BANK OF AMERICA: A ‘summer pain trade’ is coming for investors with a rosy view of the global economy

Hartnett previously wrote that this market environment reminded him of 1998, when a credit crisis in Asia forced investors who who had big positions in the region to raise cash by selling en masse.

The so-called Thundering Herd has piled into other positions that Hartnett is watching closely. Here are a few:

• They’re allocated 61% to stocks, just below the record share of 62.5% recorded in March 2015. But cash levels are near a record low of 10%.
• They’re confident that the global economy still has room to grow. In turn, 43% of their assets in BAML’s custody has flowed into Europe, Australiasia and Far East stock funds, versus 9% to US funds.
• Their allocation in stocks has “shifted down in quality.” The one-year beta of their top-20 holdings, dominated by financial, energy, and tech stocks, is at a record high of 1.10. A beta greater than 1 indicates that the stocks in question are more volatile than the S&P 500.
• They’ve moved “up in quality” in rates. BAML’s private clients have collectively put 2.3% of their assets into Treasury bills, a 10-year high.

Added to these trends is the fact that the firm’s Bull & Bear Indicator has veered into “extreme bearish” territory, at 2.3 on a scale of 0 to 10. It’s normally a contrarian indicator, but BAML’s quant and equity strategists say there are longer-term reasons for caution on stocks.

Also, several bear-market signposts that BAML is watching have been triggered — 14 out of 19, to be exact.

The quant and equity strategists ticked off the most recent one this week, after they observed that low-quality stocks — companies with the highest debt and weakest profitability — are outperforming high-quality ones. Also, active managers’ exposure to low-quality stocks relative to the broader S&P 500 is near a record level.