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Global Cross Asset Strategy – Year Ahead
The Trump inflection

Bank of America
Merrill Lynch

Investment Strategy
30 November 2016 Corrected

Key takeaways
• Market response to Trump is logical but moves have been frontloaded. We now see USD & rates only modestly higher next year.
• We see higher growth and inflation, notably in Japan. We go long NKY, stay long EM AXJ & selective yield in equity/ credit.
• Risk is an overshoot so we stay long USD/ short rates, adding a CNH put and short 10Y real rates. CNH a hedge vs trade risk.

Trump extends some trends, starts others
In the three weeks since Donald Trump’s election victory global markets have seen some dramatic moves. Some of those moves are extending trends that had already started – higher yields, higher USD, rotation from long to short duration. Others are new – JPY lower, NKY higher, EM lower. The key question is how much more they can go?

Growth/inflation higher in 17/18 - modest fiscal boost
Our economists think the fiscal impact of Trump will be modest at 0.5% on growth in H2 next year. Fiscal stimulus elsewhere also to be modest but it is taking the pressure off monetary policy. Growth was already improving so any fiscal stimulus helps. Our economists have both growth and inflation higher into 2017 and 2018.

Inflection point in markets but much discounted already
Market moves at turning points are often violent. The task of investors is to work out how much is already discounted. Our fixed income strategists have 10Y US yields at 2.65bp and bunds at 65bp at end 2017, also EUR/USD at 1.02 so moves look frontloaded to us. That suggests their implications for other markets should fade.

Evolution not revolution – long NKY, short 10Y real rates
If that is the case then we do not want to make wholesale changes to our strategy. We make two key changes today, adding long NKY (Japan strategist targets 20k) and short 10Y real rates trades. The former is part of our strategy to be pro-growth and we think it complements our long EM Asia trade being affected differently by USD strength.

The hunt for yield is dead, long live the hunt for yield
If yields only rise modestly next year then the hunt for yield will live on. We keep a yield basket in European equities, AT1s and spread in Euro/US credit. We go outright long European Healthcare by lifting our Food & Beverage short, which has dropped sharply.

Overshoot in rates, USD and trade key risks – add CNH put
The world would look very different if the US 10Y blew through 3% and the USD went on a tear, so we stay long USD and short rates. We add a CNH put vs USD as a hedge against an escalation of trade tensions under the new Trump administration.

Investment strategy
Global

James Barty >>
Investment Strategist
MLI (UK)
+44 20 7996 3291
james.barty@baml.com

See Team Page for Full List of Contributors

>> Employed by a non-US affiliate of MLPF&S and is not registered/qualified as a research analyst under the FINRA rules.
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11691609
Timestamp: 30 November 2016 12:00AM EST

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