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Investors should 'fade' the 'epic risk rally': BofA's Harnett

Bank of America Analyst Michael Hartnett (BAC) is advising investors to sell risky assets after the recent rally in the stock market, citing mounting technical and economic headwinds as a reason to be cautious. Stocks have rallied on falling oil prices and cooling inflation data that raises the hope the Federal Reserve may be done raising rates. Yahoo Finance Reporter Madison Mills joins the Live show to discuss the note and what it means for investors.

For more expert insight and the latest market action, click here to watch this full episode of Yahoo Finance Live.

Video Transcript

[AUDIO LOGO]

SEANA SMITH: Let's get into the market commentary of the day. Bank of America's Michael Hartnett writing a research note this morning to clients saying that investors should fade the recent stock rally following Tuesday's CPI print markets. So it's seeing jumps in small caps, financials, tech, and China-exposed assets. But Hartnett saying the risks from building technical and macroeconomic headwinds may not be worth the short-term rewards of a rally. Madison Mills is here to break it all down. Maddie, break down everything I just said and put it in layman's terms for everyone in terms of what Michael Hartnett believes--

MYLES UDLAND: What just happened? I blacked out

SEANA SMITH: --and the risk on rally that we've seen.

MADISON MILLS: That was great. You grabbed a lot of my first talking points here, Seana, so that was perfect. I'm going to go with what we were talking about pulling out one word here from Hartnett, the epic risk rally of the past week that we saw, of course, due to those easing financial conditions.

We saw bond yields dropping from 5% to 4%, dropping even more as we head into the end of the week contributing to that rally here. We also saw this with that jump in small caps I've been talking about all week and shares of even US regional banks and China stocks as well going up. Hartnett describing that as a shift from caution to year-end greed. So a little bit of selling off there that we're seeing towards the end of the week.

But his broader point is that, like you said, Seana, we're going to have to do some fading above that 4,500 level and, kind of, breaking from some of the other bears on the street. Morgan Stanley's Michael Wilson and Goldman Sachs also holding a little bit more of an optimistic view here on the equity market, predicting that S&P 500 levels are going to be at 4,500 and even 4,700 by the end of 2024 respectively. But Hartnett finding a little bit more bearish sentiment even on the oil market too that Jared was talking about earlier.

BRAD SMITH: What about the fund manager survey? What was revealed there?

MADISON MILLS: Yeah, so the fund managers having a little bit more of an optimistic view. They're bullish on bonds, overweight position. The outlook for a soft landing is at 67%. The outlook for lower inflation is at 82%. So I love to hear that. I love thinking about my cost of items going down.

- Like the rest of us, yeah.

MADISON MILLS: But as Myles pointed out to me before the show, the real takeaway, the real tea here is that Hartnett--

MYLES UDLAND: You just responded to my Slack.

MADISON MILLS: I'm giving you a shout out.

MYLES UDLAND: Thank you.

MADISON MILLS: I'm giving you a credit--

MYLES UDLAND: Thank you.

MADISON MILLS: --live on air, Myles. Take it. Take the win.

Hartnett was saying, you know, the least likely outcome of 2024 is that all of this good news that the fund manager survey found actually happens, that this consensus comes to reality heading into 2024. So we'll have to see. I mean, we always talk about this, but is the Fed going to change course after one week of great data that's led to this rally in the stock market this week? I feel like they're probably going to take a couple pauses and see whether or not we're actually getting a little bit of a decrease in inflation.

MYLES UDLAND: Yeah. And ultimately, I think the good call out from this note is the way that, you know, behaviors from investors around trying to square up their portfolio-- it's kind of been the theme all morning-- can impact the market in the short term. And all the stuff that was bought or sold-- and oil is, kind of, within that category-- have been the things that have been either underperforming, been the laggards, or have been the outperformers this year.

What's been interesting is-- you, kind of, have the buy first, ask questions later attitude in markets and that's certainly been prevailing over the last couple of years. Think about the AI trade. Well, right now we're getting all this information that, you know what, the fundamentals of the Magnificent Seven, they actually are awesome. There was a reason to buy all that stuff.

So with the regional banks right now, with the Russell 2000 right now, you have a lot of investors going out buying all these things that superficially got super cheap, huge discounts, three-year lows, the Russell, whatever you want to do with all these, kind of, call outs. And then everyone can sit around at Thanksgiving and say like, is this actually cheap? Should we actually be owning this or is it just going to go up a couple percent by the end of the year?

And I think Hartnett really calling out that risk that people say, yeah, I didn't really mean to buy small caps. They just went up a lot. And I'm going to go back to selling them because you look at the chart and it's not the most constructive thing you've ever seen in the world.

MADISON MILLS: Yeah.

SEANA SMITH: You also got to look inside of what the topics are going to be at your Thanksgiving dinner table, I guess, this year too.

MYLES UDLAND: Topics Thanksgiving dinner table is do you have to throw that on the floor? Can we not, you know?

SEANA SMITH: That's the topic every single night.

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