The first part of the new year could be tough for stocks as lackluster corporate earnings fail to justify indexes at record highs, according to Bank of America Merrill Lynch.
Savita Subramanian, the bank's chief quant and equity strategist, said in a note Thursday the current bull market "feels toppy," noting the S&P 500's three-month earnings revision ratio was essentially flat between November and December. In other words, the corporate earnings outlook has not improved. She added December's ratio of 0.68 is also well below the long-term average of 0.86.
Stocks are coming off a blockbuster year in which the S&P 500 surged nearly 30% and hit record highs. The benchmark rose again to a new record on Thursday, the first trading day of 2020.
However, this strong performance now puts more pressure on companies to deliver strong corporate earnings. If they don't the broader market could be in for a rocky ride.
"S&P 500 returns have displayed predictable patterns based on the pace of upward or downward revisions," Subramanian noted. "Our near-term indicators suggest that markets could have a weak start to the year."
Data from The Earnings Scout show analysts lowered their first-quarter profit estimates on 10 of the 15 companies that recently reported earnings. These companies include FedEx, Nike and semiconductor builder Micron Technology.
Corporate earnings were lackluster in the first three quarters of 2019 as growth remained flat in the first half of the year. In the third quarter, S&P 500 earnings fell by 2.2% on a year-over-year basis.
Bank of America is not too optimistic about the rest of 2020, either. Subramanian has a 3,300 target on the S&P 500. That represents just 2.1% upside from 3,230.78, where the broad index ended 2019.
To be sure, Subramanian has a more optimistic view about the rest of the decade. She expects the S&P 500 to return an average of 5% annually to investors throughout the 2020s and reach 5,050.
—CNBC's Michael Bloom contributed to this report.