Wall Street’s next crisis may already be brewing, and BoA says it could lead to forced selling
Bank of America has already cautioned that several indicators of a stock market peak are flashing red. Now, its strategists warn that another threat looms.
Concerns have intensified following the collapse of subprime auto lender Tricolor, which exposed cracks in the credit markets and set off a domino effect that hit auto parts supplier First Brands and regional lenders Zions Bancorp and Western Alliance Bancorp.
The string of failures has reignited fears of systemic stress in corporate credit.
While some analysts argue that these defaults and bad loans are isolated incidents, Bank of America strategists led by Savita Subramanian say the risks run deeper than they appear.
If credit markets show further signs of strain, Subramanian warned, it could spark a tsunami of forced selling by pensions and other large investors who may dump index funds to meet obligations and sidestep losses in private assets.
Because passive investing now fuels much of the S&P 500’s performance, such a wave of selling could quickly ripple through markets, dragging down the benchmark index and amplifying volatility, BoA said.
The warnings echo BoA’s broader concerns about market froth. As InvestorsObserver reported, the bank says that roughly 60% of its market-peak indicators have now been triggered, a signal that stocks may be nearing historically overstretched levels.
Other risks lurking in the shadows
Even if turmoil in credit markets remains contained for now, analysts at the International Monetary Fund (IMF) have warned that global stocks could be nearing a “disorderly” correction.
“Beneath the calm surface, the ground is shifting in several parts of the financial system, giving rise to vulnerabilities,” the IMF said in its Global Financial Stability Report, citing stretched valuations and the tightening links between traditional banks and less-regulated financial institutions.
Matt Maley, chief market strategist at Miller Tabak + Co, echoed those concerns, telling Bloomberg that the banking sector remains particularly exposed.
“Given that the bank ETFs have already been under some material weakness, it’s not going to take much downside follow-through to confirm an important change of trend in the bank stocks,” Maley said, adding that any systemic stress or forced selling could hit bank-focused funds just as hard.
Other analysts say that a correction for the S&P 500 Index is only a matter of time, given its meteoric rise from its April bottom.
Strategists at Morgan Stanley, Deutsche Bank, Société Générale, and Evercore are warning that stocks could face pullbacks of 5% to 15% in the near term, citing familiar headwinds, from slowing economic growth to stretched stock valuations.