2017 Market Outlook: BofA Merrill Lynch Global Research Calls Heads or Tailwinds as Markets Swing on Policy Shifts
December 07 2016 - 11:30AM
Business Wire
The Economy Resuscitates, Stocks Gain, Rates
Rise, Inflation Grows; Heightened Volatility and Potential for Big
Market Swings Likely
BofA Merrill Lynch Global Research today issued its outlook for
the markets in 2017 with cautious optimism for accelerating U.S.
and global economic growth, improving corporate fundamentals,
modest stock gains and higher yields on expectations of fiscal
stimulus and regulatory policy easing. Full-on optimism is tempered
by the rippling effects of rising inflation, a stronger dollar,
weak credit markets, uncertain commodity pricing, and game-changing
political events that raise the potential for big market
swings.
“The outcomes of Brexit and the U.S. election have brought
fundamental change, which equates to investor opportunity,” said
Candace Browning, head of BofA Merrill Lynch Global Research. “If
investors choose asset classes, sectors and stocks carefully, they
can meaningfully outperform the market. 2017 could be the year of
the active investor.”
At the annual presentation of BofA Merrill Lynch’s Year Ahead
Outlook held today in New York, analysts from the top-ranked global
research firm summarized their market views and the significant
themes that will dominate in the year ahead.
Topping their list is the political ground shift, reflective of
a contagious backlash to globalization. Spreading populist
influence, starting with Brexit, followed by the election of Donald
Trump and now looming over the eurozone, raises questions about
trade policies that would affect government debt levels, rates,
commodity prices and economic growth rates, particularly in
emerging markets.
The overarching anti-globalization theme sets the tone of a new
economic and investment cycle now underway. Against this backdrop,
the BofA Merrill Lynch Global Research team made the following 10
macro calls for the year ahead.
- S&P 500: A 2017 year-end
target for the S&P 500 Index is pegged at 2300, which assumes a
5 percent gain for the year and earnings growth of 9 percent, or a
2017 earnings per share forecast of $129. The case for a
traditional, euphoria-driven end-of-bull-market rally could put the
S&P 500 as high as 2700, in line with historic norms of 20
percent or greater annual returns. A bearish scenario, in the event
of recessionary returns, could put the S&P as low as 1600.
- U.S. and global economic growth:
Modest but accelerating. Nominal growth in the U.S. could rise
from 3 percent to 4 percent, with a real GDP gain of 2 percent.
Slower growth is expected in the first half of the year, picking up
in the second half once fiscal stimulus measures kick in. In the
rest of the world, nominal growth could near 7 percent, with a real
economic gain of 3.4 percent, up from 3.0 percent in 2016. We
expect global growth, however, will be driven by supply versus the
demand side of the economy.
- Inflation: The party has
started. Core personal consumption expenditures (PCE) inflation
in the U.S. is expected to increase to 1.9 percent by the end of
next year, approaching if not overshooting the Fed’s 2 percent
target. Although the inflation party started elsewhere in the
world, Europe didn’t get an invitation. The eurozone
10-year/20-year inflation break-even has jumped recently, nearing
the European Central Bank’s “below but close to 2
percent” target, yet the ECB could disappoint by tapering
prematurely or not extending quantitative easing beyond next
March.
- Rates: Monetary easing
gives way to fiscal easing. The history of populism is one
of fiscal largesse. U.S. rates have backed up quickly after the
election, driven largely by a repricing of inflation expectations.
With long-term inflation break-evens closing on their historical
averages, we think the next phase of the rates move will be led by
the belly of the curve and real interest rates. The market
expectation for Fed hikes in the coming years has sufficient room
to increase relative to the current projections in our view.
- Foreign Exchange: Globalization of
anti-globalization. While the U.S. fixed income sell-off is
likely to continue spilling over into other bond markets, yield
differentials are still likely to move in favor of the USD. In our
view, long positions in emerging markets remain crowded, liquidity
conditions are poor, and downside risks remain in a strong dollar
environment. USD/JPY will likely be the main foreign exchange
beneficiary of U.S. fiscal expansion, given its high sensitivity to
rates and the Bank of Japan’s 10-year JGB yield target. We see
continued CNY depreciation with a strong dollar, adding pressure on
China to weaken its currency to loosen financial conditions, while
increased trade tensions could further pressure the currency.
- Emerging Markets: Hold on tight.
Modest economic growth of 4.7 percent is expected in emerging
markets, up from 4.1 percent, which is better than in the U.S. and
the rest of the developed world. India is expected to lead, with
GDP rising 7.6 percent, while China’s bellwether economy expands by
6.6 percent. Overall, emerging Asia should grow by 6.2 percent, and
Eastern Europe, the Middle East and Africa (EEMEA) should rise 1.9
percent. Latin America should rebound with growth of 1.5 percent,
after a drop in 2016. U.S. rates will likely cast a shadow over
emerging markets debt, with returns of about 2.6 percent for
external debt and 0.7 percent for local debt. We expect Mexico and
China to be under the spotlight as potential trade and currency
wars keep investors on edge, yet Mexico could be the surprise
beneficiary of increased U.S. infrastructure spending.
- Metals and Mined Commodities: Coal
and steel rise while gold loses luster. Mined commodities
rallied as markets rebalanced in 2016, and the global macroeconomic
environment should remain supportive, barring trade battles. We
anticipate possible volatility in steel prices – a
potential anti-globalization trade – on factors driven not by
supply and demand, but by raw material input costs. We have raised
our forecast for steel-making coal to $215/t for 2017 from a prior
$140/t. Gold may fall to $1,200/oz. by mid-2017. Our 2017 price
forecast of $18.21 for silver reflects our view that the worst for
silver may be behind it.
- Energy: OPEC resets the bar. For
the first time in eight years, OPEC agreed to cut crude oil
production, marking a turning point in the price war at the center
of cartel politics. As a result, our 2017 forecasts are unchanged,
leaving WTI crude oil at $59 a barrel and Brent to average $61 a
barrel. Pricing forecasts embed a sequential 500,000 barrel-per-day
increase in U.S. crude production, raising domestic output to 9.2
million barrels a day by the end of 2017.
- Credit: Farewell to utopia.
After an extraordinary year for credit investors, total returns in
2017 will likely be a sobering 3.5 percent to 4.5 percent for U.S.
high-grade bonds and 4 percent to 5 percent for U.S. high yield.
Still, our preferred asset class is U.S. high-grade, where the
drop-off in supply could be very bullish. On the other hand,
high-grade corporate spread maturity curves may super-flatten as
global credit investors sell shorter maturities and buy the long
end. A modest 20 bps of spread tightening in 2017, generating a
healthy 3 to 4 percent excess and 3.5 to 4.5 percent total returns,
is expected. Corporate balance sheets are improving in the U.S. as
earnings headwinds dissipate. Thirty-year corporate bonds could
generate total returns of 8 percent to 9 percent in 2017.
- Big rotation in global investment
strategy: Domestically and globally, investments and policies
that have done well in a low-rate, low-growth world have reached
their peak. Long-term winners could be supplanted in 2017. Expect
inflation rather than deflation; Main Street to prevail over Wall
Street; fiscal winners to beat out zero-interest winners; and real
assets to triumph over financial assets.
Detailed highlights of BofA Merrill Lynch Global Research
reports can be found here.
BofA Merrill Lynch Global ResearchThe BofA Merrill Lynch Global
Research franchise covers almost 3,200 stocks and over 1,100
credits globally and ranks in the top tier in many external
surveys. Most recently, the group was named Top Global Research
Firm of 2015 by Institutional Investor magazine; No. 1 in the 2016
Institutional Investor All-Europe survey; No. 1 in the
Institutional Investor 2016 Emerging EMEA Survey; No. 2 in the 2016
All-Europe Fixed Income survey; No. 2 in the 2016 Institutional
Investor All-Asia survey; No. 2 in the 2016 Institutional Investor
Latin America survey; No. 2 in the 2016 Institutional Investor
All-America survey; and No. 2 in the 2016 All-America Fixed Income
survey for the fifth consecutive year.
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