BofA’s Hartnett says rotate into defensives as sell signal returns

Investing.com -- Bank of America strategists are telling clients to pull back from risk assets and rotate into defensive positions as a key sentiment gauge flashes its first sell signal since 2021.

Michael Hartnett and his team said they remain in a "retreat/rotate not reload" camp for the summer, recommending investors retreat from risk assets and rotate into defensives such as staples, duration plays like REITs, small caps and biotech, and the U.S. dollar.

The strategists framed the shift as protection against ongoing tightening of financial conditions, arguing these areas are less cyclically exposed than banks, industrials and semiconductors to a potential disappointment of the bullish consensus view that there will be "no macro landing, no Fed hike, no AI capex cut, no DEM midterm sweep."

Commenting on the macro backdrop, Hartnett pointed to surging EPS optimism, with 12-month forward estimates up 33%, helped by a $35 billion tariff refund over the past three months that has reversed a $75 billion tariff-driven earnings hit from May through July of last year.

He also highlighted a positive correlation between payrolls and profits as the reason bond markets are trading off jobs data rather than inflation this year, since AI-driven productivity gains haven’t translated into broad job losses.

The Bank of America Bull & Bear Indicator climbed to 9.7 from 9.4, its highest level since 2021, pushing the gauge into "sell" territory. Hartnett attributed the rise to strong high-yield inflows, tighter global high-yield and AT1 spreads, and improving global stock index breadth.

On strategy, the strategists kept their asset allocation at "long stocks, short bonds," arguing policymakers view the equity market as "too big to fail" given the economy’s dependence on the wealth effect and the AI data-center capex boom. The team said booms and bubbles typically end when rising bond yields and a falling dollar force a fiscal policy U-turn, with "up-in-yields, down-in-banks" price action serving as an early warning sign to watch.

Flows were broadly positive across asset classes in the week to Aug. 5. Money market funds took in $53.7 billion, stocks $32.9 billion, bonds $23.1 billion, gold $900 million and crypto $600 million. U.S. equities drew $9.6 billion, now annualizing a record $652 billion inflow, while emerging-market equities added $8.6 billion despite an annualizing $55 billion outflow, the worst since 2015.

Tech funds saw their first outflow in six weeks at $700 million, though inflows are still annualizing at a record $217 billion.

Regionally, Japan logged a ninth straight week of inflows at $2.6 billion, and Europe saw its first inflow in three weeks at $55 million.