Recent weakness in the stocks of capital markets firms presents an attractive buying opportunity, says independent investment research firm BCA Research in a new report.

“The capital markets group has been in corrective mode for the last two months. We view this setback as an opportunity to build positions and recently boosted positions to overweight, because a lull in new issuance and M&A activity is rapidly being discounted,” it says in a research note.

“Importantly, if inflation expectations continue to recede, then new stock and bond issuance may be quick to revive and take over the profit baton from proprietary trading, or at least make for a more level playing field,” it says.

“Low and/or falling inflation expectations are often associated with a firming in M&A activity, as fear of a monetary crunch subsides. In fact, the divergence between inflation expectation and Treasury yields suggests that the real component of bond yields has been firm, and argues against expecting an imminent deal-inhibiting economic crunch, although some weakness should occur if the economy slows as we expect,” BCA adds. “Regardless, a divergence between inflation expectations and yields opened in mid-2005, coinciding with an upturn in capital market stock relative performance. A replay looms.”