expectations. The divergence between inflation breakevens and real yields seem to suggest that investors have become more concerned about upside risk to inflation but downside risk to growth. Interestingly, this shift in investor sentiment runs counter to incoming data which are painting a picture of benign inflation but growth acceleration. Indeed, wage growth remains lackluster while the Fed’s favorite measure of inflation core PCE has slowed to the lowest level in more than a year (Chart 4). In contrast, both employment data and survey data suggest economic growth is on a tear (Figure 5). The Atlanta Fed’s GDPNow model is currently tracking 2.7% GDP growth for Q1. If it is not the data, what is driving the market’s apparent increased concerns about stagflation? Whatever these concerned may be, are they justified? We seek to answer these two critical questions in this report. Chart 4: Core PCE (3m/3m, SA, AR, %) Chart 5: GDP growth and aggregate hours worked (Q/Q, SA, AR, %) 2.9 a 2.3 4 2.1 1.9 2 17 1.5 0 1.3 14 5 0.9 Mar-10 — Jul-1 Nov-12 Mar-14 — Jul-15 = Nov-16 0.7 SOOT TNANANANMMYT HO HH © © = eal GDP growth (AR, %) eee eansgeeBege bee tbba aggregate hours worked (AR, %) SSe2Z8e2F88687Z8 3323 ———= aggregate hours worked, Jan (AR, %) Source: BofA Merrill Lynch Global Research Source: BofA Merrill Lynch Global Research The Trump risk premium Our informal survey of clients in the past two weeks suggests that stagflation concerns are being fed by growing pessimism about the new Trump administration. Clients tell us that their pessimism reflects four main concerns: Downside risk to growth 1. Many investors are concerned that the new administration will get bogged down by its promise to repeal and replace Obamacare, resulting in a significant delay in pushing through fiscal reform 2. This concern is reinforced by the perception that the GOP is divided over the proposed border adjustment tax (BAT), a key element of the tax reform proposal Upside risk to inflation 3.