In a typical warning to investors, Morgan Stanley’s Mike Wilson delivered bad news for the stock market.
The stalwart bear disappointed U.S. stock market investors hoping for a further surge, writing in a note on Tuesday that he thinks economic growth will be weaker than expected.
In fact, the S&P 500 has been surprisingly strong in 2023 — up 18% year-to-date — while the Nasdaq is up about 43% year-to-date as of this writing.
After tech stocks got a boost from the recent boom in artificial intelligence and the economic outlook started to improve as Federal Reserve rate hikes started to bear fruit, many investors expect the good times to continue.
Likewise, the Federal Reserve in June released its forecast for US economic growth, albeit a modest one, which avoided a recession. The consensus among Fed board members and Fed governors is 1% in 2023, 1.1% in 2924, and 1.8% in 2025.
But Wilson was named the No. 1 equity strategist in an October survey corporate investor— said the seemingly optimistic outlook was starting to show cracks.
“At current prices, the market is now pricing in a meaningful re-acceleration in growth, but we think that is unlikely this year, especially for consumers,” Wilson wrote in a report seen by Bloomberg Dow said that September and October data may be weak, but it is not reflected in many stocks and expectations.
Morgan Stanley’s Chief U.S. Equity Strategist further explained his views in his presentation. “Thinking about the Market” This week’s podcast says markets often fail to appreciate that trends — whether gains or losses — are no guarantee of the future.
This year’s gains in stocks have provided confidence to a bearish consensus in early 2023 to shift to a “fundamentally bullish” outlook, Wilson said.
“Whether it’s going up or down, it’s human nature to want to follow the trend,” Wilson reasoned.
“The overall move in major U.S. stock indexes this year is a result of rising valuations,” he explained. “However, with the S&P 500 trading at 20 times forward earnings last month, not only are stocks anticipating higher earnings and growth, but they need to do so now.”
This necessity was a warning Wilson had previously sounded, saying stock prices were in a “death zone” in February, with investors simply unable to get out of “dizzying” share prices and hoping instead that their portfolios would survive and not would have “catastrophic consequences”.
Wilson also noted that while some stocks are enjoying extraordinary returns, the trend isn’t spreading.
The so-called “Big Seven” — which includes Apple, Microsoft, Google parent Alphabet, Amazon, Nvidia, Tesla and Meta — do well in 2023.
So far this year, Apple is up 51%, Microsoft is up 39%, Alphabet is up 52%, Amazon is up 60%, Nvidia is up 240%, Tesla is up 137%, and Meta is up 140%.
Sounds good, right? Incorrect.
Wilson acknowledged that he and many others were too negative after regional banks such as Silicon Valley Bank collapsed earlier this year, only to be forced to change their minds after a recession never materialized.
But strong growth in a handful of stocks doesn’t mean the market is in good shape overall, Wilson said, because growth is limited to “a few … a handful of large-cap growth stocks.”
He continued on the podcast: “In June, breadth improved, weighing on investors’ confidence in upbeat fundamental outcomes. But since then, breadth has flipped again and remains weak. The barbell of growth stocks and defensive stocks, not cyclical or smaller stocks.”
Stock market questions sustainability
While consumer spending remains strong in the face of inflation (up 0.8% in July), shoppers’ money to fight the pandemic has begun to dry up.
Last week, the U.S. Commerce Department said savings were starting to fall – by 3.5%, while the San Francisco Fed said individuals had spent nearly all the savings they had accumulated during the lockdown.
As a result, Wilson continued: “We think equities may start to question the sustainability of our first-half economic resilience. Defensive and growth stocks have outperformed cyclicals.
“We continue to recommend a more defensive growth stance for portfolios, as in the late-cycle environment we are in, fears of recession or financial distress could return at any time, especially heading into September.”