What’s Next for the India-China Trade?
Our Chief Asia Economist Chetan Ahya discusses how the evolving trade relationship between India and China could redefine global supply chains and unlock new investment opportunities.Read more insights from Morgan Stanley.----- Transcript ----- Welcome to Thoughts on the Market. I’m Chetan Ahya, Morgan Stanley’s Chief Asia Economist. Today – one of the most important economic relationships of our time: India and China. And what the future may hold. It’s Thursday, September 11th at 2 pm in Hong Kong.Trade dynamics between India and China are evolving rapidly. They are not just shaping their own futures. They are influencing global supply chains and investment flows. India’s trade with China has nearly doubled in the last decade. India’s bilateral trade deficit with China is its largest—currently at U.S. $120 billion. On the flip side, China’s trade surplus with India is the biggest among all Asian economies. We expect this trade relationship to deepen given economic imperatives. India needs support on tech know-how, capital goods and critical inputs; and China needs to capitalize on growth opportunities in the second largest and fastest growing EM. Let’s explore these issues in turn. India needs to integrate itself into the global value chain. And to do that, India needs Foreign Direct Investment from China, much like how China’s rise was fueled by Foreign Direct Investment from the U.S., Europe, Japan, and Korea, which brought the technology and expertise. For India, easing restrictions on Chinese FDI could be a game-changer, enabling the transfer of tech know-how and boosting manufacturing competitiveness. Now, China is the world’s manufacturing powerhouse. It accounts for more than 40 percent of the global value chain—far ahead of the U.S. at 13 percent and India at just 4 percent. The global goods trade is increasingly focused on products higher up the value chain—think semiconductors, EVs, EV batteries, and solar panels. And China is the top global exporter in six of eight key manufacturing sectors. To put it quite simply, any economy that is looking to increase its participation in global value chains will have to increase its trade with China. For India, this means that it must rely on Chinese imports to meet its increasing demand for capital goods as well as critical inputs that are necessary for its industrialization. In fact, this is already happening. More than half of India’s imports from China and Hong Kong are capital goods—i.e. machinery and equipment needed for manufacturing and infrastructure investment. Industrial supplies make [up] another third of the imports, highlighting India’s dependence on China for critical inputs. From China’s perspective, India is the second largest and fastest-growing emerging market. And with U.S.-China trade tensions persisting, China is diversifying its exports markets, and India represents a significant opportunity. One way Chinese companies can capture this growth opportunity is to invest in and serve the domestic market. Chinese mobile phone companies have already been doing this and whether this can broaden to other sectors will depend on the opening up of India’s markets. To sum up, India can leverage on China’s strengths in manufacturing and technology while China can utilize India’s vast market for exports and investment.However, there’s a caveat: geopolitics. While economic imperatives point to deeper trade and investment ties, political developments could slow progress. Investors should watch this space closely and we will keep you updated on key developments. 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.
11 Sep 20254min
Why Gold Still Holds Glitter in Markets
Our Metals & Mining Commodity Strategist Amy Gower discusses her bullish outlook for gold and what the metal’s rally in 2025 says about inflation, central banks, and global risk.Read more insights from Morgan Stanley.----- Transcript -----Welcome to Thoughts on the Market. I’m Amy Gower, Morgan Stanley’s Metals & Mining Commodity Strategist. Today, we’re talking about gold, a metal that’s more than just a safe haven for investors, and what it tells us about the global economy and markets right now.It’s Wednesday, September 10th, at 3pm in London. Gold has always been the go-to asset in times of uncertainty. But in 2025, its role is evolving. Investors are watching gold not just as a hedge against inflation, but as a barometer for everything from central bank policy to geopolitical risk. When gold prices move, it’s often a sign that something big is happening beneath the surface.Gold and silver have both already clocked up hefty year-to-date gains of 39 and 42 percent respectively. So, what’s been driving this rally? Well, several factors stand out. For one, central banks are on track for another year of strong buying, with gold now representing a bigger share of central bank reserves than treasuries for the first time since 1996. This is a strong vote of confidence in gold’s long-term value. Also, gold-backed Exchange-Traded Funds, or ETFs, saw inflows of $5 billion in August alone, with the year-to-date inflows the highest on record outside of 2020, signaling renewed interest from institutional investors too. With inflation still above target in many major economies, gold’s appeal has been surprisingly resilient despite being a non-yielding asset. And investors are betting that central banks may soon have to cut rates, which could further boost gold prices. In fact, from here we see around 5 percent further upside to gold by year end to $3800/oz which would be a new all-time high. But there is one important wrinkle to consider. Keep in mind that while precious metals, especially gold, are primarily seen as a hedge and safe haven in times of macro uncertainty, jewelry is a big chunk of the overall precious metals market. It accounts for 40 percent of gold demand and 34 percent of silver demand. And right now how jewelry demand will evolve remains an unknown. In fact, jewelry demand is already showing signs of weakness. Second-quarter gold jewelry demand was the worst since the third quarter of 2020 as consumers reacted to high prices. Nonetheless, gold was able to hold onto its January-April gains, and silver continued to grind higher, supported by strong demand from the solar industry as well. However, until recently, the two metals were lacking catalysts for further gains. Now though this is changing, with both gold and silver poised to benefit from expected Fed rate cuts. Our economists expect the Fed to cut rates at the September meeting, for the first time since December 2024. And if we look back to the 1990s, on average gold and silver prices have risen 6 and 4 percent respectively in the 60 days following the start of a Fed rate-cutting cycle as lower yields make it easier for non-yielding assets to compete. Our FX strategists also expect further dollar weakness, which should ease some of the price pressures for holders of non-USD currencies, while India’s imports of gold and silver already showed signs of improvement in July. The country is looking also to reform its Goods and Services tax, which could free up purchasing power for gold and silver ahead of festival and wedding season. Gold does tend to outperform after Fed rate cuts, and we would keep the preference for gold over silver, but our outlook for both metals remains positive. Of course, precious metals are not risk-free. Prices can be volatile, and if central banks surprise the market with higher interest rates, gold in particular could lose some of its luster. But for now, both gold and silver should continue to shine. 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.
10 Sep 20254min
Can AI Make Healthcare Less Expensive?
Many Americans struggle with the rising cost of healthcare. Analysts Terence Flynn and Erin Wright explain how AI might bend the cost curve, from Morgan Stanley’s 23rd annual Global Healthcare Conference in New York.Read more insights from Morgan Stanley.----- Transcript -----Terence Flynn: Welcome to Thoughts on the Market. I'm Terence Flynn, Morgan Stanley's U.S. Biopharma Analyst.Erin Wright: And I'm Erin Wright, U.S. Healthcare Services Analyst.Terence Flynn: Thanks for joining us. We're actually in the midst of the second day of Morgan Stanley's annual Global Healthcare Conference, where we hosted over 400 companies. And there are a number of important themes that we discussed, including healthcare policy and capital allocation.Now, today on the show, we're going to discuss one of these themes, healthcare spending, which is one of the most pressing challenges facing the U.S. economy today.It is Tuesday, September 9th at 8am in New York.Imagine getting a bill for a routine doctor's visit and seeing a number that makes you do a double take. Maybe it's $300 for a quick checkup or thousands of dollars for a simple procedure.For many Americans, those moments of sticker shock aren't rare. They are the reality.Now with healthcare costs in the U.S. higher than many other peer countries on a percentage of GDP basis, it's no wonder that everyone – not just investors – is asking; not just, ‘Why is this happening?’ But ‘How can we fix it?’ And that's why we're talking about AI today. Could it be the breakthrough needed to help rein in those costs and reshape how care is delivered?Now I'm going to go over to you, Erin. Why is U.S. healthcare spending growing so rapidly compared to peer countries?Erin Wright: Clearly, the aging population in the U.S. and rising chronic disease burden here are clearly driving up demand for healthcare. We're seeing escalating demand across the senior population, for instance. It's coinciding with greater utilization of more sophisticated therapeutics and services. Overall, it's straining the healthcare system.We are seeing burnout in labor constraints at hospitals and broader health systems overall. Net-net, the U.S. spent 18 percent of GDP on healthcare in 2023, and that's compared to only 11 percent for peer countries. And it's projected to reach 25 to 30 percent of GDP by 2050. So, the costs are clearly escalating here.Terence Flynn: Thanks, Erin. That's a great way to frame the problem. Now, as we think about AI, where does that come in to help potentially bend the cost curve?Erin Wright: We think AI can drive meaningful efficiencies across healthcare delivery, with estimated savings of about [$]300 to [$]900 billion by 2050.So, the focus areas include here: staffing, supply chain, scheduling, adherence. These are where AI tools can really address some of these inefficiencies in care and ultimately drive health outcomes. There are implementation costs and risks for hospitals, but we do think the savings here can be substantial.Terence Flynn: Great. Well, let's unpack that a little bit more now. So, if you think about the biggest cost buckets in hospitals, where can AI help out?Erin Wright: The biggest cost bucket for a hospital today clearly is labor. It represents about half of spend for a hospital. AI can optimize staffing, reduce burnout with a new scribe and some of these scribe technologies that are out there, and more efficient healthcare record keeping. I mean, this can really help to drive meaningful cost savings.Just to add another discouraging data point for you, there's estimated to be a shortage of about 10,000 critical healthcare workers in 2028. So, AI can help to address that. AI tools can be used across administrative functions as well. That accounts for about 15 to 20 percent of spend for a hospital. So, we see substantial savings as well across drugs, supplies, lab testing, where AI can reduce waste and improve adherence overall.Terence Flynn: Great. Maybe we'll pivot over to the managed care and value-based care side now. How is AI being used in these verticals, Erin?Erin Wright: For a healthcare insurer – and they're facing many challenges right now as well – AI can help personalize care plans. And they can support better predictive analytics and ultimately help to optimize utilization trends. And it can also help to facilitate value-based care arrangements, which can ultimately drive better health outcomes and bend the cost curve. And ultimately that's the key theme that we're trying to focus on here.So, I'll turn it over to you, Terence, now. While hospitals and payers could see notable benefits from AI, the biopharma side of the equation is just as critical here. Especially when it comes to long-term cost containment. You've been closely tracking how AI is transforming drug development. What exactly are you seeing?Terence Flynn: Yeah, a number of key constituents are leaning in here on AI in a number of different ways. I'd say the most meaningful way that could help bend the cost curve is on R&D productivity. As many people probably know, it can take a very long time for a drug to reach the market anywhere from eight to 10 years. And if AI can be used to improve that cycle time or boost the probability of success, the probability of a drug reaching the market – that could have a meaningful benefit on costs. And so, we think AI has the potential to increase drug approvals by 10 to 40 percent. And if that happens, you can ultimately drive cost savings of anywhere from [$]100 billion to [$]600 billion by 2050.Erin Wright: Yeah, that sounds meaningful. How do you think additional drug approvals lead to meaningful cost savings in the healthcare system?Terence Flynn: Look, I mean, high level medicines at their best cure disease or prevent people from being admitted to a hospital or seeking care to doctor's office. Equally important medicines can get people out of the hospital quicker and back to contributing or participating in society. And there's data out there in the literature showing that new drugs can reduce hospital stays by anywhere from 11 to 16 percent.And so, if you think about keeping people out of hospitals or physician offices or reducing hospital stays, that really can result in meaningful savings. And that would be the result of more or better drugs reaching the market over the next decades.Erin Wright: And how is the FDA now supporting or even helping to endorse AI driven drug development?Terence Flynn: If companies are applying for more drug approvals here as a result of AI discovery capabilities without modernization, the FDA could actually become the bottleneck and limit the number of drugs approved each year.And so, in June, the agency rolled out an AI tool called Elsa that's looking to improve the drug review timelines. Now, Elsa has the potential to accelerate these timelines for new therapies. It can take anywhere from six to 10 months for the FDA to actually approve a drug. And so, these AI tools could potentially help decrease those timelines.Erin Wright: And are you actually seeing some of these biopharma companies actually investing in AI talent?Terence Flynn: Yes, definitely. I mean, AI related job postings in our sector have doubled since 2021. Companies are increasingly hiring across the board for a number of different, parts of their workflow, including discovery, which we just talked about. But also, clinical trials, marketing, regulatory – a whole host of different job descriptions.Erin Wright: So, whether it's optimizing hospital operations or accelerating drug discovery, AI is emerging as a powerful lever here – to bend the healthcare cost curve.Terence Flynn: Exactly. The challenge is adoption, but the potential is transformative. Erin, thanks so much for taking the time to talk with us.Erin Wright: Great speaking with you, Terence.Terence Flynn: And thanks everyone 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.
9 Sep 20257min
A New Bull Market Begins?
Morgan Stanley’s CIO and Chief U.S. Equity Strategist Mike Wilson discusses the outlook for U.S. stocks after Friday's nonfarm payroll data reinforced the thesis of a transition from a rolling recession to a rolling recovery.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’ll be discussing Friday’s Payroll report and what it means for equities. It's Monday, Sept 8th at 11:30am in New York. So let’s get after it. The heavily anticipated nonfarm payroll report on Friday supports our view that the labor market is weak. However, this is old news to the equity market as we have been discussing for months. First, the labor market data is perhaps the most backward-looking of all the economic series. Second, it’s particularly prone to major revisions that tend to make the current data unreliable in real time, which is why the National Bureau of Economic Research typically declares a recession started at a time when most were unaware we were in one. Furthermore, history suggests these revisions are pro-cyclical, meaning they get more negative going into a recession and then more positive once the recovery’s begun. It appears this time is no different. Indeed, Friday’s revisions were better than last month’s by a wide margin suggesting the labor market bottomed in the second quarter. This insight adds support to our primary thesis on the economy and markets that I have been maintaining for the past several years. More specifically, I believe a rolling recession began in 2022 and finally bottomed in April with the tariff announcements made on “Liberation Day.” After the initial phase of this rolling recession, that was led by a payback in Covid pull-forward demand in tech and consumer goods, other sectors of the economy went through their own individual recessions at different times. This is a key reason why we never saw the typical spike in the metrics used to define a traditional recession, although the revisions data is now revealing it more clearly. The historically significant rise in immigration post-covid and subsequent enforcement this year have also led to further distortions in many of these labor market measures. While we have written about these topics extensively over the past several years, Friday’s weak labor report provides further evidence of our thesis that we are now transitioning from a rolling recession to a rolling recovery. In short, we're entering a new cycle environment and the Fed cutting interest rates will be key to the next leg of the new bull market that began in April. Central to our view is the notion that the economy has been much weaker for many companies and consumers over the past 3 years than what the headline economic statistics like nominal GDP or employment suggest. We think a better way to measure the health of the economy is earnings growth, and breadth; as well as consumer and corporate confidence surveys. Perhaps the simplest way to determine if an economy is doing well or not is to ask: is it delivering prosperity broadly? On that score, we think the answer is “no” given the fact that earnings growth has been negative for most companies over the past 3 years. The good news is that growth has finally entered positive territory the past 2 quarters. This coincides with the v-shaped recovery in earnings revisions breadth we have been highlighting for months. We think this supports the notion that the worst of the rolling recession is behind us and likely troughed in April. As usual, equity markets got this right and bottomed then, too. Now, we think a proper rate cutting cycle is likely and necessary for the next leg of this new bull market. Given the risk that the Fed may still be focused on inflation more than the weakness in the lagging labor market data, rate cuts may materialize more slowly than what equity investors want. Combined with some signs that liquidity may be drying up a bit as both corporate and Treasury issuance increases, it would not surprise me if equity markets go through some consolidation or even a correction during the seasonally weak time of the year. Should that happen, we would be buyers of that dip and likely even consider moving down the quality curve in anticipation of a more dovish Fed and coordinated action with the Treasury. Bottom line, a new bull market for equities began with the trough in the rolling recession that began in 2022. It’s still early days for this new bull which means dips should be bought. 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!
8 Sep 20254min
Why the U.S. Dollar Still Smiles
Our G10 FX Market Strategist Andrew Watrous challenges the prevailing market view on the U.S. dollar, reaffirming the relevance of Morgan Stanley’s "dollar smile" framework. Read more insights from Morgan Stanley.----- Transcript -----Welcome to Thoughts on the Market. I’m Andrew Watrous, G10 FX Strategist at Morgan Stanley. Today – a look at how the US dollar behaves under different global growth circumstances. And why – contrary to the views of some observers – we think the dollar still smiles.It’s Friday, September 5, at 10 AM in New York.We've been talking a good amount on this show about the US dollar – not just as a currency, but as the cornerstone of the global financial system. As the world’s reserve currency, its movements ripple across markets everywhere. The trajectory of the dollar affects everything from your portfolio’s performance to the cost of your next international vacation.Let’s start with the “dollar smile,” which is a framework Morgan Stanley FX strategists developed back in 2001, to explain how the dollar behaves under different global growth scenarios.Picture a smile-shaped curve: On the lefthand side, the dollar rises, goes up, when global growth is concerningly weak as nervous investors flock to US assets as a safe haven. On the right side of the smile, when US growth outperforms growth in the rest of the world, capital flows into the US, boosting the dollar. In the middle of the curve – which is the bottom of the smile – the dollar weakens, goes down, when growth is robust around the world and synchronized globally. In that environment - middle of the smile - investors seek riskier assets which weighs on the dollar - in part because they could borrow in dollars and invest outside the US.It’s kind of a simple framework, right? But here’s the twist: some investors argue that the left side of the smile might be broken. In other words, they say that the dollar no longer rises if people are really worried about global growth.They say that if the US itself is the source of the growth shock -- whether it’s political uncertainty or trade wars -- the dollar shouldn’t benefit. Or that the rise in US interest rates, which makes it more expensive to borrow in the US and invest abroad, or changes in the structure of global asset holdings, might mean that growth scares won’t lead to an inflow to the US and a dollar bid.We disagree with those challenges to the dollar smile framework.To quantify the dollar smile, in order to test whether it still works, we started by using Economic Surprise Indices. These indices measure how actual economic data compares to forecasts.We found that when growth in the US and outside the US are both surprisingly weak - in other words they’re much weaker than forecasted - the dollar rises on average about 0.8% per month over the past 20 years. Then on the right side of the dollar smile, when US growth really outperforms expectations, but growth outside the US underperforms expectations, the dollar goes up even more—about 1.1% on average per month. And in the middle of the dollar smile, during synchronized global growth, the dollar tends to decline on average a little bit, about 0.1% on average per month.The question is, does that framework, does that pattern still hold up today?We think it does for a few different reasons. In 2018 and 2019, despite trade tensions and US policy uncertainty playing a big role in driving global growth concerns, the dollar strengthened during periods of poor global growth. In other words, the lefthand side of the dollar smile worked back then, even though the concerns were driven by US factors.And in June 2025, when geopolitical tensions spiked between Israel and Iran, and growth concerns became elevated - the dollar surged. Investors fled to safety, and the dollar delivered.It’s true that in April 2025, the dollar dipped initially after the first tariff announcements. But then it fell even more after those tariff hikes were paused, despite a rebound in stocks. Growth concerns were mitigated and the dollar went down. So this episode I think wasn’t really a breakdown of the smile. What weighed on the dollar this spring was policy unpredictability in the US, which led investors to reduce their exposure to US assets, rather than concerns about global growth.So these episodes, I think, show that the dollar can still act as a safe haven, despite changing patterns of global asset ownership, the rise in US interest rates, and even when the US itself is the source of global concerns.Now, setting aside the framework, it’s important to note that the US dollar dropped about 11% against other currencies in the first half of this year. This was the biggest decline in more than 50 years and it ended a 15-year bull cycle for the US dollar. Moreover, we think that the dollar will continue to weaken through 2026 as the Fed cuts interest rates and policy uncertainty remains elevated.Still, even with all that, we think our framework holds. When markets wobble, remember this: the dollar will probably greet volatility with a smile.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.
5 Sep 20255min
Walking a Narrow Economic Path
Our Head of Corporate Credit Research Andrew Sheets discusses the scenarios markets may face in September and for the rest of the year, as the Federal Reserve weighs interest rate cuts amidst slowing job growth and persistent inflation. Read more insights from Morgan Stanley.----- Transcript -----Welcome to Thoughts on the Market. I'm Andrew Sheets, head of Corporate Credit Research at Morgan Stanley.Today, the narrow economic path the markets face as we come back from summer.It's Thursday, September 4th at 2:00 PM in London.September is a month of change and one of my favorite times of the year. The weather gets just a little crisper. Kids go back to school. Football, both kinds, are back on tv. And financial markets return from the summer in earnest, quickly ramping back up to full speed. This year, September brings a number of robust debates that we'll be covering on this podcast, but chief among these might be exactly how strong or not investors actually want the economy to be.You see, at the moment, the Federal Reserve is set to lower interest rates, and they're set to do that even though inflation in the US is still well above target and it's moving higher. That's unusual and it's made even more unusual in the context of financial conditions being very easy and the US government borrowing a historically large amount of money.The Fed's reason to lower interest rates despite strong markets, elevated inflation and high budget deficits, is the concern that the US labor market is weakening. And this fear is not unfounded. US job growth has recently slowed sharply. In 2023 and 2024, the US was adding on average about 200,000 jobs every month. But this year job growth has been less than half that amount, just 85,000 per month. And the most recent data's even worse. Tomorrow brings another important update. But here's the rub: the Fed, in theory, is lowering rates because the labor market is weaker. Markets would like those lower rates, but investors would not like a significantly weaker economy.And this logic is born out pretty starkly in history. When the Fed is lowering interest rates as growth holds up, that represents some of the best ever market environments, including the mid 1990s. But when the Fed lowers rates as the economy weakens, well, that represents some of the worst. So as the leaves start to turn and the air gets a little chilly, this is the fine line that markets face coming back into September. Weaker data for the labor market would make it easier to justify Fed cuts, but would make the broader backdrop more historically challenging. Stronger data could make the Fed look offsides, committing to lower interest rates despite high and rising inflation, easy financial conditions, and what would be a still resilient economy. And that could unleash even more aggressiveness and animal spirits.Stock markets might like that aggressiveness, but neither outcome is great for credit. And so by process of elimination, our market is hoping for something moderate, belt high, and over the middle of the plate. Our economists forecast for this Friday's jobs report for about 70,000 jobs, and a stable unemployment rate would fit that moderate bill. But for this month and now for the rest of the year, we'll be walking a narrow economic path.Thank you as always for your time. If you find Thoughts of the Market useful, let us know by leaving a review wherever you listen, and also tell a friend or colleague about us today.
4 Sep 20253min
Why a Fed Pivot Could Trigger Volatility
Fed Chair Jay Powell’s speech at Jackson Hole underscored the central bank’s new focus on managing downside growth risks. Michael Zezas, our Global Head of Fixed Income Research and Public Policy Strategy, talks about how that shift could impact markets heading into 2026. Read more insights from Morgan Stanley.----- Transcript -----Welcome to Thoughts on the Market. I'm Michael Zezas, Global Head of Fixed Income Research and Public Policy Strategy.Today: What a subtle shift in the Fed’s reaction function could mean for markets into year-end.It’s Wednesday, September 3rd at 11am in New York.Last week, our U.S. economics team flagged a subtle but important shift in U.S. monetary policy. Chair Jay Powell’s speech at Jackson Hole underscored that the Fed looks more focused on managing downside growth risks and, consequently, a bit more tolerant on inflation.As you heard Michael Gapen and Matthew Hornbach discuss last week – our colleagues expect this brings forward another Fed cut into September, kicking off a quarterly pace of 25 basis-point moves. But while this is a meaningful change in the timing of Fed rate cuts, this path would only result in slightly lower policy rates than those implied by the futures market, a proxy for the consensus of investors.So what does it mean for our views across asset classes? In short, our central case is for mostly positive returns across fixed income and equities into year-end. But the Fed’s increased tolerance for inflation is a new wrinkle that means investors are likely to experience more volatility along the way.Consider U.S. government bonds. A slower economy and falling policy rates argue for lower Treasury yields. But if investors grow more convinced that the Fed will tolerate firmer inflation, the curve could steepen further, with the risk of longer maturity yields falling less, or potentially even rising.Or consider corporate bonds. Our economic growth view is “slower but still expanding,” which generally bodes well for corporate balance sheets and, thus, the pricing of credit risk. That combined with lower front-end rates suggests a solid total return outlook for corporate credit, keeping us constructive on the asset class. But of course, if long end yields are moving higher, it would certainly cut against overall returns potential.Finally, consider the stock market. The base case is still constructive into year-end as U.S. earnings hold firm, and recent tax cuts should further help corporate cash flows. However, if long bonds sell off, this could put the rally at risk – at least temporarily, as my colleague Mike Wilson has highlighted; given that higher long-end yields are a challenge to the valuation of growth stocks.The risk? A repeat of the early-April dynamic where a long-end sell-off pressures valuations.Could we count on a shift in monetary policy to curb these risks? Or another public policy shift such as easing tariffs or Treasury adjusting its bond issuance plans? Possibly. But investors should understand this would be a reaction to market conditions, not a proactive or preventative shift. So bottom line, we still see many core markets set up to perform well, but the sailing should be less smooth than it has been in recent months.Thanks for listening. If you enjoy Thoughts on the Market, please leave us a review and tell your friends about the podcast. We want everyone to listen.
3 Sep 20253min
Are Agency Mortgage-Backed Securities Making a Comeback?
Our Co-Heads of Securitized Products Research Jay Bacow and James Egan explain why the macro backdrop could be changing in favor of agency mortgages after the Fed’s annual meeting in Jackson Hole. Read more insights from Morgan Stanley.----- Transcript -----Jay Bacow: Welcome to Thoughts on the Market. I'm Jay Bacow, Co-Head of Securitized Products Research at Morgan Stanley. James Egan: And I'm Jim Egan, the other Co-Head of Securitized Products Research at Morgan Stanley. Jay Bacow: Today we're here to talk about why mortgages offer value after Jackson Hole. It's Tuesday, September 2nd at 2pm in New York. James Egan: So, Jay, let's start with the big picture after Jackson Hole, the Fed seems like it's leaning towards cutting rates in a steady, almost programmatic fashion. And in prior episodes of Thoughts on the Market, you've heard different strategists at Morgan Stanley talk about the potential implications there.But for mortgages, what does this mean? Jay Bacow: Well, it takes a lot of the uncertainty out of the market, and that's a big deal. One of the worst-case scenario[s] for agency mortgages – that the investors are buying not mortgages that homeowners have – would've been the Fed staying on hold for much longer than expected. With that risk receding, the backdrop for investors owning agency mortgages feels a lot more supportive. And when we look at high quality assets, we think mortgages look like the cheapest option. Jim, you mentioned some of the previous strategists that come on Thoughts on the Market. Our Global Head of Corporate Credit Strategy, Andrew Sheets had highlighted recently how credit spreads are trading at basically the tights of the past 20 years. Mortgages are basically at the average level of the past 20 years. It seems attractive to us. James Egan: And that relative value really does matter. Investors are looking for places to earn yield without taking on too much credit risk. Mortgages, particularly agency mortgages with government guarantee there, they offer that balance. Jay Bacow: Right. And it's not just that balance, but when we think about what goes into the asset pricing, the supply and demand picture makes a big difference. And that we think is changing. One of the reasons that mortgages have underperformed corporate credit is that when you look at the composition of the buyers, the two largest holders of mortgages are the Fed and domestic banks. The Fed's obviously going to continue to run their portfolio down, but domestic banks have also been on the sidelines. And that's meant that money managers, and to a lesser extent overseas, have had to be the largest buyers. But we think that could change. James Egan: Right, with more clarity on Fed policy, banks in particular may get more comfortable adding mortgages to their balance sheets, though the exact timing depends on regulatory developments. REITs might also find this more compelling? Jay Bacow: Right. If the Fed's cutting rates, the front end is going to be lower, and that's going to mean that the incentive to move out of cash should be higher, and that's going to help both banks and likely REITs. But then there's also the supply side.Net issuance of conventional mortgage has been negative this year. That's obviously good. And some of the other technicals are improving as well. Vols are trading better, and all of this just contributes to a healthier landscape. James Egan: Right. And another thing that we've talked about when discussing mortgage valuations is the importance of volatility. If you're buying mortgages, you're inherently short rate volatility – and volatility has come down meaningfully since last year, even if it's still above pre-COVID norms. Lower volatility supported for mortgage valuations, especially when paired with a Fed that's cutting rates steadily. Though Jay, some of that already in the price? Jay Bacow: Yeah, look. We didn't say mortgages were cheap. We just said mortgages are trading at the long-term averages. But in an environment where stocks are near the all time high and credits near the tights of the past 20 years, we do see that value. And the Fed cutting rates, as we said, should incentivize investors to move out of cash and into securities. Now, there are risks when valuations and other asset classes are as tight or as high as they are. You could see risk assets broadly underperform and mortgages are a risk asset. So, if credit widens, mortgages would not be immune. James Egan: And timing is important here too, right? Especially we think about banks coming back if they wait for full clarity on Basel III proposals – that could be delayed. On top of that, there's prepayment risk… Jay Bacow: Yeah, if rates rally, then speeds could pick up and investors are going to demand more compensation. But summing it up. Mortgages look wide to alternative asset classes. The demand picture we think is going to improve, and more clarity around the Fed's path is going to be supportive as well. All of that we think makes us feel confident this is an environment that mortgages should do well. It's not about a snap tighter and spread, it's more about getting paid carry in an environment where spreads can grind in over time. But Jim, we like mortgages. It's been a pleasure talking to you. James Egan: Pleasure talking to you too, Jay, and to all of you regularly hearing us out. Thank you for listening to another episode of Thoughts on the Market. Please leave a review or a like wherever you get this podcast and share Thoughts on the Market with a friend or colleague today. Jay Bacow: Go smash that subscribe button.
2 Sep 20255min
