Bank of America Corp (BAC.N) released a new report highlighting 10 unexpected scenarios that could affect investors this year. Strategists wrote in the report that any big market moves this year are likely to be "self-limiting."

“A big stock market selloff could prompt the Fed to cut rates; a big rally would further ease financial conditions and reignite inflation that the Fed believes is subdued. If this is a volatile year, this combination will keep trading range-bound, at least in the U.S..”

Separately, the bank’s analysts observed that investors have recently taken conflicting positions, expecting the Federal Reserve to cut interest rates more than five times while remaining overly optimistic about inflation.

Here are 10 possible surprises Bank of America outlined in its report:

1. High bond taxes force investors back into stocks

Investors were initially attracted by the 5% yield on U.S. Treasuries, but may turn to stocks because of favorable tax treatment—stocks are taxed at a lower 20% rate after being held for at least a year. In 2023, the S&P 500 (SPX) rose 24%, of which 1.9% was paid out as dividends.

2. If companies adapt to a 5% interest rate, the number of bankruptcies will not surge

After the Federal Reserve made its most aggressive interest rate hike in history, the number of companies declaring bankruptcy was the second lowest in history, and companies' interest expenses relative to their total revenue were only 7%.

Although default rates are expected to rise in 2024, the likelihood of a widespread wave of bankruptcies is low due to the robustness of corporate debt structures and the availability of large cash reserves and private credit.

3. The IPO market is fully recovering

Last year's U.S. IPO activity was the slowest since the dot-com bubble burst in 2001. The end of the Federal Reserve's rate hikes this year could attract small growth stocks to go public, which would rather go public than raise funds at lower valuations.

Bank of America analysts expect a resurgence in IPO and M&A activity in the biotech and pharmaceutical sectors. Many other companies in the consumer discretionary sector have already filed.

4. Japan will become a dark horse among developed markets

The report said Japan's economy is resilient, undervalued and productivity is improving. Strategist Masashi Akutsu said he sees 13% upside for the Japanese market and expects recent corporate governance reforms and restructuring to lead to higher stock returns, more management buyouts and stock buybacks.

5. Geopolitical risks put pressure on tech giants

Seven major technology stocks, including Apple (AAPL.O) and Nvidia (NVDA.O), are expected to be more affected by geopolitical risks. Bank of America recommends turning to more balanced stock indexes, such as the Invesco S&P 500 equal weight ETF.

6. Biotech and pharmaceuticals are poised for growth

Bank of America expects bigger catalysts for both sectors in 2024. Pharmaceutical companies and biotech companies are currently trading at price-to-earnings ratios of about 18 and 14, respectively, both of which are attractive. After being led by weight loss drugmakers in 2023, advances in Alzheimer's research could drive the pharmaceutical industry to new heights. In addition, developing drugs is expected to become more efficient thanks to artificial intelligence.

7. Investors are pragmatic about energy

As renewable energy stocks underperform, investors may turn to more traditional energy sources and rediscover the value of the undervalued oil, gas and nuclear energy sectors. In addition, analysts expect investors to become more interested in the need for reliable, affordable electricity.

8. The fragile path to low inflation

Various global events could upend the market consensus on a smooth reduction in inflation to target, and could even cause inflation to rise again. Bank of America warned that geopolitical issues could affect inflation, including attacks on merchant ships in the Red Sea, oil price spikes due to the Israel-Hamas conflict, a 3.9% rise in CPI core service inflation excluding housing, rising government wages, and rising housing starts.

9. The need for a government debt premium

Weaker confidence in the sustainability of the U.S. government budget could lead investors to seek higher yields on long-term government bonds. In 2024, the economy could slow enough to prompt the Federal Reserve to cut interest rates, or it could slow enough to depress tax revenues and increase government unemployment benefits, making the U.S. budget deficit even worse. The U.S. Treasury may need to issue more than $5 trillion in Treasury bonds maturing next year, and investors may demand higher yields.

10. New enthusiasm for free markets

As the burden on companies to meet regulatory requirements remains high, costs accumulate to 0.8 percentage points of GDP each year. With the US election approaching, the prospect of a friendlier business environment may raise investors' expectations for higher profits and productivity, thereby boosting animal spirits and prompting more equity allocations.

The article is forwarded from: Jinshi Data