Wallets Wide Open For GenAI

While personal computer sales were on the decline before the pandemic, signs are pointing to an upcoming boost. ----- Transcript -----Welcome to Thoughts on the Market. I'm Erik Woodring. Morgan Stanley's U.S. IT Hardware Analyst. Along with my colleagues, bringing you a variety of perspectives, today I'll discuss why we're getting bullish on the personal computer space. It's Thursday, May 11th, at 10 a.m. in New York. PC purchases soared during COVID, but PCs have since gone through a once in a three decades type of down cycle following the pandemic boom. Starting in the second half of 2021, record pandemic driven demand reversed, and this impacted both consumer and commercial PC shipments. Consequently, the PC total addressable market has contracted sharply, marking two consecutive double digit year-over-year declines for the first time since at least 1995. But after a challenging 18 months or so, we believe it's time to be more bullish on PCs. The light at the end of the tunnel seems to be getting brighter as it looks like the PC market bottomed in the first quarter of 2023. Before I get into our outlook, it's important to note that PCs have historically been a low growth or no growth category. In fact, if you go back to 2014, there was only one year before the pandemic when PCs actually grew year-over-year, and that was 2019, at just 3%. Despite PCs' low growth track record and the recent demand reversal, our analysis suggests the PC addressable market can be structurally higher post-COVID. So at face value, we're making a bit of a contrarian bullish call. This more structural call is based on two key points. First, we estimate that the PC installed base, or the number of pieces that are active today, is about 15% larger than pre-COVID, even excluding low end consumer devices that were added during the early days of the pandemic that are less likely to be upgraded going forward. Second, if you assume that users replace their PCs every four years, which is the five year pre-COVID average, that about 65% of the current PC installed base or roughly 760 million units is going to be due for a refresh in 2024 and 2025. This should coincide with the Windows 10 End of Life Catalyst expected in October 25 and the 1 to 3 year anniversary of generative A.I. entering the mainstream, both which have the potential to unlock replacement demand for more powerful machines. Combining these factors, we estimate that PC shipments can grow at a 4% compound annual growth rate over the next three years. Again, in the three years prior to COVID, that growth rate was about 1%. So we think that PCs can grow faster than pre-COVID and that the annual run rate of PC shipments will be larger than pre-COVID. Importantly though, what drives our bullish outlook is not the consumer, as consumers have a fairly irregular upgrade pattern, especially post-pandemic. We think the replacements and upgrades in 2024 and 2025, will come from the commercial market with 70% of our 2024 PC shipment growth coming from commercial entities. Commercial entities are much more regular when it comes to upgrades and they need greater memory capacity and compute power to handle their ever expanding workloads, especially as we think about the potential for A.I. workloads at the edge. To sum up, we're making a somewhat contrarian call on the PC market rebound today, arguing that one key was the bottom and that PC companies should outperform in the next 12 months following this bottom. But then beyond 2023, we are making a largely commercial PC call, not necessarily a consumer PC call, and believe that PCs have brighter days ahead, relative to the three years prior to the pandemic. Thanks for listening. If you enjoy the show, please leave us a review on Apple Podcasts and share Thoughts on the Market with a friend or colleague today.

11 Touko 20233min

With the debt ceiling debate seemingly making little headway, it may be critical for investors to track market developments in the near future.----- Transcript -----Welcome to Thoughts on the Market. I'm Michael Zezas, Global Head of Fixed Income and Thematic Research for Morgan Stanley. Along with my colleagues bringing you a variety of perspectives, I'll be talking about the debt ceiling and its impact on markets. It's Wednesday, May 10th at 10 a.m. in New York. Congressional leaders met at the White House on Tuesday to hammer out a deal to raise the debt ceiling and avoid a government bond default. Reports following the meeting suggest little progress was made. That news shouldn't necessarily be surprising or discouraging. Initial rounds of legislative negotiations are often just a venue for each side to state their position. It often takes the urgency of a nearby deadline to catalyze compromise. While this isn't the first debt ceiling challenge for markets, it may be the most critical one, at least since 2011. As we said before, investors need to take seriously the idea that we do something that hasn't been done before, cross the X-date, the date after which Treasury doesn't have enough cash on hand to meet all obligations as they come due. So it's useful to quickly revisit what that would mean. In short, it puts a bunch of options on the table, but most are not good options, suggesting some markets may have to price in greater downside, at least for a time. A benign and plausible outcome would be that if the X-date is crossed, the resulting concern among policymakers, voters and business leaders around missed debt, Social Security, infrastructure and other payments, creates enough pressure on Congress to quickly force a compromise. Other outcomes are less friendly. The White House could choose to avoid default by ignoring the debt ceiling, citing authority under the 14th Amendment, but that could just shift uncertainty from the legislative process to the judicial one, as courts could ultimately decide if the U.S. defaults. The White House could also choose to prioritize payments to bondholders over other government obligations, but this could interrupt payments into the economy that support a substantial amount of consumption and GDP. And, of course, default would be a possibility, but given its far more considerable economic and political downside relative to the other options, this outcome would not be our base case expectation. So how could markets react? Here's what to watch for. The Treasury bills curve could invert further, with shorter maturity yields rising more relative to longer maturity yields. In equity markets, volatility should pick up considerably, and any resolution that crimps economic growth further would underscore the cautious stance of our equity strategy team. So developments over the next couple of weeks will be critical to track. Thanks for listening. If you enjoy the show, please share Thoughts on the Market with a friend or colleague, or leave us a review on Apple Podcasts. It helps more people find the show.

10 Touko 20232min

As oil data in 2023 shows that second-half tightening is less likely, it may be time to alter the narrative around the expected market for the remainder of the year.Important note regarding economic sanctions. This recording references country/ies which are generally the subject of selective sanctions programs administered or enforced by the U.S. Department of the Treasury’s Office of Foreign Assets Control (“OFAC”), the European Union and/or by other countries and multi-national bodies. Any references in this recording to entities, debt or equity instruments, projects or persons that may be covered by such sanctions are strictly incidental to general coverage of the issuing entity/sector as germane to its overall financial outlook, and should not be read as recommending or advising as to any investment activities in relation to such entities, instruments or projects. Users of this recording are solely responsible for ensuring that their investment activities in relation to any sanctioned country/ies are carried out in compliance with applicable sanctions.----- Transcription -----Welcome to Thoughts on the Market. I'm Martijn Rats, Morgan Stanley's Global Commodity Strategist. Along with my colleagues bringing you a variety of perspectives, today I'll discuss how the 2023 global oil market story is changing. It's Tuesday, May the 9th at 4 p.m. in London. Over the last several months, the dominant narrative in the oil market was one of expected tightening in the second half. Although supply outstripped demand in the first quarter, the assumption was that the market would start to tighten from the second quarter onwards and be in deficit once again by the second half, which would lead to a rise in price. At the start of the year, this was also our thesis for how 2023 would play out. However, as of early May, it seems this narrative needs to change. The expectation of second half tightness was largely based on two key assumptions. One, that China's reopening would boost demand, and two, the Russian oil production would start to decline. By now, however, it seems that these assumptions have run their course and are in fact behind us. On China, both the country's crude imports and its refinery runs were already back at all time highs in March, leaving little room for further improvement. On Russia, oil production has fallen from recent peaks, but probably only about 400,000 barrels a day. From here, we would argue that it's becoming increasingly unlikely it will fall much further. The EU's crude and product embargoes have been in place for some time now. Russian oil that flows now will probably continue to flow. That raises the question whether the second half tightening thesis can still be sustained. After OPEC announced production cuts at the start of April, we argued that OPEC was mostly responding to a weakening in the supply demand outlook. Perhaps counterintuitive, but we lowered oil price forecasts already significantly at the time those cuts were announced. Still, with those cuts, we thought that the second half balances would be about 600,000 barrels per day undersupplied, and that that would be enough to keep Brent in the mid-to-upper $80 per barrel range. New data from this past month, however, has further chiseled away at this deficit, which we now project at just 300,000 barrels a day. This is in effect getting very close to a balanced market, and that limits upside to oil prices, at least in the near term. Even this modest undersupply now mostly depends on seasonality in demand and OPEC production cuts. However, when the second half arrives, oil prices will start to reflect expected balances for early 2024. In the first half of '24, seasonality may turn the other way and OPEC production cuts are scheduled to come to an end. Our initial estimate of 2024 balances showed the market in a small surplus, especially in the first half. Looking beyond the next 12 months, oil prices still have long term supportive factors. Demand is likely to continue to grow over the rest of the decade, while investment levels have been low for some time now. However, the structural and the cyclical don't always align, and this is one of those moments. The second half tightness thesis does not appear to be playing out, and we don't see much tightness in the period just beyond that either. We expect Brent oil prices to stay in their recent $75 to $85 per barrel range, probably skewed towards the bottom end of that range later this year when the market enters a period of seasonal softness again and OPEC's voluntary cuts come to an end. Thanks for listening. If you enjoy the show, please leave us a review on Apple Podcasts and share Thoughts on the Market with a friend or colleague today.

9 Touko 20233min

With all the volatility surrounding the banking sector, the Fed raising rates and the continued debt ceiling debate, are consumers finally pulling back on spending? ----- Transcript -----Welcome to Thoughts on the Market. I'm Mike Wilson, Chief Investment Officer and Chief U.S. Equity Strategist for Morgan Stanley. Along with my colleagues bringing a variety of perspectives, I'll be talking about the latest trends in the financial marketplace. It's Monday, May 8th, at 11 a.m. in New York. So let's get after it. In this week's podcast, I will discuss three major topics on investors' minds. First quarter Earnings results, the Fed's decision to raise rates last week, and how the consumer is holding up in the face of a debt ceiling debate with no easy solutions. First, on earnings, the first quarter earnings per share beat consensus expectations by 6 to 7%. Furthermore, second quarter guidance is held up better than we expected coming into the quarter. That said, it's important to provide some context. First quarter estimates came down 16% over the past year, double the 20 year average decline over equivalent periods and a more manageable hurdle for companies to clear. Furthermore, the macro data improved in January and February as seasonal adjustments and easy comparisons, with the early 2022 break out of Omicron flattered the growth rate. Nevertheless, this improvement also helped earnings results on a year-over-year basis and provided a boost to company confidence about where we are in the cycle. Unfortunately, many of the leading macro data we track have fallen and are now pointing to a similar reacceleration in earnings per share growth that the consensus expects. Ironically, this comes as many companies position 2023 growth recoveries as being contingent on a solid macro backdrop. If one is to believe our leading indicators that point pointed downward trends in earnings per share surprise and margins over the coming months, stocks will likely follow that negative path lower. With regards to the Fed, Chair Powell pushed back on the likelihood of interest rate cuts that are now priced in the bond markets. While bonds and stocks faded after these comments, they closed the week on a strong note. We believe the equity market continues to expect the best of both worlds, interest rate cuts and durable growth. We view the likelihood of reacceleration in growth in conjunction with interest rate cuts is very low. Instead, we believe another chapter of our fire and ice narrative is possible. In other words, a tighter Fed even as growth slows towards recession. This would be a difficult environment for stocks. So what are consumers telling us? Today, we published our latest AlphaWise Consumer Survey. Consumers continue to expect a pullback in spending for most categories over the next six months. Consumers still plan to spend more on essentials like groceries and household supplies. However, they are looking to pull back on discretionary goods spending categories with the most negative net spending intentions are consumer electronics, leisure activities, home appliances and food away from home. Grocery is the only category where low and middle income consumers said they’re planning to spend incrementally more over the next six months. They are not planning to spend more on any services categories. For high income consumers, travel is the only services category where spending intentions are positive and grocery is the only goods category where spending intentions are positive. Interestingly, the high income group indicated negative spending intentions for food away from home and leisure services. Bottom line, the consumer looks to finally be pulling back from an incredible two year run of spending. That was always unsustainable in our view. Some of this may be due to inflation and dwindling savings, but also the very public debate around the debt ceiling, which does not appear to have any easy solution. This is just another wildcard risk for stocks as we head into the summer. Thanks for listening. If you enjoy Thoughts on the Market, please take a moment to rate and review us on the Apple Podcast app. It helps for people to find the show.

8 Touko 20233min

The Federal Reserve pausing on hiking interest rates has historically been good for markets. But given current conditions, history may not repeat itself.----- Transcript -----Welcome to Thoughts on the Market. I'm Andrew Sheets, Chief Cross-Assets Strategist for Morgan Stanley. Along with my colleagues bringing you a variety of perspectives, I'll be talking about trends across the global investment landscape and how we put those ideas together. It's Friday, May 5th at 2 p.m. in London. The Federal Reserve raised interest rates 25 basis points this week and have now raised their benchmark policy rate 5% over the last 14 months. That's the fastest increase in over 40 years, and for now we think it's enough. Morgan Stanley's economist forecasts the Fed won't make additional rate hikes or cuts for the rest of this year. In market parlance, the Fed will now pause. The question, of course, is whether the so-called pause is good for markets. In 1985, 1995, 1997, 2006 and 2018, buying stocks once the Fed was done raising rates resulted in good returns over the following 6 to 12 months. And this result does make some intuitive sense. If the Fed is no longer increasing rates and actively tightening policy, isn't that one less challenge for the stock market? Our concern, however, is that current conditions look different to these past instances, where the last rate hike was a good time to be more optimistic. Today, current levels of industrial production and leading economic indicators are weaker, inflation is higher, bank credit is tighter, and the yield curve is more inverted than any of these prior instances since 1985, where a pause boosted markets. In short, current data suggest higher inflation and a sharper slowdown than past instances where the last Fed hike was a good time to buy. And for these reasons, we worry about lumping current conditions in with those prior examples. So far, I've focused on performance following a pause in Fed rate hikes from the perspective of equity markets. Yet the picture for bonds is somewhat different. Whereas future performance for stocks is quite dependent on the growth outlook, U.S. Treasury bonds have historically done well after the last Fed rate hike under a variety of growth scenarios, whether good or poor. For now, we continue to favor high grade bonds over equities, even if we think the Fed may now be done with its rate hikes. We think that's consistent with the current data looking weaker than prior instances. In turn, stronger growth and lower inflation than we forecast would make conditions start to look a little bit more similar to instances where the last rate hike was a buy signal and would make us more optimistic. Thanks for listening. Subscribe to Thoughts on the Market on Apple Podcasts, or wherever you listen, and leave us a review. We'd love to hear from you.

5 Touko 20232min

The banking sector appears stronger in Europe than it does in the U.S., but some other European sectors may be at risk of lower profitability.----- Transcript -----Welcome to Thoughts on the Market. I'm Graham Secker, Head of Morgan Stanley's European Equity Strategy Team. Along with my colleagues bringing you a variety of perspectives, I'll be talking about our latest thoughts on European equities. It's Thursday, May the 4th at 3 p.m. in London. Over the last couple of months, we have seen global technology stocks significantly outperform global financial stocks, aided by lower bond yields and concerns around the health of the U.S. regional banking sector. Historically, when we have seen tech outperform financials in the past, it has usually been accompanied by material underperformance from European equities. However, this time the region has proved much more resilient. Part of this reflects the benefits of lower valuation and lower investor positioning. However, we also see two broader macro supports for Europe just here. First, we see less downside risk to the European economy than that of the U.S., where many of the traditional economic leading indicators are down at recessionary levels. In contrast, similar metrics for Europe, such as consumer confidence and purchasing managers indices, have actually been rising recently. In addition, a healthier and more resilient banking sector over here in Europe suggests there is potentially less risk of a credit crunch developing here than we see in the U.S.. Second, we think Europe is also seen as an alternative way to get exposure to an economic recovery in China, given that the region has stronger economic ties and greater stock market exposure than most of its developed market peers. While this is not necessarily manifesting itself in overall aggregate inflows into European equity funds at this time, we can clearly see the theme benefiting certain sectors, such as luxury goods, which has arguably become one of the most popular ways to express a positive view on China globally. Notwithstanding these relative advantages, we do expect some near-term weakness in European stocks over the next quarter, with negative risks from the U.S. potentially outweighing positive risks from China and Asia. While first quarter results season has started strongly, we believe earnings disappointment will gradually build as we move through 2023 and our own forecasts remain close to 10% below consensus. Catalysts for this disappointment include slower economic growth, from the second quarter onwards, continued falls in profit margins and building FX headwinds given a strengthening euro. Our negative view on the outlook for corporate profitability often prompts the question as to which companies are over-earning and hence potentially most at risk from any mean reversion. To help answer this question, we ranked European sectors across five different profitability metrics where we compared their current levels to their ten year history. This analysis suggests that the European sectors who are currently over-earning, and hence most at risk of future disappointment include transport, semiconductors, construction materials, energy and autos. In contrast, sectors where profitability does not look particularly elevated at this time include retailing, diversified financials, media, chemicals, real estate and software. More broadly, we believe this analysis supports our cautious view on cyclical stocks within Europe just here, particularly for the likes of energy and autos, where profits are already falling year on year and where we see more downgrades ahead. Instead, we maintain a preference for stocks with higher quality and growth characteristics. We think these should be relative outperformers against the backdrop of economic weakness, falling bond yields and better relative earnings trends. Thanks for listening. If you enjoy the show, please leave us a review on Apple Podcasts and share Thoughts on the Market with a friend or colleague today.

4 Touko 20233min

Congress is finally set to begin debt ceiling negotiations. What are some possible outcomes and how might the negotiations affect economic growth?----- Transcript -----Welcome to Thoughts on the Market. I'm Michael Zezas, Global Head of Fixed Income and Thematic Research for Morgan Stanley. Along with my colleagues, bringing you a variety of perspectives, I'll be talking about the debt ceiling and its impact on markets. It's Wednesday, May 3rd at 9 a.m. in New York. Earlier this week, the Treasury Department informed Congress that at the start of June, it could run out of money to pay government obligations as they come due. This X-date appears much earlier than most forecasters expected, catching markets by surprise. Some investors even expressed to us disbelief, pushing the idea that the real X-date would be later, and Treasury is just trying to stir negotiations in Congress to raise the debt ceiling. Here's our take. The X-date is likely a moving target due the complex interplay of the timing of incoming tax receipts, government outlays and maturing debt securities. So, while it's possible the date ends up being sometime later this summer, the government might not be able to forecast that with a high degree of certainty. In that case, negotiations have to start now to avoid a situation where the X-date sneaks up on Congress, leaving little time to deliberate and risking default. And that seems to have prompted negotiations, with a May 9th meeting at the White House set to kick things off. But we emphasize that an early resolution remains uncertain. Both parties remain far apart on how they'd like to deal with the debt ceiling and in some ways haven't formed consensus within their own parties on the issue either. So the negotiating dynamic is likely to be tricky. That in turn means a range of policy solutions are plausible here, including a temporary suspension of the debt ceiling, unilateral measures by the administration to avoid default, a budget austerity package in exchange for raising the debt ceiling, or perhaps a clean debt ceiling raise. Of course, that level of uncertainty is generally not something markets like. Not surprisingly, we're seeing further inversion of the yield curve for Treasury bills, with notes maturing in June rising to around 5.3%. However, it does dovetail with our general preference for bonds over equities in developed markets this year. If the negotiation lingers too long, investors could become more concerned about the impact of the economic growth outlook, either because payment prioritization puts government transfer payments at risk or budget austerity reduces the trajectory of net government spending. In that case, equity markets could come under pressure, but longer maturity bonds could benefit. Thanks for listening. If you enjoy the show, please share Thoughts on the Market with a friend or colleague, or leave us a review on Apple Podcasts. It helps more people find the show.

3 Touko 20232min

With the trend toward a multipolar world accelerating, companies are finding that investing in productivity may help protect margins. Ravi Shanker and Diego Anzoategui discuss.----- Transcript -----Ravi Shanker: Welcome to Thoughts on the Market. I'm Ravi Shanker, Morgan Stanley's North American Freight Transportation Analyst. Diego Anzoategui: And I'm Diego Anzoategui from the U.S. Economics Team. Ravi Shanker: And on this special episode of the podcast, we discuss what we see as The Great Productivity Race, that's poised to accelerate. It's Tuesday, May 2nd at 10 a.m. in New York. Ravi Shanker: The transition away from globalization to a decentralized multipolar world means companies' ability to source labor globally is contracting. This narrowing of geographical options for companies is making cheap labor, particularly for skilled manufacturing, harder to find. But there is a potential positive, a rebound in productivity which has been anemic for more than a decade. Ravi Shanker: So Diego, what's the connection that you see between the slowing or even reversal of globalization and productivity trends? Diego Anzoategui: If you think about it, the decision to upgrade technologies and increase productivity is like any other type of capital investment. Firms decide to improve their production technologies, either to deal with scarce factors of production or to meet increasing demand. COVID 19 was a negative shock to the labor supply in the U.S., and there is still a long road ahead to reach pre-pandemic levels. On top of that, we think that slowing globalization trends will likely limit labor supply further, causing real wages to increase, and keeping firms under pressure to improve productivity to protect margins. But we think firms will boost productivity investment in the medium term once business sentiment picks up again. And we are past the slowdown in economic activity that we expect in 2023 and into 2024. Expectations are key because the decision to innovate is forward looking, adopting new technologies takes time and the benefits of innovation come with a lag. Diego Anzoategui: Ravi, as a result of COVID and the geopolitical uncertainties from the war in Ukraine, companies have been dealing with a number of significant challenges recently, from supply chain disruptions to worker shortages and energy security. How are companies addressing these hurdles and what kinds of investments do they need to make in order to boost productivity? Ravi Shanker: Look, it's a good question and certainly a focus area for virtually every company anywhere in the world. The last five years have been very challenging and a lot of those challenges have revolved around labor availability and labor cost in particular. So I think companies are approaching this with two broad buckets or two broad focus areas. One is, I think they are trying to reinvest in their labor force. I think for too long companies' labor force was viewed as sort of a source of free money, if you will, an area to cut costs and gain efficiency. But I think companies have realized that, hey, we need to reinvest in our workforce, we need to raise their wages, improve their benefits, give them better working conditions, and make them a true resource that will obviously contribute to the success of the company over time. And the second bucket they're looking at is just broader long term investments in things like automation and productivity technologies, because many of these labor trends are structural, that are demographic issues, that are geopolitical issues, that are not going to reverse anytime soon. So you do need to look for an alternative, particularly in areas where, you know, jobs that people don't want to take on or where the value added from a labor is not as good as automating it. That's where companies are highly focused on the next generation of tools, whether that's automation or A.I. and machine learning. Diego Anzoategui: It seems that A.I. technology holds great promise when it comes to raising productivity growth. In fact, our analysts here at Morgan Stanley believe that A.I. focused productivity revolution could be more global than the PC revolution. What is your thinking around this? Ravi Shanker: Look, I think it's still too early to tell what impact A.I. will have on labor productivity as a whole and the impact of labor at corporations around the world. Take, for example, my sector of freight transportation. We don't make anything, but we move everybody else's stuff. And so by nature of freight transportation, is a very process driven industry and process driven industries by nature kind of iterate to find more efficiency and better ways of doing things, and that's where a lot of these new productivity tools can be very helpful. At the same time, it is also a very labor intensive industry that has some significant demographic challenges, whether it's a truck driver shortage, the inability to find rail workers, warehouse workers on the airline side of the house, the inability to find pilots and so the training and the desire of people to do this job over time may be changing. And that's where something like, you know, automation or A.I. tools can be very, very helpful going forward. However, I think this is still very early innings and we will see how this evolves in the coming years. Ravi Shanker: So finally, Diego, what is your outlook for the US labor market and wages over the next 5 to 10 years and how persistent do you think this productivity race is going to be? Diego Anzoategui: We think that a persistently lower labor supply should gradually boost wages. So far nominal wages have increased less than inflation, but we believe the modest increase in nominal wages is simply evidence of typically sluggish response of wages to price shocks. We expect real wages to pick up ahead and regain lost ground, and without this catch up in wages we leave firms to raise prices rather than upgrade their technologies. Evidence of strong price passthrough in the U.S. is limited and structural changes have made wage price spirals less relevant. Ravi Shanker: Diego, thanks so much for taking the time to talk. Diego Anzoategui: Great speaking with you Ravi.

2 Touko 20236min