Bank of America strategist Hartnett has made a contrarian call: the most positive event for stocks before year-end would be a proactive Fed rate hike in October, using one tightening move to restrain the long end from spiraling out of control.
If the Fed uses an October hike to prove it is willing to control inflation and term premium, the market may instead stop worrying about the 10-year yield charging toward 6%, and pressure on stocks would ease.
U.S. equities have not yet been knocked down by rates, but cracks are already quietly spreading through South Korean brokerages, French government bonds, and CCC credit.
Over the past week, global markets were once again led by interest rates.
The U.S. 10-year Treasury yield briefly touched 5.36%, while the 30-year yield rose to its highest level since 2002; the 10-year Treasury auction priced at the highest yield since 2000, but near-record overseas demand pulled sentiment back.
Across the Atlantic, the France-Germany government bond spread widened to 140 basis points, returning to the stress range seen during the 2011-2012 European debt crisis.
Bank of America strategist Michael Hartnett compressed his core judgment in the latest Flow Show into three words: "Bonds are ending the bubble."
The most contrarian corollary also emerged: the most positive event for risk assets before year-end would be a Fed rate hike in October, using one proactive tightening to keep long-end yields from spiraling further.
This logic is not contradictory.
U.S. stocks are still up 13.4% year-to-date, with the S&P 500, Nasdaq, and global technology index still at high levels, but government bonds are down 4.4% year-to-date, trailing cash returns by 7.2 percentage points.
Stocks have not yet been defeated by rates because U.S. hard data, global earnings expectations, and hyperscaler capex expectations have not been meaningfully revised down; bonds are first creating cracks in more fragile places: South Korean brokerages, French government bonds, and CCC-rated credit.
The real risk is not just "high rates," but that after rates rise, fiscal policy, elections, AI capex, and fund flows are all forced to reprice.
If the Fed does not proactively hike, long-end yields may continue to climb; if Democrats sweep both chambers in the midterms, the political discount rate for stocks will suddenly change; if cash yields remain above 4%, the $8 trillion in money market funds may not be in a hurry to enter the stock market.
What bonds hit first is the part most dependent on cheap money. Hartnett used South Korea as a sample.
Over the past 18 months, South Korean bond yields have risen by about 200 basis points; Mirae Asset, South Korea's largest retail brokerage, fell 65% since May after previously becoming a "four-bagger."
This does not mean the South Korean stock market bubble has already burst.
South Korean stocks are still up 98.9% year-to-date, one of the world's strongest-performing markets.
What it shows is something else: when the cost of funds suddenly rises, the first to be hurt are often the areas with the highest financial leverage and trading heat.
Global central banks are also accommodating this shift.
Since 2026, global central banks have raised rates 54 times; this is the first time since September 2023 that global central banks have turned back toward tightening on a net basis.
The divergence in asset performance further confirms this fracture.
In year-to-date performance rankings, oil is up 58.5%, U.S. stocks are up 13.4%, and global stocks are up 10.6%; cash returns are 2.8%, government bonds are down 4.4%, gold is down 4.8%, and Bitcoin is down 6.7%.
The "humiliation" of bonds is most striking: even holding cash has outperformed holding government bonds.
The reason an October hike is viewed bullishly is that not hiking could let the long end spiral out of control. The main drivers of rising U.S. rates are split into two parts: growth remains strong, and uncertainty is rising.
Supply, commodity, and fiscal concerns also matter, but they are not the core explanation.
The key change occurred after Jackson Hole.
The market previously had an anchor: policy was already restrictive, and rates could eventually return to about 3%.
BofA rates strategists pointed out that once this "anchor line" was cut, yields would continue to rise until data worsened or the market itself ran into trouble.
Their conclusion is not friendly to those waiting for a top: "We believe neither of these two conditions is currently met. Any dovish suppression by the Fed on short-end pricing will only shift rate pressure to the longer end."
This time, the rise in 10-year Treasury yields since late September has mainly come from term premium, rather than a repricing of the federal funds rate path.
That makes the problem more difficult.
Hence the seemingly strange judgment: the Fed must either hike, or face continued spike-like moves in bond yields.
The September FOMC minutes showed that all 19 officials supported a hike, and most believed another hike this year would be appropriate.
But the market currently assigns only a 17% probability of a hike at the October 28 meeting, and 81% for December 9.
BofA rates strategists believe market pricing is wrong and have established corresponding trading positions (paying October FOMC OIS).
Their wording was concise and direct: "If U.S. data remain strong, the Fed must choose: hike, or tolerate bond steepening. If frightened by bond steepening, the Fed will hike."
The bullish logic here is not that "a hike itself is good for stocks," but that if the Fed uses an October hike to prove it is willing to control inflation and term premium, the market may instead stop worrying about the 10-year yield charging toward 6%, and pressure on stocks would ease.
The fiscal crack has already appeared, and France is the clearest example. The other half of the rising-rate problem is who pays the higher interest.
BofA chief global economist Claudio Irigoyen pointed out that the rate shock is "exposing the unsustainable reality of fiscal policy in developed economies," with the U.S. and France first in line, followed by Japan and the U.K.
The root of the problem lies in what economists call time inconsistency.
Over the past 20 years, U.S. debt/GDP rose by about 60 percentage points, and France by about 50 percentage points, most of it during the zero-rate era.
This debt supported permanent spending and permanent tax cuts.
Now financing costs have normalized, but cutting spending or raising taxes lacks political votes.
Both countries have debt/GDP around 120%, and primary deficits above 2.5% of GDP; the U.S. overall deficit is about 6% of GDP, while France's is about 5%, with the U.S. higher mainly because of a heavier interest burden.
France is the clearest rupture.
According to reports, the France-Germany government bond spread has returned to 140 basis points, the fastest selloff in French sovereign spreads in at least 20 years, even faster than in 2011.
The market has no patience for French fiscal policy, and several data points are there: since the post-pandemic peak, developed economies' debt/GDP has fallen by an average of 11 percentage points, but France has not declined; France's private non-financial debt reaches 214% of GDP, versus 140% in the U.S.; the median net income of French retirees is almost close to that of working people; France has not achieved a primary budget surplus since 1974.
According to reports, Paris is considering increasing short-term government bond issuance.
Rabobank commented that this is "the latest example of a developed-market economy behaving like an emerging market."
BofA European credit strategist Barnaby Martin expects the France-Germany spread to trade in a 100-150 basis point range; if it quickly approaches the upper end of the range, the probability of short-term debt issuance, verbal ECB intervention, and even discussion of the TPI tool being brought out will rise.
Stocks have not fallen yet, but that does not mean hikes have not "bitten." High rates have not had no impact; they just have not yet bitten the market's most core assets.
U.S. hard data have not clearly rolled over, and global forward earnings expectations have not rolled over either.
More importantly, hyperscaler capex expectations are still rising, and 2027 consensus expectations are still climbing steeply.
As long as AI capex continues to support real demand, there is reason for yields to keep rising.
BofA strategist Barnaby Martin's judgment is: the moment U.S. macro data roll over is when rate volatility peaks and the credit market gets a green light again.
The credit market is already reflecting pressure at the edges.
In the September high-yield spread widening, less than 30% could be explained by higher refinancing costs or expected losses, with the rest looking more like a rate volatility premium.
CCC spreads have risen to 1,200 basis points, the highest since 2022.
Stocks are not without internal loosening either.
The BofA Bull & Bear Indicator fell from 8.8 to 8.1, after being 9.3 two weeks ago, still in "sell" territory.
The global breadth rule shows a net 50% of global equity indices are oversold, meaning simultaneously below their 50-day and 200-day moving averages; but a contrarian buy signal would only trigger at a net 88%, and unless technology-heavy markets such as the U.S. and South Korea reverse quickly, that threshold will be difficult to reach in the short term.
$8 trillion in cash is not a natural buyer. The fund flow data give a fairly clear signal.
As of Wednesday of that week, cash inflows were $166.4 billion, the largest since April 2020; bond inflows were $33.8 billion, stock inflows were $12.4 billion, gold inflows were $2 billion, and crypto asset outflows were $600 million.
The $118 billion in cash that flowed out the previous week due to quarter-end factors not only all returned, but flowed back in excess.
By segment, Treasury inflows were $16.2 billion, the largest since April 2025; investment-grade bond inflows were $10.3 billion; bank loan inflows were $2.4 billion, the largest since February 2025, with floating-rate products becoming a hedge against rate hikes.
Technology stocks still saw $3.5 billion in inflows, while financial stocks saw $3 billion in outflows, the largest since March 2023.
Money market fund assets have reached about $8 trillion, up from $5 trillion in 2023.
At a 4.2% T-bill yield, this money generates about $330 billion in annual interest income.
Hartnett's liquidity takeaway is even more direct: "Without rate cuts, cash will not shrink."
Historically, large-scale movement of sidelined cash into stocks usually occurs after large-scale monetary easing, such as QE in 2009, QE4 in 2020, or during sustained Fed rate-cutting cycles.
The current environment does not meet that condition.
The midterm elections give the market an uncomfortable probability distribution. The U.S. midterm elections on November 3 are the event most likely to trigger 10% swings in stocks in the coming months.
Polymarket currently gives Democrats a 64% probability of sweeping both chambers, up from 49% in September; the probability of Republicans holding the Senate and Democrats taking the House is 28%; the probability of a Republican sweep is only 9%.
Trump's approval rating is 38%, approval on the economy is 34%, and approval on inflation is 27%.
The market's greatest discomfort is that the currently most probable outcome corresponds precisely to the most risk-averse path.
Under a Democratic sweep, stocks could fall more than 10%, the dollar and bond yields would decline, international stocks would outperform U.S. stocks, and Europe could outperform Asia.
The direction of tax and regulatory policy would be upward, which is bad for EPS.
More importantly, the political capital of the Trump administration to push resource monopolies and corporate policy cooperation would decline.
If Republicans hold the Senate and Democrats take the House, that corresponds to the "divided government = Goldilocks" risk-on path, and stocks could rise more than 5%.
If Republicans sweep, that is the biggest upside surprise, with stocks potentially up more than 10%, and the AI trade continuing to bubble toward 2027.
The most critical state to watch may be Texas.
Republican incumbent Governor Greg Abbott leads Democratic challenger Hinojosa by only 48% to 46% in polling.
Texas is also a focal state for AI data center approvals and power strain, and the conflict between "affordability" and AI capex will be repriced in the ballot box.
Outside the U.S., the political right-turn trade continues. U.S. political risk is skewed negative, but overseas there is another logic line: the right-turn trade.
Bolsonaro won the first round in Brazil, with the second round on October 25.
Among 20 Latin American countries, 11, with about 420 million people, are already under right-wing leadership; before the previous election round, that number was 7 countries and about 60 million people.
The market reaction was direct: Brazilian stocks hit a record high, and the 10-year yield plunged 124 basis points in a single day.
The MSCI Latin America index is still 35% below its record high, which is also the reason Latin America has been included in the sequence of a global rotational bull market: the first half of 2025 was Europe, the second half of 2025 to the first half of 2026 was Japan and emerging Asia, and now it is the turn of Latin America and broader emerging markets.
Europe also has similar political variables.
Italy and Germany have already shown signs of a right turn, and Le Pen leads in polling for France's April 2027 presidential election.
Spanish Prime Minister Sánchez announced an early election, with voting day set for November 29, and polls show the center-right leading. Hartnett characterized it as "an underappreciated positive event for European bonds."
Next, watch price levels, where several key levels matter more than macro narratives. Under this framework, short-term positioning leans toward risk reduction before the midterm elections.
Three clues support this judgment: global central banks are tightening again on a net basis, financial conditions are tightening, and early signals of credit events are still appearing, including the Australian dollar/yen exchange rate, risk parity strategies, and credit default swaps of technology companies such as Oracle and SoftBank.
Technology stocks are not suitable for further chasing, because investors are already heavily positioned; MAGS may still outperform SOX on a relative basis, and Chinese technology stocks have contrarian appeal.
On the bond side, position early for peak-yield trades: 30-year Treasuries, small caps, REITs, and Hong Kong real estate.
On the broader direction, maintain holdings in gold, commodities, and emerging markets.
Several price levels are more operationally meaningful than macro slogans: 6% on the 10-year Treasury is the key area where bond buyers are waiting; a France-Germany spread of 150 basis points is close to the level at which the probability of policy backstops rises; a net 88% oversold reading in the global breadth rule would be a stronger contrarian buy signal; the Bull & Bear Indicator falling below 8 would be closer to a risk-easing zone than the current 8.1; and the 30-year Treasury auction yield has already reached 5.618%, which is also a realistic handle for positioning early in long bonds.
The calendar is also dense: Brazil's second round on October 25, the FOMC on October 28, the U.S. midterm elections on November 3, APEC in Shenzhen on November 18, Spain's election on November 29, the FOMC on December 9, and the G20 in Miami on December 14.
Hartnett concluded with one sentence: "Most investors are waiting for the 10-year yield to reach 6% before buying Treasuries; we are positioning modestly early in the 'peak yield' trade."
If the Fed hikes in October and restrains the long end, risk assets may instead breathe a sigh of relief; if the midterm elections deliver a Democratic sweep, U.S. stocks will need to be repriced; if yields keep rising while data still do not roll over, the logic of bonds ending the bubble will continue to operate in the most fragile places.
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