Can Fed Cuts Bring Mortgage Rates Down?

Our CIO and Chief U.S. Equity Strategist Mike Wilson explains how his outlook on earnings and valuations give him a constructive view on U.S. equities for the next 12 months.Read more insights from Morgan Stanley.----- Transcript -----Mike Wilson: Welcome to Thoughts on the Market. I'm Mike Wilson, Morgan Stanley’s CIO and Chief U.S. Equity Strategist. Today on the podcast I’ll discuss where there is the most push back to our Mid-year outlook and why I remain convicted in our generally constructive view on U.S. equities for the next 12 months.It's Monday, June 2nd at 11:30am in New York.So, let’s get after it.To briefly summarize our outlook, we have maintained our 6500 12-month price target for the S&P 500 this year despite what has been a very volatile first five months – both in terms of news flow and price action. Part of the reason we didn’t change this view stems from the fact that we expected the first half to be challenging for U.S. stocks but to be followed by a more favorable second half. Much of this was related to our view that the new administration would pursue the growth negative part of their policy agenda first. This played out -- with their focus on immigration enforcement, spending cutbacks and tariffs. In addition to these policy adjustments, we also expected AI capex to decelerate in the first half after such fast growth last year. All of these factors conspired to weigh on both economic growth and earnings revisions.Second, the way in which tariffs were rolled out on Liberation Day was a shock to most market participants, including us, and served as the perfect catalyst for what can only be described as capitulation selling by many institutional investors. That capitulation has set the stage for the very reflexive snap back in equity prices that is also supported by a positive rate of change on policy, earnings revisions breadth, financial conditions and a weaker U.S. dollar.The main push back to our views centers on our constructive earnings outlook for high single digit growth both this year and next and our view that valuations can remain elevated at 21.5x forward Earnings. On the earnings front, our calendar year earnings estimates already incorporate a mid-single-digit percent hit to bottoms-up consensus forecasts. Second, our Leading Earnings Indicator which projects Earnings Per Share growth 12 months out is suggesting a sideways consolidation in growth in the high single-digit range over the next year.Third, a weaker dollar, elements of the tax bill and AI-driven productivity should be incremental tailwinds for earnings that are not in our model. Fourth, we have experienced rolling recessions for many sectors of the private economy for the last 3 years, which makes growth comparisons easier. Finally, and most importantly, the rate of change on earnings revisions breadth has inflected higher from a very low level after a year-long downturn. On valuation, our work shows that if earnings growth is above the long-term median of 7 percent and if the fed funds rate is down on a year-over-year basis, it's very rare to see multiple compression. In fact, Price Earnings multiples have expanded 90 percent of the time under these conditions to the tune of 9 percent over a 12- month period. Therefore, in some ways we’re being conservative with our forecast for the S&P 500's price earnings ratio to remain flat at current levels over the next year.With respect to our favorite valuation metric, the equity risk premium, it’s interesting to note that in the week following Liberation Day, the Equity Risk Premium reached the same level we witnessed in the aftermath of the 9-11 shock in 2001 and even exceeded the risk premium reached during the Long-Term Capital Management crisis in 1998. Both episodes resulted in 20 percent corrections to the S&P 500 much like we experienced this year only to be followed by very strong equity markets over the next year.The bottom line is that I remain convicted in both our earnings forecast for high single digit earnings growth for this year and next; and my view that valuations can remain elevated in this classic late cycle expansion of slower economic growth that typically elicits interest rate cuts from the Fed.Thanks for tuning in; I hope you found it informative and useful. Let us know what you think by leaving us a review; and if you find Thoughts on the Market worthwhile, tell a friend or colleague to try it out!

2 Kesä 4min

Our Head of Corporate Credit Research explains why the legal confusion over U.S. tariffs plus the pending U.S. budget bill equals a revived focus on interest rates for investors.Read more insights from Morgan Stanley.----- Transcript -----Andrew Sheets: Welcome to Thoughts on the Market. I'm Andrew Sheets, Head of Corporate Credit Research at Morgan Stanley.Today I'm going to revisit a theme that was topical in January and has become so again. How much of a problem are higher interest rates?It's Friday, May 30th at 2pm in London.If it wasn't so serious, it might be a little funny. This year, markets fell quickly as the U.S. imposed tariffs. And then markets rose quickly as many of those same tariffs were paused or reversed. So, what's next?Many tariffs are technically just paused and so are scheduled to resume; and overall tariff rates, even after recent reductions towards China, are still historically high. The economic data that would really reflect the impact of recent events, well, it simply hasn't been reported yet. In short, there is still significant uncertainty around the near-term path for U.S. growth. But for all of our tariff weary listeners, let's pretend for a moment that tariffs are now on the back burner. And if that's the case, interest rates are coming back into focus.First, lower tariffs could mean stronger growth and thus higher interest rates, all else equal. But also importantly, current budget proposals in the U.S. Congress significantly increase government borrowing, which could also raise interest rates. If current proposals were to become permanent. for example, they could add an additional [$]15 trillion to the national debt over the next 30 years, over and above what was expected to happen per analysis from Yale University.Recall that prior to tariffs dominating the market conversation, it was this issue of interest rates and government borrowing that had the market's attention in January. And then, as today, it's this 30-year perspective that is under the most scrutiny. U.S. 30-year government bond yields briefly touched 5 percent on January 14th and returned there quite recently.This represents some of the highest yields for long-term U.S. borrowing seen in the last two decades. Those higher yields represent higher costs that must ultimately be borne by the U.S. government, but they also represent a yardstick against which all other investments are measured. If you can earn 5 percent per year long term in a safe U.S. government bond, how does that impact the return you require to invest in something riskier over that long run – from equities to an office building.I think some numbers here are also quite useful. Investing $10,000 today at 5 percent would leave you with about $43,000 in 30 years. And so that is the hurdle rate against which all long-term investments or now being measured.Of course, many other factors can impact the performance of those other assets. U.S. stocks, in fairness, have returned well over 5 percent over a long period of time. But one winner in our view will be intermediate and longer-term investment grade bonds. With high yields on these instruments, we think there will be healthy demand. At the same time, those same high yields representing higher costs for companies to borrow over the long term may mean we see less supply.Thank you as always, for your time. If you find Thoughts on the Market useful, let us know by leaving a review wherever you listen. And tell a friend or colleague about us today.

30 Touko 3min

After the federal court’s ruling against Trump’s reciprocal tariffs, and an appeals court’s temporary stay of that ruling, our analysts Michael Zezas and Michael Gapen discuss how the administration could retain the tariffs and what this means for the U.S. economy.Read more insights from Morgan Stanley.----- Transcript -----Michael Zezas: Welcome to the Thoughts on the Market. I'm Michael Zezas, Morgan Stanley's Global Head of Fixed Income Research and Public Policy Strategy.Michael Gapen: And I'm Michael Gapen, Chief U.S. Economist.Today, the latest on President Trump's tariffs.It's Thursday, May 29th at 5pm in New York.So, Mike, on Wednesday night, the U.S. Court of International Trade struck down President Trump's reciprocal tariffs. This ruling certainly seems like a fresh roadblock for the administration.Michael Zezas: Yeah, that's right. But a quick word of caution. That doesn't mean we're supposed to conclude that the recent tariff hikes are a thing of the past. I think investors need to be aware that there's many plausible paths to keeping these tariffs exactly where they are right now.Michael Zezas: First, while the administration is appealing this decision, the tariffs can stay in place. But even if courts ultimately rule against the Trump administration, there are other types of legal authorities that they can bring to bear to make sure that the tariff levels that are currently applied endure. So, what the court said the administration had done improperly was levy tariffs under the International Emergency Economic Powers Act (IEEPA).And there's been active debate all along amongst legal scholars about if this was the right law to justify those tariff levies. And so, there's always the possibility of court challenges. But what the administration could do, if the courts continue to uphold the lower court's ruling, is basically leverage other legal authorities to continue these tariffs.They could use Section 122 as a temporary authority to levy the 10 percent tariffs that were part of this kind of global tariff, following the reciprocal trade announcement. They also could use the existing Section 301 authority that was used to create tariffs on China in 2018 and 2019, and extend that across of all China imports; and therefore, fill in the gap that would be lost by not being able to use the International Emergency Economic Powers Act to tariff some of China's imports.So bottom line, there's lots of different legal paths to keep tariffs where they are across the set of goods that they're already applied to.Michael Gapen: So, I think that makes a lot of sense. And with all that said, where do you think we stand right now with tariffs?Michael Zezas: So, if the court ruling were to stand then the 10 percent tariffs on all imports that the U.S. is currently levying, that would have to go away. The 30 percent tariffs on roughly half of China imports, that would've to go away. And the 25 percent tariffs on Canada and Mexico around fentanyl, that would have to go away as well.What you'd be left with effectively is anything levied under section 232 or 301. So that's basically steel, aluminum, automobile tariffs. And tariffs on the roughly half of China imports that were started in 2018 and 2019. But as we said earlier, there's lots of different ways that the authority can be brought to bear to make sure that that 10 percent import tariff globally is continued as well as the incremental tariffs on China.But Michael, turning to you on the U.S. economy, what’s your reaction to the court's ruling? It seems like we're just going to have a continuation of existing tariff policy, but is there something else that investors need to consider here?Michael Gapen: Well, I'm not a trade lawyer. I'm not entirely surprised by the ruling. It did seem to exceed what I'll call the general parameters of the law, and it wasn't what we – as a research group and a research team – were thinking was the most likely path for tariffs coming into the year, as you mentioned. And as we, as a group wrote, we thought that they would rely mainly on section 301 and 232 authority, which would mean tariffs would ramp up much more slowly. And that's what we had put into our original outlook coming into the year.We didn't have the effective tariff rate reaching 8 to 9 percent until around the middle of 2026. So, it reflected the fact that it would take effort and time for the administration to put its plans on tariffs in into place. So, I think this decision kind of shifts our views back in that direction. And by that I mean, we originally thought most of 2025 would be about getting the tariff structure in place. And therefore, the effects of tariffs would be hitting the economy mainly in 2026.We obviously revise things where tariffs would weigh on activity in 2025 and postpone Fed cuts into 2026. So, I think what it does for the moment is maybe tilts risks back in the other direction. But as you say, it's just a matter of time that there appears to be enough legal authority here for the administration to implement their desires on trade policy and tariff policy. So, I'm not sure this changes a lot in terms of where we think the economy's going. So, I'm not entirely surprised by the decision, but I'm not sure that the decision means a lot for how we think about the U.S. economy.Michael Zezas: Got it. So, the upshot there is – really no change from your perspective on the outlook for growth, for inflation or for Fed policy. Is that fair?Michael Gapen: That's right. So, it's still a slow growth, sticky inflation, patient Fed. It's just we're kind of moving around when that materializes. We pulled it into 2025 given the abrupt increase in in tariffs and the use of the IEEPA authority. And now it probably would come later if the lower court ruling stands.Michael Zezas: Right. So, sticking with the Fed. Several Fed speakers took to the airwaves last week, and it sounds like the Fed is still waiting for some of these public policy changes to have an effect on the real economy before they react. Is that a fair way to characterize it? And what are you watching at this point in terms of what determines your expectations for the Fed's policy path from here?Michael Gapen: Yeah, that's right. And I think, given that the appeals court has allowed the tariffs to stay in place as they review the lower court, the trade court's ruling, I think the Fed right now would say: Okay, status quo, nothing has changed.So, what does that mean? And what the Fed speakers said last week, and it also appeared in the minutes, is that the Fed expects that tariffs will do two things with respect to the Fed's mandate. It'll push inflation higher and puts risks around unemployment higher, right? So, the Fed is offsides, or likely to be offsides on both sides of its mandate.So, what Fed speakers have been saying is, well, when this happens, we will react to whichever side of the mandate we're furthest from our target. And their forecasts seem to say and are pretty consistent with ours, that the Fed expects inflation to rise first, but the labor market to soften later. So, what that means for our expectations for the Fed's policy path is they're likely to be on hold as they evaluate that inflation shock.And we'll keep the policy rate where it is to ensure that inflation expectations are stable. And then as the economy moderates and the labor market softens, then they can turn to cuts. But we don't think that happens until 2026. So, I don't think the ruling yesterday and the appeal process initiated today changes that.For now, the tariffs are still in place. The Fed's message is it's going to take us at least until probably September, if not later, to figure out which way we should move. Moving later and right is preferable for them than moving earlier and wrong.Michael Zezas: Got it. So bottom line, from our perspective, this court case was a big deal. However, because the administration has a lot of options to keep tariffs going in the direction that they want, not too much has really changed with our expectations for the outlook for either the tariff path and it's not going to fix to the economy.Michael Gapen: That’s right. That's, I think what we know today. And we'll have to see how things evolve.Michael Zezas: Yep. They seem to be evolving every day. Mike, thanks for speaking with me.Michael Gapen: Thank you, Mike. It's been a pleasure. And thanks for listening. If you enjoy the show, please leave us a review wherever you listen and share Thoughts on the Market with a friend or colleague today.

30 Touko 9min

Our Global Head of Fixed Income Research & Public Policy Strategy, Michael Zezas, shares the answers to clients’ top U.S. policy questions from Morgan Stanley’s Japan Investor Summit.Read more insights from Morgan Stanley.----- Transcript -----Michael Zezas: Welcome to Thoughts on the Market. I’m Michael Zezas, Morgan Stanley’s Global Head of Fixed Income Research & Public Policy Strategy. Today, takeaways from our Japan Investor Summit. It’s Wednesday, May 28th at 10:30am in New York. Last week, I attended our Japan Investor Summit in Tokyo: Two full days of panels on key investment themes and one-on-one meetings with clients from all parts of the Morgan Stanley franchise. During the meeting, Morgan Stanley Research launched its mid year economics and market strategy outlooks. So needless to say there was a healthy dialogue on investment strategy over those 48 hours. And I want to share what were the most frequent questions I received and, of course, our answers to those questions. As you could guess, U.S. tariff policy was a key focus. Could tariffs re-escalate? Or was the worst behind us; and if so, could investors set aside their concerns about the U.S. economy? It’s a complicated issue so accordingly our answer is nuanced. On the one hand, the current state of play is mostly aligned where we thought tariff policy would be by end of year. It’s just arrived much earlier. Higher overall U.S. tariffs with a skew toward higher tariffs on China relative to the rest of world, as the U.S. has less common ground with them and thus greater challenges in reaching a trade agreement with China in a timely manner. So that might imply we’ve arrived at the end point. But we think that’s too simple of a way for investors to think about it. First there’s plenty of potential for escalation from current levels as part of ongoing negotiations. And even if it’s only temporary it could affect markets. Second, and perhaps more importantly, even though the U.S. cutting tariffs on China from very high levels recently brought down the effective tariff rate, it’s still considerably higher than where we started the year. So one’s market outlook will still have to account for the pressures of tariffs, which our economists translate into slower growth and higher recession risk this year. Another key concern – U.S. fiscal policy, and whether the U.S. would be embarking on a path to smaller deficits, in line with campaign promises. Or if the tax and spending bill making its way through Congress would keep that from happening. For investors we think it’s most important to focus on the next year, because what happens beyond that is highly speculative. And we do not expect deficits to come down in the next year. Extending expiring tax cuts, and extending some new ones, albeit with some spending offsets, should modestly expand the deficit next year in our estimates; and some further deficit expansion should come from other factors baked into the budget, like higher interest payments. It's understandable these two questions came up, because we do think the answers are key to the outlook for markets. In particular, they inform some of the stronger views in our markets’ outlook. For example, slower relative U.S. growth and the related potential for foreign investors to increasingly prefer their portfolios reflect their local currency should keep the U.S. dollar weakening – a key call our team started this year with and now continues. Another example, the shape of the U.S. Treasury yield curve. Higher deficits and the uncertainty about inflation caused by tariffs should make for a steeper yield curve. So while we expect U.S. Treasury yields to fall, making for good returns for high grade bonds including corporate credit, the better returns might be in shorter maturities. Thanks for listening. If you enjoy Thoughts on the Market, please leave us a review wherever you listen. And if you like what you hear, tell a friend or a colleague about us today.

28 Touko 3min

Live from the Morgan Stanley Luxury Conference in Paris, our analysts Arunima Sinha and Eduoard Aubin discuss the economic and consumer trends shaping demand for luxury goods.Read more insights from Morgan Stanley.----- Transcript -----Arunima Sinha: Welcome to Thoughts on the Market. I'm Arunima Sinha from Morgan Stanley's Global and U.S. Economics teams.Eduoard Aubin: And I'm Eduoard Aubin, Head of the Luxury Goods team.Arunima Sinha: This episode was recorded last week when we were at the annual Morgan Stanley Luxury Conference in Paris. In it, we bring you an overview of what we heard from companies and investors about the hottest trends in the luxury industry.It's Tuesday, May 27th at 8am in Paris.For several years now, the luxury industry has been riding a post pandemic boom. And the top luxury brands experience 80 percent or greater sales growth between 2019 and [20]24. So Ed, is this trend going to continue or has it started to moderate and why?Eduoard Aubin: No, it has already started to moderate clearly last year. So, the growth rates of some of the leading luxury good brands, you know, over the past, four or five years, was clearly double digit CAGR growth.What we've seen in 2024 – is the market, luxury goods market worldwide has already started to contract. It was very moderate, about 2-3 percent. But it's very unusual because over the past 30 years, the market has contracted only once or twice. So, it started last year already. But we think it's going to, you know, accelerate; the decline could be even a bit more significant this year to low to mid single digit.And there are a number as to – of reasons as to why the market has luxury goods market has moderated. First of all, there's been post-COVID; post pandemic. There's been a wallet shift away from ownership of goods to more spend on experiences such as travel, restaurants, dining out, et cetera.The other thing is that you had a lot of, you know, closets, which were full post the pandemic. People were at home, disposable income was high and there were certainly a lot of, you know, purchase, which was done during the pandemic. And then, and we'll talk about it in a second, there is also this view that maybe luxury good companies have increased prices maybe a bit touch excessively during the pandemic; and potentially pricing out the middle income consumer.Arunima Sinha: This is an incredible conference and we've been talking to a lot of corporates and we've been talking to a lot of investors. What are some of the key debates that you've been hearing about?Eduoard Aubin: So I mean, front and center, it's what's going on in terms of the – from a macro standpoint – in terms of the key, two key markets for the luxury good sector, which are China and the U.S., to put things in perspective, and we look at it on a nationality standpoint here rather than a geographic standpoint.The reason is that there is a lot of cross-border shopping, which is done when it comes to luxury. The Chinese nationals account for about a third of total demand, total spend on the luxury goods market, 32-33 percent. So, they are the number one nationality today, clearly. The number two is the Americans, which account for, who account for about 21-22 percent of the spend.So, combined that's more than 50 percent of the spend and certainly more than supposedly 50 percent of the growth over the next three to five years. So clearly a lot of focus on these two nationalities. What's going on in terms of the wealth effect in China and in the U.S.? What's going on in terms of the health of the middle-income consumer in China and in the U.S.?The other debate related to that is what's going on in terms of international travel? What we've heard from companies during the conference is that there are certainly less Americans now coming to Europe, in this quarter, in the second quarter, and this had been a key driver of the spend over the past few months partially related to the currency.There is also; there are also less Chinese going to Japan, which was also a key – a factor of growth for the industry. Chinese spend about 30 percent of their total spend outside of China, and Japan was the number one market in terms of spend for them in recent years ahead of Europe.And what we've seen and what we heard from the companies attending the conference is that these two nationalities are spending less abroad, which is why we think, the second quarter sales could be a bit under pressure more than in the first quarter.The other debate is about, you know, the middle-income consumers we talked about. Luxury brands have raised prices quite a bit. For some of them they doubled the sales price of the items during the pandemic. And again, there is a debate about the fact that they might have been pricing out the middle-income consumer. And obviously that has come at the time where the discretionary spend of the middle-income consumer, you know, the aspirational customer, has been under pressure.So, it's kind of a double whammy in terms of the propensity of this cohort to spend on luxury goods and for the sector to grow in the medium- to long-term, it cannot just rely on millionaires and billionaires. It has to increase; to recruit, from the middle class. That has been the one of the gross engines of this industry over the past 10, 20, 30 years.And so that's certainly one of the key debate is – when will the products become affordable again? The challenge for the luxury goods company is that you can; there is a cardinal rule in luxury. You can never lower your prices. So, what you can do is you can play a bit with the mix, or you can wait for the discretionary spend to increase and make your product more affordable.But obviously that takes some time. So, these are some of the key debates, you know, that have been discussed at the conference.So Arunima, let's shift our focus from macro to micro concerns. So, we've been talking a lot about the economic outlook, uncertainty around tariffs and currency markets on this podcast. Will these factors hurt luxury consumption?Arunima Sinha: So, this is great timing Ed, because we just published our economics outlooks the global, the U.S., and for other regions. And our basic view is that tariffs, both the levels, the uncertainty around them are going to weigh on growth around the world. They're going to weigh on U.S. consumers quite specifically because here now you have a couple of different ways that tariffs will matter.One, for the general consumer, it's going to be higher prices; so you drive up prices, you're going to drive down real spending. And so, we do have our real spending moderating across the forecast horizon. We go down almost a full two percentage points by the end of [20]25 relative to where we were in 2024. With respect to how we think about consumers spending on discretionary items, we think of labor income being an important factor. We think of wealth; supportive wealth effects and that you already mentioned. And then we also think about just how consumers are feeling uncertain about their prospects for the economy and so on.So, with respect to luxury consumption, we think that it is the last two factors, the supportive wealth effects and how uncertainty was playing out, that's going to matter. So, between 2020 and [20]24, the United States saw some of the largest increases in net worth for U.S. households. So, U.S. households saw $51 trillion in additional net worth being created over this period; that was more than what they saw over the prior decade.And from this 51 trillion pool, about 70 percent went to the top 20 percent of the income cohort, so that's $35 trillion. So, these guys were feeling very positively supported by wealth. And the other factor in this is that it was really tied to financial wealth because that's where we saw some of the largest increases as well.And so, how do we think it's going to weigh on luxury consumers? To the extent that we may not see these very large increases in wealth going forward, given where equity markets, the ride that they've seen over this past year, so far. If we don't have these very large increases in financial wealth, we may not have very large increases in planned consumption for this particular cohort.And so that's driving some of our forecast about the moderation and overall consumption, but it will also translate into just growth for luxury consumption. And the other aspect, of course is uncertainty. So, we do think that there's going to be some resolution of tariff uncertainty this year, but there are other factors in the U.S. that are weighing on policy uncertainty. So where is the fiscal bill going to go? How is immigration going to solve out? So, all of these factors are weighing on the consumer, and they may also be weighing very well on luxury consumption.Great talking with you Ed, we could all find little ways of incorporating luxury in our lives and this conference has really just been an incredible experience. So, thank you and thank you for taking the time to talk with me today.Eduoard Aubin: Great speaking with you, ArunimaArunima Sinha: And thanks for listening. If you enjoy Thoughts on the Market, please leave us a review when you'll listen and share with the podcast with a friend or colleague today.

27 Touko 9min

Global trade tensions have eased after a steadying in U.S. policy shifts, leading our CIO and Chief U.S. Equity Strategist Mike Wilson to make a more bullish case for the second half of 2025.Read more insights from Morgan Stanley.----- Transcript -----Welcome to Thoughts on the Market. I'm Mike Wilson, Morgan Stanley’s CIO and Chief U.S. Equity Strategist. Today on the podcast, I will discuss recent developments on tariffs and interest rates, and how it affects our 12 month view for U.S. Equities.It's Friday, May 23rd at 9am in New York.So, let’s get after it.The reduction in the headline tariff rate on China from 145 percent to 30 percent extended the rally in stocks last week and should help to support both corporate and consumer confidence. More importantly, the 90-day détente came at a critical juncture, in my view, as a few more weeks of what was essentially a trade embargo would have likely led to a recession.Equity market volatility also subsided considerably amid the decline in trade policy uncertainty. In fact, both measures peaked well before the deal with China came together and are now back below where they were pre-Liberation Day. To me, this means trade headwinds have likely peaked in rate of change terms and are unlikely to return to such levels again. This would fit with the capitulatory price action we saw in early April with the average stock in the S&P 500 experiencing a 30 percent drawdown. In short, while the lagging hard data is likely to come in softer over the next coming months, the equity market already priced it in April. In the event of a recession that still arrives, we think the April lows will still hold, assuming it's a mild one with manageable risk to credit and funding markets.As further support for stocks, earnings revisions breadth appears to have bottomed. This indicator has leading properties in terms of the direction of earnings forecasts and is an important gauge of corporate confidence, in our view. The combination of upside momentum in revision breadth and last week's deal with China has placed the S&P 500 firmly back in our original pre-Liberation Day first half range of 5500-6100. Having said that, we think continued upward progress in earnings revisions breadth into positive territory will be necessary to break through 6100 in the near term, given the stickiness of 10-year Treasury yields.Amidst these developments, we released our mid -year outlook earlier this week and updated our base, bear and bull case targets for the S&P 500. In short, we effectively pushed out the timing of our original 6500 price target for the end of this year to 12 months from today. This is mainly due to a less dovish Fed and therefore higher 10-year Treasury yields than our economists and rates strategists expected at the end of last year. We also trimmed our EPS forecasts modestly to adjust for higher than expected tariff rates, at least for now.Looking ahead, we are more bullish today than we were at the end of last year given the growth negative policy announcements are now behind us and the Fed’s next move is likely to be multiple cuts. In short, the rate of change on earnings revisions breadth, interest rates and policy changes from the administration are all now pointing in a positive direction, the opposite of six months ago and why I was not bullish on the first half of this year.The near-term risk for U.S. equities remains very overbought conditions and interest rates. With the Fed on hold due to lingering inflation concerns and Moody’s downgrade of U.S. Treasury debt last Friday, 10-year Treasury yields are back above 4.5 percent; the level where the correlation between equities and rates tends to move back into negative territory. Ultimately, we think the Treasury and Fed have tools they can and will use to manage this risk. However, in the short term, this is a potential catalyst for the S&P 500 to take a break and even lead to a 5 percent correction. We would look to add equity risk into such a correction should it materialize given our bullish 6-12-month view.Thanks for tuning in. I hope you found it informative and useful. Let us know what you think by leaving us a review; and if you find Thoughts on the Market worthwhile, tell a friend or colleague to try it out!

23 Touko 4min

Our analysts Serena Tang and Seth Carpenter discuss Morgan Stanley’s out-of-consensus view on U.S. exceptionalism, and how investors should position their portfolios given the current market uncertainty.Read more insights from Morgan Stanley.----- Transcript -----Seth: Welcome to Thoughts on the Market. I'm Seth Carpenter, Morgan Stanley's Global Chief Economist.Serena: And I'm Serena Tang, Morgan Stanley's, Chief Global Cross-Asset Strategist.Seth: Today, we're going to pick up the conversation where we left it off, talking about our mid-year outlook; but this time I get to ask Serena the questions.It's Thursday, May 22nd at 10am in New York.Serena, we're back for part two of this podcast. Let's jump in where we left off. We've seen a lot of policy surprise in the last six months. We've had a big sell off in the beginning of April, in part inspired by all of this uncertainty.What are you telling clients? What do you think investors should be doing? How should they be positioning their portfolios in the current circumstances?Serena: So, we are recommending going overweight in U.S. equities and going overweight in core fixed income like U.S. treasuries and like investment grade corporate credit. And we have a very strong preference for U.S. over rest of the world assets, except the dollar. Now I think for us, the main message is that you have global growth slowing, which is what you talked about yesterday.But you know, risky assets can look past the low growth and do well, while treasuries can look forward to the many Fed cuts you guys are expecting in 2026 and rally. But if I look at valuations that does suggest equities and credit have completely, almost priced out, growth slowdown odds. Meaning that I think there is still some downside and we'd recommend quality across the board.Seth: In your judgment then, looking around the world at all the different asset classes, how well, or perhaps how poorly, are those asset classes priced for the sort of macro views that we were just discussing?Serena: So I think the market that’s probably least priced for the slowing economy that you and your team have been forecasting is really in the government bond space. I think the prospect of a lot more Fed cuts than what is currently priced into the market will lower government bond yields, particularly starting in 2026.As you know, our rates team has a target of 3.45 percent for U.S. Treasury 10-year yields, and 2.6 percent for U.S. Treasury two-year yields. Meaning that we also get a steeper curve by this time next year. And this translates to more than 10 percent of total returns for U.S. Treasuries – very attractive; in large part because the markets aren't priced for the Fed scenario that you and your team are forecasting.Seth: Let me, then push a little bit on one of the things that I've been talking to clients about, or at least been asked about, which is the dollar. The role of the dollar? U.S. exceptionalism? Is it real?Serena: Yeah that's a great question because I think this is where we are the most out of consensus. If you've noticed, all of our views right now really line up as us being pretty constructive on U.S. dollar assets. Like at a time when everyone's still really debating the end of U.S. exceptionalism. And we really push back against the idea that foreign investors would or should abandon U.S. assets significantly.There are very few alternatives to U.S. dollar assets right now. I mean, like if you look at investible stock market cap, U.S. is nearly five times the size of the next biggest market, which is Europe. And in the fixed income side of things, more than half of liquid high grade fixed income paper is in U.S. dollars.Now, even if there were significant outflows from U.S. dollar assets, there are very few places that money can find a haven, safe or otherwise. This is not to say there won't ever be any other alternatives to U.S. dollar assets in the future. But that shift in market size takes time, which means that TINA -- there is no alternative -- remains a theme for now.Seth: That view on the dollar weakening from here, it's baked into my team's economic forecast. It's baked into the strategy team's forecast across research. So then let me take it one step forward. What does all this mean about portfolio preferences, your recommendation for clients when when they're investing in assets that are not U.S. dollar denominated.Serena: You are right. I mean, if there's one U.S. asset that we just like, it's the U.S. dollar. So, you know, over the next 12 months we expect key factors, which drove the dollar strength. You know, positive growth, yield differentials relative to other G10 economies. Those factors will fade substantially. And we also think because of the political uncertainty in the U.S. currency hedging ratios on exposure to U.S. assets may increase, which could further pressure the U.S. dollar. So, our FX team sees euro/dollar at 1.25 and dollar/yen at 1.30 by the second quarter of 2026.Which means that we're really recommending non-U.S. dollar investors to buy U.S. stocks and fixed income on an FX hedge basis.Seth: If we look forward but focus just on the next, call it three to six months; what asset classes, or if you want, what regions around the world are best positioned, and what would you say to investors?Serena: So, you're right. I think there is a big difference between what we like over the next three to six months versus what we like over the next 12 months. Because if I look at U.S. equities and U.S. government bonds, both of which we're overweight on most of the gains, probably won't happen until the first half of next year because you have to have U.S. equities really feeling the tailwind of dollar weakness. And you need to have U.S. government bond investors to grow more confident that we will get all of those Fed cuts next year.What we do like over the next three to six months and feel pretty highly convicted on is really U.S. investment grade corporate credit, which we think can, you know, do well in the second half of this year and do well in the first half of next year.Seth: But then let's take a step back [be]cause I think investors around the world are wrestling with a lot of the same issues. They're talking to, you know, strategists like us at lots of different places. What would you say are our most out of consensus views right now?Serena: I think we're pretty out of consensus on our preference for U.S. and U.S. dollar assets. As I mentioned, there was still a huge debate on the end of U.S. exceptionalism. Now the other place where I think it's notable is we're much more bullish on U.S. treasuries than what's being priced into markets and where consensus is. And I think that's really been driven by your economics team being much more convicted on many Fed cuts in 2026.And the last thing I would point out here is, again, we're more bearish than consensus on the dollar. If I look at euro/dollar, if I look at dollar/yen, the kind of appreciation we're forecasting for at around through 10 percent, is higher than I think what most investors are expecting at the moment.Now back to Seth. Given all of the uncertainty around U.S. fiscal, trade, and industrial policy, what indicators are you watching to assess whether global growth is becoming more fragile or more resilient?Seth: Yeah, it's a great question. It's always difficult to monitor in real time how things are going, especially with these sorts of shocks. We are looking at a bunch of the shipping data to see how trade flows are going. There was clearly some front-running into the United States of imports to try to get ahead of tariffs. There's got to be some payback for that. I think the question becomes where do we settle in when it comes to trade?I'm going to be looking in the U.S. at the labor market to see signs of reduced demand for labor. But also try to pay attention to what's going on with the supply of labor from immigration restriction. And then there are all the normal indicators about spending, especially consumer spending. Consumer spending tends to drive a lot of the big developed market economies around the world and how well that holds up or doesn't. That's going to be key to the overall outlook.Serena: Thank you so much, Seth. Thanks for taking the time to talk.Seth: Serena, I could talk to you all day.Serena: And thanks for listening. If you enjoy Thoughts on the Market, please leave us a review wherever you listen and share the podcast with a friend or colleague today.

22 Touko 8min

Our analysts Seth Carpenter and Serena Tang discuss why they believe the global economy is set to slow meaningfully in the second half of 2025.Read more insights from Morgan Stanley.----- Transcript -----Serena: Welcome to Thoughts on the Market. I'm Serena Tang, Morgan Stanley's, Chief Global Cross-Asset Strategist.Seth: And I'm Seth Carpenter, Morgan Stanley's Global Chief Economist.Serena: Today we'll discuss Morgan Stanley's midyear outlook for the global economy and markets.It's Wednesday, May 21st at 10am in New York.Seth, you published a year ahead outlook last November. Since President Trump took office back in January, there's been pretty significant policy and economic uncertainty and quite a few surprises. With this in mind, what is your current outlook for the global economy for the second half of this year and into 2026.Seth: So, we titled the outlook Skewed to the Downside because we really do think the U.S. economy, the global economy, is set to slow meaningfully from where we were coming into this year. Let's start with the U.S.As you said, policy changes came in a lot this year since the new administration took over. I would say the two key ones from a macro perspective so far have been trade policy and immigration policy.Tariffs have gone up, tariffs have gone down, tariffs have been suspended. Right now, what we think is going to ultimately take place is that we will see persistent, notable tariffs on China, lower tariffs on the rest of the world, and then we'll have to see how things evolve. What does that mean? Well, it means for the U.S. higher inflation and lower growth. In addition, immigration reform means that growth is going to slow because the growth rate of the labor force is going to slow.Now around the rest of the world, the tariff shock matters as well. When the U.S. puts in tariffs on its imports from other countries, that's negative demand for those other countries. So, we're looking for pretty weak growth in the euro area. Now, I will note, lots of people were excited about possible expansionary fiscal policy in Germany, and we think that's still there. We just don't think it's enough to give the euro area robust growth.In Asia, China's a main driver of the economy. China is a big recipient of these tariffs. We think the deflation cycle that we expected in China keeps going on. This reduction in demand from the U.S. is not going to help, but there'll probably be a little bit at the margin offsetting fiscal policy.So, what does that mean put together? Lackluster growth in China. Call it 4 percent slow growth for yet another year. Overall, the global economy should step down. Will it be a recession? That's one of the key questions that we hear from clients, but we don't think so. Not quite. Just a meaningful step downSerena: Interesting. Any particular regions that seem to be bright spots or surprises -- or perhaps have seen the biggest shift in your outlook?Seth: I guess I'd flag two potential bright spots around the world. The first is India. India has been, for us, a favorite. It will have the highest growth rate of any economy that we have in our coverage area. And because it's such a big economy, that's part of why the global economy can't lose that much steam. India has lots going for it. There are cyclical factors boosting growth in the near term. But there are also longer-term structural policy driven reasons to think that Indian growth will stay solid for the foreseeable future.I guess I'd also throw in Japan. Now its growth rate isn't going to be anywhere near the kind of growth in number terms that we're going to see from India. But this has to be taken in the context of 25 years of essentially zero growth of nominal GDP. The reflationary cycle that we think started a couple years ago remains intact, even with the tariff shock. And so, we're pretty optimistic still that Japanese reflation will continue.Serena: And to what extent are U.S. tariffs contributing to global inflationary pressures? I mean, how do you expect the Fed and other central banks to respond?Seth: The tariffs are imposed by the United States on most of the imports coming into the country, whereas other countries, maybe they have some retaliatory tariffs just against the U.S., but definitely not as broad as the U.S. That means for the U.S. tariffs are going to drive up inflation domestically and drive down growth, whereas for the rest of the world, it's mostly just a negative demand shock. So, they will be disinflationary for the rest of the world and pushing down growth.What does that mean for central banks? Well, outside of the U.S., central banks are going to see this as slowing aggregate demand, and so it's pretty clear what it is that they want to do. If they were hiking, they can stop hiking. If they were going to hold steady, they can lower rates a little bit. And if they were already lowering interest rates like the European Central Bank, well they can probably keep going with that without having to worry. And that's why we think the ECB is going to lower its policy rate to probably 1.5 percent and maybe even lower, which is below where the market is expecting things.Now for the Fed, things are much more tricky. The Fed cares about inflation, the Fed cares about U.S. growth, and both of those variables are going in the opposite direction of what they want over the rest of this forecast. Right now, inflation's too high for the Fed, and history shows that inflation goes up first with tariffs before the growth rate hits. So, the Fed's probably going to wait until the hard data show a bigger slowdown in the economy, a worsening. And the labor market. That is a bigger concern for them than the already too high inflation that is set to rise further over the rest of the year.Serena: And in your view, how does trade policy uncertainty influence business investment, particularly in export-oriented industries or in economies tightly linked to U.S. demand?Seth: Yeah. I think it has to be negative and therein lies one of the biggest challenges is just how negative. And I can't say for sure. But what we do know is that an uncertainty tends to be very negative for business investment spending decisions. If you're trying to make a decision, should I build a new factory?This is something that's going to have a long life to it, and you're going to get benefits hopefully for several years. How big are those benefits relative to the cost? Well, right now it's not at all clear, and so there's an option value to waiting.And we think that uncertainty is depressing investment decisions right now. I think it has to affect export-oriented industries. There's a lot of questions about what sort of retaliatory tariffs, other countries might impose.But it also affects domestic driven businesses because, well, they're going to have to see what their demand is. And some of the ones that are just focused on the U.S. economy are selling imported goods. So, it affects businesses across the board. Serena: Right. And how do U.S. tariff hikes spill over into emerging markets, and how might these countries buffer against these shocks?Seth: Yeah, I think there's a range of outcomes and the range is as wide as there are different countries. If you stay close to home. Take Mexico. Mexico is a big trading partner with the U.S. and early on in this whole tariff discussion, they were actually the targets of lots of tariff threats. That could have hurt them directly because there'd be less demand for their exports to the United States.Now we've got some resolution. We have the trade agreement with Canada and Mexico, and most of Mexico's exports to the U.S. are exempt under those conditions. However, the indirect effect is important as well. Mexico is very attached to the U.S. economy, and so as the U.S. economy slows because of these tariffs, the Mexican economy will slow as well.But there's also an indirect effect through currency markets, and I think this is a channel that's more broadly applicable across EM. If the Fed is going to be on hold, like we think holding interest rates higher for longer than the market might currently think, that means that EM central banks who might want to lower their policy rate to support their economy are going to be caught in a bit of a bind.They can't afford to take the risks that their currency will misbehave if they ease too much too far ahead of the Fed. And so, I think there is a little bit of a constraint for EM central banks, thinking about how much can I attend to domestic matters and how much do I have to pay attention to external matters?Serena: Now, I know forecasting economic growth is difficult in even the best of times, and this has been a period of exceptional volatility. How are you and your economic colleagues factoring all of this uncertainty?Seth: It's a great question and luminary minds like Neils Bohr, the Nobel Laureate in physics, and Yogi Berra, everyone's favorite prophet, have both said, ‘Forecasting is hard, especially about the future.’ And this time, as you note, is even more so. So, what can we do? We try to come up with as many different scenarios as we can. We ask ourselves not just what's the most likely outcome, because there's uncertainty. The policy changes could come fast and furious. We also try to ask ourselves, if tariffs were to go back up from where they are now, how would that outcome turn out. If tariffs were to go away entirely, how would that turn out?You have to start thinking more and more, I think, in terms of scenarios.Serena:  And does this, in your view, change how much or how little investors should focus on the macro economy?Seth: Well, I think it means that investors have to focus every bit as much on the macro economy as they have in the past. I think it's undeniable that if we're right – and the U.S. economy slows down materially, and the global economy slows down with it – longer-term interest rates are probably going to come down along the lines of what our colleagues in interest rate strategy think. That makes a lot of sense to me. I think the trickier part though is knowing where the macro economy is going.We've got our forecast, but we are ready to make a revision if the facts change. And I think that's the trickier part for investors. The macro economy still matters but having a lot of conviction about where it's going, and as a result, what it means for asset prices? Well, that's the trickier part.Serena, you've been asking me lots of questions and they've been great questions, but I'm going to turn the table. I'm going to start asking questions right back to you.But we probably have to save that for another episode. So, let's pause it there.Serena: That sounds great Seth.Seth: And to the people listening, I want to say thanks for listening. And if you enjoy Thoughts on the Market, please leave us a review wherever you listen and share the podcast with a friend or a colleague today.

21 Touko 10min