Bad news has been good news for equities but that could be about to change: BofA

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Although bad news has historically served as a catalyst for equities, this trend might be about to reverse, Bank of America strategists said Monday.

Over the past two months, there has been a negative 78% correlation between the S&P 500 and the USD, indicating that bad economic news often led to stock market gains. However, BofA warns that this dynamic could change if economic growth deteriorates further.

Specifically, the bank’s strategists point to a critical range for nonfarm payrolls (NFP) as a bellwether for the stock market.

“We believe the goldilocks range for NFP is +125-175K, which would maintain the unemployment rate largely unchanged assuming labor supply growth remains at or above today’s level,” analysts said in the note.

“Sub-125K gains in NFP could increase the risk of triggering the Sahm Rule*, reviving recession fears in the market. As long as inflation remains in check, stronger growth should also be positive for stocks,” they added.

In recent forecasts, BofA expects the NFP to increase by 200,000, up from 175,000 in April. However, the unpredictability of NFP data poses risks. The S&P 500 has shown similar volatility on NFP release days as it has on Consumer Price Index (CPI) days over the past year.

Despite this, market complacency is evident, with SPX options pricing in the fourth-lowest NFP implied move since the onset of the COVID-19 pandemic, strategists noted.

The implications of this week's macro events extend beyond employment data. The ISM manufacturing PMI, set to be released earlier in the week, and the European Central Bank's (ECB) rate decision will also play a pivotal role.

BofA expects the manufacturing PMI to improve but stay below 50, signaling continued contraction, while the ECB is anticipated to cut rates.

Bad news has been good news for equities but that could be about to change: BofA

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