The U.S. dollar is driving the markets right now as investors mull the Federal Reserve’s expected interest rate hike and run for cover from corporate bonds. There are concerns about a credit crunch, and growth expectations for China have begun to slump again. Also both bulls and bears are long on the U.S. dollar – a trade that is now three times more crowded than all other trades, according to Bank of America Merrill Lynch’s most recent Global Fund Manager Survey.
What will halt the U.S. dollar bull market?
BAML Chief Investment Strategist Michael Hartnett and his team said in their Dec. 15 report on the survey that 35% of fund managers believe it will take the end of the Fed’s interest rate hiking cycle to end the bull market being led by the U.S. dollar. In second place is negative earnings growth in the U.S. Here’s a look at all the suggested catalysts for ending the dollar’s bull market:
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Fund managers also believe that the December decline in growth expectations for China indicates that there’s a need for devaluation. Further, they think that until there’s a “two-way risk” in China’s RMB, investors are seeing a “one-way risk” in oil commodities prices and emerging markets.
Credit crunch worries
BAML strategists also discovered a “sudden, remarkable” rejection of dividend and buyback stocks as investors turn to companies that are improving their balance sheets. In fact, they report that the demand for balance sheet improvement among fund managers has suddenly climbed to its highest level since July 2010.
Also the percentage of investors who believe that payout ratios are just too high has hit its highest level since March 2009.
U.S. equity allocation tumbles
BAML found that funds’ U.S. stock allocations have declined to the lowest levels in eight years to a net underweight position of 19% from a net 6% underweight last month. Further, investors have been underweight on U.S. stocks for the last ten months.
Funds are also starting to reduce risk going into the Fed meeting tomorrow by moving out of crowded or growth plays and into value or defensive plays. Further, they’re increasing their exposures to utilities, Japan, and the Insurance and Energy sectors while cutting their weightings in Tech stocks, the U.S. market and Healthcare.
BAML also reports that this latest survey indicates the first sign of a shift from growth to value stocks. Most fund managers favor high quality stocks over low quality ones.
Although only 7% of fund managers believe a recession is coming in the near term, “yield curve expectations” have reached their highest levels in more than four years. Also the percentage of investors who believe the global economy is in a late cycle position has hit the highest level since September 2008, and bond underweight positions have hit their highest levels in two years, while U.S. underweighting is at its highest level in eight years.
Funds dumping corporate bonds
As it’s widely expected that the Fed will hike interest rates at its meeting tomorrow, fund managers are adjusting their portfolios to exit assets that they believe to be most exposed to a rate hike. This month BAML found a large increase in the percentage of managers who are concerned about corporate bonds.
Bond allocations has fallen to two-years low from an underweight position of 59% last month to an underweight position of 64% this month.
All graphs in this article are courtesy BAML.