NEW YORK (Reuters) - Investors looking into 2011 should expect strong corporate profits to lift share prices even as the global economy's growth rate slows, Bank of America Merrill Lynch (BAC.N) said on Tuesday.
In its annual investment research outlook briefing with reporters, BofA's top analysts pointed to emerging markets making up roughly 80 percent of global economic growth while growth in the U.S. economy is seen staying flat for the next 12 months at 2.8 percent.
Global economic growth will slow to 4.2 percent in 2011 from 4.9 percent in 2010, Ethan Harris, head of developed markets economics research said.
Driving the U.S. market, the world's largest, will be corporate earnings, which should reach record levels in 2011, said David Bianco, chief U.S. equity strategist.
"2010 was a good year for the stock market, and I expect 2011 to be an even better year," he said. "It's going to be an asset class that comes back into favor."
The firm forecasts the benchmark Standard & Poor's 500 stock index .SPX will rise to 1,400 over the next 12 months, led by energy and technology stocks.
Bianco said the index could beat that level.
The S&P 500 at "1,500 would be kind of where I would expect the market to be in a year's time if everything goes right. The 1,400 is our acknowledgment of we don't know if it is going to turn out to be that right," he said.
The S&P 500 on Tuesday closed at 1,241.59.
The U.S. dollar is seen stronger versus the yen and strengthening against the euro to $1.20 due to Europe's sovereign debt problems. The Chinese yuan is not expected to appreciate much.
Commodity prices, in general, will rise, the firm forecast. Oil, currently at $88.37, is expected to reach $100 by the end of next year. Gold, currently at $1,395 an ounce, might hit $1,500, while agricultural commodity prices are more likely to fall in 2011.
U.S. gross domestic product may be flat in the coming year, but economic data has shown improvement.
Combined with an increasing supply of U.S. Treasuries and the expectation that deficits will worsen once the U.S. Congress finally passes an extension of the Bush-era tax cuts, BofA sees U.S. benchmark yields rising.
Priya Misra, head of U.S. rates strategy research, forecast the 10-year U.S. Treasury yield rising to 4 percent by the end of 2011, and the two-year note up to 1.25 percent.
The 10-year Treasury yield, currently 3.47 percent, briefly touched 4 percent in early April but has not closed above that level since late June 2008.
"I think the trajectory of interest rates has definitely gone up in the last two months relative to where we were in say August or September. The economic data looks a little better," said Misra, adding that a further round of quantitative easing stimulus is not likely from the U.S. Federal Reserve.
As expected, the Fed held interest rates unchanged in a range of zero to 0.25 percent on Tuesday.
U.S. municipal bonds will see more volatility and a steeper yield curve in the coming year. The long end of the curve could see yields rising by 35 to 50 basis points or more, BofA said.
If the popular Build America Bonds, the taxable municipal debt created in last year's federal stimulus act, fail to win an extension from the U.S. Congress, "rates would be expected to back up even more than where they are today, but the constraint will be whether or not there are supply pressures."
BofA forecast emerging market economic growth of 6.4 percent in 2011, down from 7.4 percent seen this year as growth in imports will outstrip that of exports due to rising domestic demand.
Inflation is expected to rise to 5.5 percent for the sector next year, then moderate to 4.9 percent in 2012, said Alberto Ades, co-head of global emerging markets fixed income strategy and economics.
Central banks will react to inflationary pressures, Ades said, by raising interest rates and accumulating foreign exchange reserves to more than $590 billion in 2011.
"We see inflationary pressures developing next year on the back of strong growth and higher commodity prices," Ades said.
Emerging market currencies should appreciate about 6 percent in real terms in 2011, mostly due to inflation.
Additional reporting by Manuela Badawy, Caroline Valetkevitch, Edward Krudy, and Karen Pierog; Editing by Leslie Adler