Bank of America strategist Michael Hartnett said investors should maintain long positions in commodities and gold as policy intervention seeks to limit increases in bond yields and support financial markets.
“Policy panic [is] working,” Hartnett and his team wrote, citing the appreciation of the Japanese yen as evidence of efforts to defend market thresholds including $4-a-gallon gasoline, 160 dollar-yen and 5% Treasury yields.
Hartnett said central banks are moving towards higher interest rates as they seek to maintain credibility and prevent a further increase in bond yields. Against that backdrop, he recommended maintaining exposure to commodities and what he described as debasement hedges, including gold.
The strategist also examined longer-term asset returns. According to Hartnett, 10-year rolling returns for U.S. equities and commodities are currently 15% and 11%, respectively, compared with a negative 2% return for Treasuries.
He described the Treasury performance as the weakest 10-year period in 100 years and said negative long-term returns have historically coincided with entry points, citing 1939, 1974 and 2009 for equities and 1933 and 2018 for commodities.
Hartnett assesses U.S. midterm election scenarios
Hartnett also addressed the approaching U.S. midterm elections, saying investors have so far largely discounted election-related risks.
He said a Democratic sweep remains unlikely because of the Senate map and noted that the administration has increasingly governed through executive action rather than Congress.
Hartnett nevertheless pointed to changing indicators ahead of the election. Trump’s approval rating is in a range of 35% to 40%, compared with a historical average of 53% two months before a midterm election, while prediction markets assign a 50% probability to a Democratic sweep, according to the report.
Hartnett said a Democratic sweep could result in a risk-off market reaction, including a decline of more than 10% in equities as well as lower dollar and bond yields. He said an unexpected Republican sweep could support additional risk-taking.
A result in which Republicans retain the Senate and Democrats control the House would represent a modest risk-on scenario, according to Hartnett, who described it as “gridlock = goldilocks.”
Cash and bonds lead weekly fund inflows
Fund flows were positive across several major asset classes in the week through Sept. 2. Cash funds attracted $30 billion, followed by $18.3 billion for bonds, $3.2 billion for gold and $2.8 billion for equities. The equity figure represented the smallest weekly inflow in nine weeks.
Cryptocurrency funds recorded $500 million of inflows, extending a five-week period that generated a combined $5.5 billion, the largest amount since October.
Within fixed income, investment-grade bonds received $9.2 billion, extending their inflow streak to 22 weeks. Treasuries attracted $6.2 billion for a 10th consecutive week of inflows, while high-yield bond inflows resumed at $1.5 billion. Bank loans recorded their first outflow in 13 weeks, totalling $600 million.
Regionally, Japanese equities attracted $1.4 billion for a second consecutive week of inflows, while European equities recorded $800 million as inflows resumed.
U.S. equities registered $5.9 billion of outflows for a second consecutive week, while emerging-market equities recorded $5.4 billion of outflows.
Chinese equities posted $5.3 billion of outflows, marking a fifth consecutive week of withdrawals. Technology funds recorded $1.5 billion of outflows, their largest since June, while financial funds saw $900 million leave during a fifth consecutive week of outflows.