Wall Street’s Unstoppable Bull Is Coming for All Market Laggards

(Bloomberg) -- Animal spirits are reviving unloved market corners around the world, from the riskiest junk debt to American companies tethered to the economic cycle.

As a Bank of America Corp. index of financial stress plunges to May lows, volatile shares are trumping safer equities that offer smaller price swings. Cheaper stocks are getting snapped up and money is rushing into emerging markets anew.

Thank fresh bets on global trade, a U.S. labor market in robust health and a dovish Federal Reserve ironclad in its reflationary resolve. All that is spurring the likes of JPMorgan Chase & Co. to tout new bullish trades and Bank of America Corp. to project a “melt-up” next quarter.

In a year when valuations for defensive assets soared as investors paid up for havens, Wall Street is lavishing the riskier laggards with festive cheer.

“For the next six months you need to have a more positive view,” said Francois Savary, chief investment officer at Prime Partners SA. “The trade deal is reinforcing the idea that you need to reduce the prospect of recession.” The Geneva-based firm is looking to add export-sensitive stocks in emerging markets and Germany, Savary said.

Equities in developing nations are but a whisker away from a 16-year low versus the U.S. market, underscoring the potential for a catch-up rotation.

While plenty of investors remain skeptical about the fine print of the U.S.-China trade deal and fret over the sustainability of the American economic expansion, bulls are talking control.

Take the spread between the cheapest American shares and their more expensive growth counterparts which reached the widest since the dot-com boom just a few weeks ago.

The value factor’s long leg mostly bets on neglected cyclical names, while the short leg wagers against popular equities boasting earnings expansion. The yield curve has been steepening lately, signaling a brighter economic outlook for riskier companies and undermining the valuation case of growth companies bought for their future cash flows.

“Assuming global growth stabilizes as we anticipate, improving confidence and relative low valuation is a support for value factors,” Evercore ISI strategists led by Dennis Debusschere wrote in a note on Monday. Among the 14 factors tracked by Evercore, value is the cheapest while growth is the priciest, based on their respective top bets.

Strong economic momentum could also lift American small-capitalization companies, which dropped to a decade low versus their larger peers just three months ago. The case for a bullish rotation appears to be strengthening.

Manufacturing surveys from the U.S. to Germany are showing signs of bottoming out, with New York’s factory outlook and a gauge of American homebuilder sentiment further buoying optimism this week. The bottom-line picture for smaller firms is brightening, too.

Twelve-month forward earnings estimates for the Russell 2000 and S&P 400 Midcap indexes have begun to stage a rebound over the past six weeks.

In another sign of rising risk appetite, rocky shares dubbed high beta are on a comeback versus their steadier counterparts. They reached the highest since May versus their calmer counterparts this month.

Emerging markets -- a victim of global trade tensions given their reliance on exports -- are also starting to benefit. UBS Wealth Management and BlackRock both turned positive on the asset class this week. Owing to improved market sentiment, the Swiss wealth manager is also pursuing carry strategies, which borrow from low-yielding assets to buy high-yield ones, global chief investment officer Mark Haefele wrote in a note.

Developing nations saw equity inflows for the seventh straight week in the period through Dec. 11, when the U.S., Japan and Europe all posted redemptions, according to Bank of America Corp., which cited EPFR Global data.

The biggest U.S.-listed emerging-market exchange-traded fund -- with the ticker VWO -- posted the largest inflows since February last week.

All told some of the most poorly rated of the high-yield debt bunch are outperforming as oil rallies.

That’s where Prime Partners’ Savary draws the line citing the prospect of defaults when the credit cycle turns.

“Those segments will outperform well in the short-term when people want to take risk, but I don’t think this is wise,” he said.

--With assistance from Luke Kawa.

To contact the reporter on this story: Justina Lee in London at jlee1489@bloomberg.net

To contact the editors responsible for this story: Sam Potter at spotter33@bloomberg.net, Sid Verma

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