People Moves

BofA Merrill Lynch Recommends Riskier Investments In Second Half

Max Skjönsberg London 1 July 2011

BofA Merrill Lynch Recommends Riskier Investments In Second Half

Bank of America Merrill Lynch recommends investment grade bonds and high yield bonds instead of US government debt in the second half of 2011, as the US economy is set to improve.

The firm's US rates strategist, Priya Misra, thinks the brighter outlook is likely to push ten-year treasury yields to 3.60 per cent by the end of the year. They are currently trading at 3.125 per cent.

The two key issues in the US are the urgent need to raise the debt ceiling and complete a credible plan to bring public spending within sustainable limits. An unimproved economy could push rates up higher than Misra’s prediction, which means that treasuries will only outperform in a “muddle-through” type of scenario.

Corporations in the US are holding healthy balance sheets and equity valuations remain compelling. Confidence and not assets is what prevents companies from employing, BofA Merrill Lynch points out.

However, there are economic risks looming in the struggling world economy and investors are right to be cautious, according to BofA Merrill Lynch. The most threatening tail-risk scenarios are oil prices, a sluggish US housing market, and European sovereign debt - any of which could potentially cause turmoil.

If G7 (Canada, France, Germany, Italy, Japan, the UK and the US) growth is consistently below trend, BofA Merrill Lynch believes investors will be prepared to pay a premium for growth stocks. And if short-term interest rates do not rise significantly, investors will be prepared to pay a premium for yield. Finally, if balance sheet repair is slow, liquidity will chase quality and the next bubble will be in global best of breed stocks.

Test

Even if the bull market is not over it might abate, especially as policy-makers are removing emergency measures. Investors’ willingness to hold on to risky assets in the US will be tested as the Federal Reserve’s so-called “punch bowl”, the buying of assets beginning in August last year, is now coming to an end. Even if it could result in the global economy waking up with a hangover, the recovery should continue, argues BofA Merrill Lynch.

In Europe, France and Germany produce solid figures, but the crisis in the euro periphery remains worrying. BofA Merrill Lynch judges the risks as too big to be overlooked, and will therefore continue to prefer US equity market investments over Europe.

Furthermore, emerging market equities are predicted to outpace Japan, where the situation looks grim as the earthquake and tsunami-catastrophe in March has sunk GDP to the level of 1991. Emerging markets are in better shape than developed markets, even if BofA Merrill Lynch forecasts weaker growth ahead. High commodity prices have pushed up inflation and many emerging markets economies have put up interest rates in response.

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