- A 10% market correction is on the horizon, says Bank of America’s Michael Hartnett.
- Hartnett highlights three catalysts set to end the bull market in 2021.
- Several catalysts have been sped up as the Reddit forum WallStreetBets wages a “war on inequality.”
- Visit Business Insider’s homepage for more stories.
Last week, the Reddit forum WallStreetBets waged a war against the establishment. A large group of retail investors from the forum pushed up the prices of stocks such as GameStop (GME) and AMC Entertainment (AMC), which had been heavily shorted by hedge funds, essentially attempting to play the firms at their own game.
Read more: Reddit day traders are taking on hedge-fund giants and winning, and it’s a sign of a new era for markets
This fight between retail investors and Wall Street is an acceleration of the growing war on inequality, said Bank of America’s chief investment strategist, Michael Hartnett, in a January 29 note.
This builds upon Hartnett’s previous examination of the topic; in May 2020, he highlighted that the new decade would bring “big change” with a shift from deflation to stagflation, a simultaneous increase in inflation and stagnation of economic output.
The era of quantitative easing seen over the last decade has driven incredible inequality on Wall Street, said Hartnett, in May.
“Never in the field of monetary policy was so much gained by so few at the expense of so many,” he added.
Read more: Billionaire investor Ray Dalio warned the US could be on the verge of civil war. Now a prominent market bear is saying investors should monitor this under-the-radar bubble, which could trigger unrest.
Due to the pandemic and recession, policy makers forced investors to buy, banks to lend, and corporate zombies to issue bonds, he said in May, noting that this could change after the US election with payback via taxes and a focus on regulation and wealth redistribution.
“The ability of private equity, financial engineering, and stock buybacks to drive asset prices will vanish,” Hartnett said.
The end of a bull market
The WallStreetBets retail investor fury has accelerated Hartnett’s original position on the war on inequality.
In 2020, he said society would reach “peak capitalism” in the coming decade, a point at which capitalism would no longer survive. Hartnett’s most recent research note at the end of January suggests society could have already reached that point.
2021 will bring the end of the bull market, Hartnett said — an event that will be triggered by the following three events:
1) Regulation (also a trigger for “peak capitalism”)
Having the Democrats in the White House and in control of Congress had already meant regulatory changes were coming. But after what has happened in the markets over the last week, there could also be widespread regulatory changes facing Wall Street, trading platforms, and investors.
“Regulation aimed solely at new investors simply will sustain the bull market in anger,” Hartnett said.
Read more: Veteran investor Mark Mobius says regulators should ‘definitely’ not take any action against Reddit traders
The US 10-year Treasury has already started to slowly rise. And with GDP growth increasing as COVID-19 vaccines get rolled out and a recovery gets underway, interest rates are expected to rise even faster.
Interest rates typically create challenges for growth stocks, which have been one of the main beneficiaries in the bull market rally.
3) Redistribution (also a trigger for “peak capitalism”)
Inequality can only end with higher wage inflation for the poor and wealth taxation for the rich, Hartnett said, which could redistribute the wealth from Wall Street to Main Street.
Read more: Billionaire Leon Cooperman says GameStop surge will ‘end very badly for the public’ and decries people ‘attacking’ the rich
Early 2020s outlook
The combination of these triggers will spell a lower and more volatile market in coming quarters. Hartnett is expecting a 10% correction in the second quarter of this year.
Long-term, he predicts, the end of the bull market will bring bigger government, more localization, dollar debasement, and fiscal excess.
This would be the polar opposite of the early ’80s, which brought deflationary economic policies such as globalization, deregulation and privatization.
Instead, the early 2020s would look more like the 1970s with stagflation, a situation Hartnett initially laid out in May.
“We do think asset returns will mirror the stagflationary 1970s in that they will be low in real terms (nominal too, around 3-5%) as well as volatile, and clustered across asset classes,” said Hartnett in May.
So, how do investors position?
Own inflation assets and sell deflation assets, Hartnett said. He also advised owning real assets instead of financial assets.
Inflation assets are those that perform well in an inflationary environment. Back in May, Hartnett noted that previous stagflation winners were small-cap, value and energy stocks, as well as commodities, REITS and real estate.
Read more: As Redditors flood the stock market, UBS breaks down 6 options strategies investors can use right now to protect their portfolios
One of the biggest risks to this outlook is that the bears are “too early” and that market events incite more liquidity. The Federal Reserve could continue to have even more accommodative monetary policy in the second quarter. However, this would coincide with GDP and profit growth recoveries, as well as inflation and visible signs of Wall Street speculation.
Get the latest Bank of America stock price here.
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