Bank of America’s contrarian indicator signals the most bullish equity sentiment in over 18 months.
The sell-side indicator (SSI), tracking strategists' average recommended allocation to equities in a balanced fund, rose 100 basis points to 54.6% in December.
According to analysts, this marks the second consecutive month of improvement and the most significant month-on-month increase in over three years, highlighting a notable shift in sentiment.
“The SSI has been a reliable contrarian indicator – in other words, it has been a bullish signal when Wall Street was extremely bearish, and vice versa,” analysts said.
Hence, SSI suggests that "Wall Street is now halfway over the wall of worry," they added.
The indicator's level implies an expected 12-month price return of 13.5% or 5,400 for the S&P 500 by the end of 2024.
In terms of investment preferences, analysts advocate for equities over 10-year Treasuries. They recommend positioning for higher-than-expected growth, rates, and inflation, anticipating fewer rate cuts than currently priced in.
“We saw a marked shift out of equities into bonds in 2022, one reason for our preference for equities over bonds heading into 2023. Although sentiment has started to improve, the recovery has been slow, with the avg. recommended equity allocation increasing by just 1.6ppt over the last 12 months (vs. a >6ppt drop in 2022).”
“The increased recommended equity allocation was largely funded by cash, with the avg. recommended cash allocation dropping 1.2ppt to 1.9%, a record low in our survey data.”
Despite the bullish sentiment on equities, Wall Street remains quite optimistic about bonds. The average recommended bond allocation decreased modestly in 2023 but still stands at the 88th percentile.
Analysts suggest that this preference for bonds over cash may indicate expectations that the Federal Reserve will aggressively ease in 2024 and that GDP growth might disappoint, prompting a flight to quality.
“We prefer equities to the 10yr Tsy and would position for higher-than expected growth, rates and inflation, and for fewer rate cuts than what’s priced in,” analysts concluded.