Cyclicality is on the rise as Japan, equity market inflows alongside credit and gold make up a basket of long market exposure, an August 11 Bank of America Merrill Lynch research piece notes. Market prices and inflows are tending increase while the bank’s Bull & Bear Indicator shows “sentiment getting more bullish but not yet at an extreme.”

 

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BAML 8 12 em equities sentiment

BAML notes Japanese equities see largest inflows since January, while others eye central bank stimulus impact on “melt-up”

At $1.6 billion, Japanese equities have seen their largest inflows since January of this month, a “The Flow Show” report from BAML’s Michael Hartnett, Brian Leung and Jared Woodward reveals. The rotation analysis in “The Final Melt-up” report shows financials benefiting from their largest four-week inflows, $1.2 billion, in eight months.

“Investors still love credit but are now rotating to economic-sensitivity in stock markets,” the trio wrote. The bank’s private clients have been taking profits in defensive leaders, including staples, telecoms and utilities – dividend plays to various degrees – and are rotating into Europe, Japan, Emerging Markets, Industrials, Materials and Financials.

“Likelihood of melt up in risk assets into Jackson Hole growing,” they noted, pointing to the “final” aspect of the “Melt-up” title. Such a rise in asset prices is “…likely followed by jump in yields.”

In other words, stocks could rise into the near future.

The report didn’t prognosticate on an exact end point – but then soon after yields could rise, with the likelihood of a December rate rise the most likely of the implied probabilities in 2016 based on the futures markets. When yields rise, the market is open to another stock market surprise, one that Passport’s John Burbank has expressed concern over. Raising interest rates could be pulling the quantitative easing rug out from under the market and Burbank and his team believe “strongly that the level of Central Bank influence on markets holds the potential for a broad range of both intended and unintended consequences, which may well run contrary to true fundamental economic and corporate realities.”

BAML 8 12 flow show global assets

Melt-up is at a “big inflection point” as emerging market debt demand is now morphing into emerging market equity demand

The BAML report didn’t wade into such central bank depths, which have in many markets been credited for significant inflows of capital and a shifting in supply and demand balance. One area where developed world central bankers are not assumed to be actively operating is in the emerging markets.

Here, too, BAML sees an emerging market “melt-up” as a “big inflection point” is emerging market debt flows are their largest in six weeks at $18 billion. Such flows are “now mutating” from confidence in emerging market debt to emerging market equity flows.

Across the yield and risk curves, emerging market debt saw the strongest inflows, followed by TIPS, bank loans, high yield debt, Investment grade debt and municipals. In general government and treasury debt was the only negative outflow in sight.

High yield inflows totaled $1.7 billion, while investment grade saw $5.3 billion of inflows, which have witnessed inflows in 22 of past 23 weeks. Municipal bonds witnessed their 47 straight week of inflows at $900 million, while government treasuries saw outflows of $800 million. Money markets saw $3.6 billion in outflows, the largest in seven weeks.

Gold saw $900 million of inflows amid a generally consolidating algorithmic market pattern.

Equities, which are the current subject of the much described “melt-up,” saw inflows of $6.5 billion, but the BAML report noted a divergence between $10 billion in ETF inflows and $3.5  billion in mutual fund outflows, a continuation trend of the passive vs active issue that ValueWalk has previously discussed.