asset price bubble,” strategists led by Michael Hartnett wrote in a note on Friday. “When those who want to stay rich start acting like those who want to get rich, it suggests a late-stage speculative blow-off.”

The strategists predict a market correction and for positioning to peak in the first quarter, with the BofA Bull & Bear Indicator closing in on a “sell signal.”

Soaring market prices as investors boost inflation-linked trades will drag “Main St inflation” higher, risking a taper tantrum, tighter financial conditions and volatility events, the strategists warned. They highlighted past bubbles including that of the dot-com era and the housing market in 2007-2008.

Fed monetary policy has been supportive for risk assets

Risk assets rallying on vaccine prospects are getting fresh impetus this year from bets that a win for U.S. Democrats in the Senate will spur further fiscal stimulus, adding to Federal Reserve largesse. The S&P 500 Index has surged more than 70% since its low last March, while the Nasdaq 100 has almost doubled and Bitcoin has soared above $30,000.

Central-bank balance sheets have ballooned in 2020, growing to a record size for the Fed and the European Central Bank. BofA expects the Fed balance sheet to reach 42% of U.S gross domestic product this year, while predicting the country’s budget deficit will hit 33% of GDP.

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