The End of the U.S. Dollar’s Bull Run?

As the U.S. presidential race continues to be neck and neck according to opinion polls, our Chief Fixed Income Strategist considers the possible market implications if some policies proposed during this campaign are implemented.----- Transcript -----Welcome to Thoughts on the Market. I am Vishy Tirupattur, Morgan Stanley’s Chief Fixed Income Strategist. Along with my colleagues bringing you a variety of perspectives, today I'll be talking about understanding market dynamics against the backdrop of U.S. elections. It's Monday, Oct 28th at 1 pm in New York.The outcome of the U.S. elections, now just over a week away, has been at the center of every discussion I have had in the last several days. There have been significant moves, not so much in the opinion polls – but in prediction markets. In the opinion polls, the presidential race remains tight and neck-to-neck in key swing states with poll numbers well within the margin of error. But some prediction markets have shifted meaningfully toward Republicans in the contests for both the presidency and control of Congress. Financial markets have also moved a lot. Stocks exposed to a Republican win outcome have risen a fair bit. To understand the potential policy changes that can have an impact on markets, I think it is crucial to understand the sequencing of those policy changes. Given the moves in the prediction markets, let us first frame a Trump win scenario. It seems reasonable to bucket the possible shifts into three categories – fiscal policy, immigration controls, and tariffs. Meaningful changes in fiscal policy require control of both houses of Congress; and even in a Republican sweep, scenario legislation would still be time-consuming and likely come last. We don’t really have many details on how changes to immigration policy would be implemented and so their timing remains very unclear. On the other hand, given broad presidential discretion on trade policy, Trump’s expressed intentions in his campaign messaging, and the precedent of his first term, tariff changes would likely come first.Our economists have looked at the potential impact of tariffs on the economy. They concluded that broad tariffs imply downside risks to growth through declines in consumption, investment spending, payrolls, and labor income, and upside risks to inflation. Their estimates suggest that imposing all the tariffs currently under discussion could result in a delayed drag of -1.4 per cent on real GDP growth and a more rapid boost of 0.9 per cent to inflation. How do we reconcile the equity market’s reaction to the increasing odds of a Trump win in some prediction markets with the idea that there will be a drag on GDP growth and boost to inflation that our economists assess? Two explanations. Markets could be counting on the prospect that all tariffs would not be imposed. Or at least would be sequenced over an extended period, with some coming much later than others. Also, markets could be putting greater emphasis on the revival of “animal spirits” driven by expectations of regulatory easing, which is hard to define or quantify.Let us look at other markets. In the bond markets, treasury yields have risen notably in the last month. Many investors see the Republican sweep outcome as most bearish for US Treasuries, based on the experience of the 2016 election. As Matt Hornbach, our global head of macro strategy has noted, there are meaningful differences between the Fed’s monetary policy today and the pre-election period in 2016, suggesting that any rise in Treasury yields would be more contained this time, even in a Republican sweep outcome. In 2016, markets were pricing in about 30 basis points of rate hikes over the next 12 months. Contrast that to the current market expectation of about 135 basis points in rate cuts over the next 12 months. Also, in the year after the 2016 election, expectations for the Fed Funds Rate rose nearly 125 basis points. A similar rise in expectations for Fed policy now would require market participants to expect the Fed to stop cutting immediately; and refrain from further cuts through 2025. This seems like a remote possibility – even under a Republican sweep elections scenario. Given the recent moves across markets and the expectations they are pricing in, markets may now be somewhat offside should Harris win, as they would have to reverse the course. Elections are a known unknown. Based on opinion polls, this race remains extremely tight, and multiple combinations of presidential and congressional outcomes are very much in play. We must also contend with the prospect that determining the outcome may take much longer this time.Thanks for listening. If you enjoy the podcast, please leave us a review wherever you listen and share Thoughts on the Market with a friend or colleague today.

28 Okt 20245min

After decades of offshoring, the pendulum for US manufacturing is swinging back toward domestic production. Our US Multi-Industry Analyst Chris Snyder looks at what’s behind this trend.----- Transcript -----Welcome to Thoughts on the Market. I’m Chris Snyder, Morgan Stanley’s US Multi-Industry Analyst. Today I’ll discuss the far-reaching implications of shifting industrial production back to the United States. It’s Friday, October 25th, at 10am in New York.Global manufacturing is undergoing a seismic shift, and the United States is at the epicenter of this transformation. After decades of offshoring and relying on international supply chains, the pendulum is swinging back toward domestic production. This movement – known as reshoring – is not just a fleeting trend but a strategic realignment of manufacturing capabilities that is indicative of the “multipolar” theme playing out globally.In fact, we believe the US is entering the early innings of re-Industrialization – a multi-decade opportunity that we size at $10 trillion and think has the potential to restore growth to the US industrial economy following more than 20 years of stagnation. The reshoring of manufacturing to the US is fueled by a combination of factors that are making domestic production both viable and lucrative. While the initial sparks were ignited by policy changes, including tariffs and trade agreements, the COVID-19 pandemic laid bare the risks of elongated supply chains and over-dependence on foreign manufacturing.Meanwhile, the diffusion of cutting-edge technologies, such as automation, artificial intelligence, and advanced robotics, has diminished the cost advantages of low-wage countries. The US -- with its robust tech sector and innovation ecosystem -- is uniquely positioned to leverage technology to revitalize its manufacturing base. Who are the direct beneficiaries? High-tech sectors, such as semiconductors, pharmaceuticals, and advanced manufacturing systems, are likely to be the biggest winners. Traditional industrial sectors, such as automotive and aerospace, are also seeing a resurgence. Finally, companies that invest in more sustainable manufacturing processes stand to gain from both policy-driven incentives and a growing market demand. All told, these businesses should see shorter supply chains, reduced legal and tariff costs, and a more resilient operational structure. As for the broader US economy? We think the implications are pretty profound. In altering the US industrial landscape, reshoring promises not only to boost GDP growth, but it could also stabilize and potentially reverse the trade deficits that have plagued the US economy for years.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.

25 Okt 20243min

Morgan Stanley’s European Head of Research Product Paul Walsh speaks to Betsy Graseck, Global Head of Banks and Diversified Finance, and Bruce Hamilton, European Asset Managers Diversified Financials Analyst, about the implications of increasing life expectancy for the financial industry.----- Transcript -----Paul Walsh: Welcome to Thoughts on the Market. I'm Paul Walsh, Morgan Stanley's European Head of Research Product, and today we dig into a topic that really affects us all. Retirement.Life cycles are extending as people are living longer, healthier lives. Coupled with government pension funds that are increasingly under pressure, this means that consumers will need to build much more robust investment plans to substitute for salaries to carry them through a longer retirement. And to understand more about the changing financial needs and challenges of an aging population, I'm delighted to be joined by my colleagues, Betsy Graseck, Global Head of Banks and Diversified Finance, and Bruce Hamilton, our European Asset Managers Diversified Financials Analyst. It's Thursday, October the 24th at 3pm in London. Betsy Graseck: And it's 10 am in New York. Paul Walsh: Now Bruce, let's start with you. As people live longer, they will likely spend more time in retirement. Managing and ensuring retirement income over a longer duration could have a significant impact on asset management. What are the broad trends you're seeing in the industry right now?Bruce Hamilton: So, the asset management industry in large part has focused on the accumulation phase of investors journey. Whilst this remains critical as people build assets for retirement – and we see growing allocations from affluent investors to private markets as a trend which is likely to be reinforced by the aging theme – there's a significant need for decumulation products and solutions that can offer returns and income over a prolonged retirement.We see a lot of innovation as asset managers look to develop products to meet this need.Paul Walsh: So Betsy, people are living longer. How ready are consumers for retirement? Are most retirement plans or similar financial services ready to handle this challenge?Betsy Graseck: Some are ready. But given how rapidly the global population is aging, there is an increasing need to provide solutions to individuals. Just to put a number on it, the global population that is 65 years old or older in the year 2000 was only 7 per cent. This is set to hit 10 per cent next year in 2025 and 16 per cent in 2050. All groups need service and advice – with the affluent group needing the most increase in services especially if government pension funds come under more pressure. Paul Walsh: So, I think you set the scene really well there, Betsy, and I guess the obvious question is, how can wealth and financial planners best respond, do you think? Is it by creating new products? Or do we need a much deeper transformation?Betsy Graseck: We see individuals today having a wide range of retirement choices. What we feel they really need here is personalized, customized advice, delivering solutions that can address their unique needs. These span from affluent individuals needing salary replacement strategies to high-net-worth individuals looking for philanthropic and wealth transfer strategies. A focus on integrated, personalized advice, innovative products, and high-quality service that meets clients as they wish to connect effectively will be critical. Paul Walsh: It seems to me that it is – but is this a positive for the financial services sector? And if so, what do you think is the size of this revenue opportunity and over what time period do you think?Betsy Graseck: Well, the way we've looked at this is across the global asset manager and global wealth manager industry, as they will be the ones called upon to address these needs. And we do see a roughly 30 per cent uplift in global revenues by 2028, which equates to [$]400 billion in incremental revenues across the global industry.And that is driven by the expansion of individuals looking for advice, in particular from the affluent group, as well as an increase in fee-based products to address the income needs. Paul Walsh: And there's some big numbers that you've quoted there, Betsy. So let's dig into the financial subsector and industries. What are the biggest untapped opportunities there?Betsy Graseck: Well, the number one is the affluent customer base that we do see having the biggest need for advice, relative to advice seeking today. And as that group, reaches out and receives advice from wealth channels, that is one major driver here. The second driver is the increase in fee-based products to service the income replacement needs.Paul Walsh: And what are the biggest challenges do you think? Obviously, we've talked about the opportunity there, but the biggest challenges to financial services that you see along the way. Betsy Graseck: Well, the way I think about this is what is required to be a winner, and the winners need to be able to integrate their entire organizations to deliver for clients. And also leverage technology efficiently and effectively to be able not only to deliver the highest quality service in the way the client wants to be serviced; but also to optimize cost structures, which then can get reinvested – you know, higher pretext getting reinvested into the business. The challenges are the opposite of institutions that remain siloed and institutions that have, you know, maybe a tech strategy that is not set to respond to the needs of this client set. Paul Walsh: Thanks for that, Betsy; and Bruce, I just want to pivot back to you. Some asset managers are partnering with insurance companies to offer guaranteed income streams and wealth transfer solutions. What are some of the successful models that you've seen so far? Bruce Hamilton: So, asset managers are adopting a range of approaches. Some have acquired insurance subsidiaries, some have taken significant minority stakes, while others have looked to deepen partnerships with insurance. Trade offs include the degree of control versus the capital intensity that ownership of insurance brings. So, we see more than one route, but a continued push towards greater collaboration between asset managers and insurers.Given the potential for the asset managers to access stable, permanent capital, that can then be deployed in a range of investment strategies to offer diversified sources of income via private or structured credit to support returns for the end insurance clients. Theoretically, the best place models to deliver retirement solutions will have elements of wealth advice, plus a hybrid asset management insurance product approach. Given the importance of providing investors with regular and variable income, a guaranteed minimum level of income, plus an ability to generate a return to offer potential for legacy to pass to heirs.Paul Walsh: And of course, Bruce, it's very difficult to talk about product innovation, without bringing in the topic of AI. As asset managers are working to create ever more personalized retirement solutions as we've heard, how and to what extent do you think they are leveraging AI?Bruce Hamilton: So, our interviews with a range of management players confirmed that many of the potential use cases being worked on 12 months ago have now been put into production. It's still early days, and so far, most use cases are focused on areas that can drive efficiencies. So, for example, in RFP report writing, synthesis of research, and some of the middle and back-office processes for asset managers. But over time, AI can clearly feed more bespoke client service by wealth and asset managers with areas such as customized investment proposals and financial planning offering potential.Paul Walsh: Fascinating topic. Betsy and Bruce, thank you so much for taking the time to talk. It's clear that increasing lifespans are reshaping the financials sector by driving product innovation, influencing asset allocation strategies, and, of course, creating new market opportunities. And to our listeners, thanks as always for taking the time to listen in. If you enjoy Thoughts on the Market, please do leave us a review wherever you listen to the show and share the podcast with a friend or colleague today.

24 Okt 20248min

Our Chief Europe Economist Jens Eisenschmidt and Europe Equity Strategist Regiane Yamanari discuss the strain of an aging population on the future of Europe’s economy and markets.----- Transcript -----Jens Eisenschmidt: Welcome to Thoughts on the Market. I'm Jens Eisenschmidt, Morgan Stanley's Chief Europe Economist.Regiane Yamanari: And I’m Regiane Yamanari from the European Equity Strategy Team.Jens Eisenschmidt: Today we are discussing one of the most urgent challenges Europe is facing right now, a declining working age population – and its implication for Europe's economy and potential solutions.It’s Wednesday, October 23rd, at 3 pm in Frankfurt.Regiane Yamanari: And 2 pm in London.So Jens, people are getting older around the world, living longer. Although the rate of change is different from country to country, can you tell us what's the situation in Europe right now?Jens Eisenschmidt: Yes, Europe faces a declining working age population, so much is sure. We have just put out a big report, where we come up with numbers around this issue. We think for the large four Euro area countries – Germany, France, Italy, and Spain – we see a decline in Euro area working population by 2040 by 6.4 per cent. People also get older, so that doesn't necessarily mean the overall population is declining by as much. It simply means that working age population, as a sort of most direct, relevant measure for the economy, is declining.Regiane Yamanari: Why does an aging population hamper economic growth?Jens Eisenschmidt: So, think about the economy producing, in a very stylized sense, with two factors. One is capital and the other one is labor. And typically, these two factors are connected. So, you can't really produce just with one factor. Typically, you need at least some labor to produce something or at least some machinery to produce something with labor.So we just; I mean, it's a very simple way of looking at the economy, but typically very powerful in explaining what's going on. So, if we take this approach and look at our economy through the lens of these two factors and we have one factor declining significantly, this will affect the amount the economy can produce.So, we are talking here about so-called potential growth or potential output. And we think the declining working age population will lead to a decline in potential output. For the Euro area economies I was just mentioning, we think it could be around 4 per cent over the period 2000, from now to 2040. And that amounts to on an annual basis around 25 basis points lower growth potential.Regiane Yamanari: Suppose policy makers want to boost Europe's working age population, which they do. What options do they have? Which European countries most benefit from these policies or options?Jens Eisenschmidt: Yeah, the oldest policy measure, or if you want the most discussed one, typically has been birth rates.Now, many of the policies being implemented here – and they have been implemented for decades already – have been found to be not really changing [the] situation in a profound way. So, birth rates have either stopped increasing again or actually continued dropping. So, policy makers’ attention probably for this reason has turned to other measures.Other measures we think of here mostly in the current debate is increasing net migration, so you're basically getting your working age population replenished to some extent from the outside. Changing participation pattern in your own domestic labor market – typically, it's framed around the question, how much or how high is the share of one cohort versus the other.For instance, males versus females. We have countries where there is a large gap between these two groups, just to name an example here. And you know, closing that gap could help you increasing or offset; some of the projected decline in working age population.Another measure that's often discussed is increasing, retirement age. So essentially working age population is defined by those age between 15 and 64. And of course, if you work for longer, so you increase retirement age, that will also help, to stem against some of the projected decline in working age population.Now, if you look around for the countries that we are discussing in the report, um, then there are different ways these policies affect these countries.So, for instance, in Italy, closing the gap between male and female labor force participation would offset a large part of the projected fall in its working age population because that gap is so large. In France, in terms of our numbers, the most effective measure would be increasing the retirement age. And again, in Germany and Spain, it would probably be migration policies that are most effective.Okay now let's consider the alternative, Regiane. Suppose nothing changes. There are fewer and fewer working age people in Europe. How would this affect companies earning growth?Regiane Yamanari: So, if there are no policy action, and here assuming all else equal, I mean, no change in productivity, for example. Due to a lower GDP growth, we estimate the headwinds of European demographics could lower companies long term earnings growth by 90 basis points. So, from 5.1 to 4.2 per cent by the end of the decade. And this compares to an average growth of 6.4 per cent that we had in the past 10 years.Jens Eisenschmidt: And how would this be reflected in the stock market?Regiane Yamanari: Yeah, so potential lower earnings growth is negative for European equities, right? But it's worth highlighting two points here. First, is that European companies have been diversifying their activities and revenues across the globe in the recent decades. And the revenue exposure of European companies to develop Europe, including the UK has reached a 30-year low. So, we estimate that just 38 per cent of European companies’ revenues are generated in develop Europe, on a free flow market cap weighted basis.And second, I think we see this impact being more idiosyncratic at sector at stock level. Just to give an example, so we have this factor analysis that we have done. We found that companies reducing headcount in Europe have been outperforming companies increasing. So in our view, this impact, it will be idiosyncratic, and it will depend by sector and the the stock.Jens Eisenschmidt: What sectors and industries then do you expect to be most affected by an aging population and the declining labor force?Regiane Yamanari: Yeah, so first of all, I think one thing to mention is that it's very clear that the theme of, aging population is gaining traction in European C-suite commentary. So we found using AlphaSense Large Language Model, when we analyze companies transcripts, a notable rise in mentions of aging population – and in particular, if we compare to the US, to the US companies, we know that labor intensive industries like kept goods, construction and materials, business services are among those at the top of the list.And those mentions have been increasing in most cases when we compare to the average of the last five years.Jens Eisenschmidt: So how are companies adjusting their business models to account for these challenging demographic trends? Regiane Yamanari: So we see, for example, industrial automation, robotics, and software adoption accelerating in the face of declining working age population across Europe, which might surprise some people as some people is relatively under-penetrated by technology.Regiane Yamanari: For example, if we look at industrial robot density in Germany, that is less than half of South Korea. And there are some sectors, for example, like hospitality that our analyst has flagged that the companies have been changing and adopting initiatives related to recruitment, technology adoption, portfolio rationalization – just a few examples here – and adjusting their business models as well to navigate a scenario of reduced labor availability and higher costs. And well, not to mention AI, which we have seen a rapid development and pace of adoption as well.Jens Eisenschmidt: I'm glad you mentioned AI. It was on my mind. I was about to ask you. So, what do you think, uh, the role of AI could be in helping with the demographic challenge?Regiane Yamanari: Our view is mainly on productivity gains. So, we them to start materializing, but they are likely to be small and grow consistently over time. An important portion of AI adopter companies cost base are related to R&D, marketing, distribution costs – and these areas we still are to see broad based application of AI, if this is really to be meaningful at the corporate level or even a national level.So the way we see is that the productivity gains being reflected on margins, but still to be small at this level.Jens Eisenschmidt: So, this one remains to be seen. We will surely be watching closely whether AI can deliver what it seems to be promising to generate productivity gains to offset the demographic challenge.Regiane, thanks a lot for taking the time to talk.Regiane Yamanari: Great speaking with you, Jens.Jens Eisenschmidt: 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.

23 Okt 20249min

Our Medical Technology expert analyzes the medical potential and market opportunity in technology that allows direct communication between the human brain and an external device.----- Transcript -----Welcome to Thoughts on the Market. I’m Kallum Titchmarsh, from Morgan Stanley’s U.S. Medical Technology Team. On today’s episode – a dive into a topic that sounds like it’s straight out of science fiction. Brain Computer Interfaces, or BCIs.It’s Tuesday, October 22, at 10 AM in New York.The latest version of Tony Stark – better known as his alter ego Iron Man – is a good example of a brain computer interface. When the billionaire businessman-inventor is critically wounded, he builds an armor suit that gives him superhuman abilities. Flying through air. Clearing out obstacles with repulsor blasts. Shooting enemies with guided missiles. All controlled by his brain. This, of course, is the stuff of science fiction. Real world examples of brain computer interfaces – or BCIs – aren’t fantastical. But they are fascinating. Translating thoughts into actions like generating text on a screen or moving a robotic limb.BCIs have been in development for more than a century, but recent advances have brought them much closer to becoming a reality. We expect to see BCIs in commercial medical use in about five years, at which point they can help treat a wide range of health disorders, from motor neuron disease – such as ALS – to depression. The market opportunity for BCIs looks enormous – $400 billion of total addressable market – or TAM – in the US alone. This figure includes two types of BCIs: enabling BCIs, which facilitate behaviors like moving a cursor on a screen, and preventive BCIs, which can prevent adverse events like depressive states or epileptic seizures. We divide the BCI healthcare opportunity into two segments: early TAM and intermediate TAM. The early TAM includes individuals with critical upper limb impairment and select variants of neurological conditions like epilepsy and depression. These patients will likely be the first to receive a BCI. The intermediate TAM includes patients with moderate upper limb impairment and severe lower limb impairment. As BCI technology develops, these patients will eventually become eligible for treatment. There are at least 2.8 million patients in the US forming the early TAM and an additional 6.8 million within the intermediate TAM. Together, these groups represent the $400 billion of potential revenue I already mentioned based on a single implant procedure. The opportunity may be significantly larger when factoring for potential replacement cycles and recurring revenues from software upgrades. But while the estimated TAM is indeed vast, we think penetration will remain limited through the first 20 years of launch. By 2035, we expect just under $1.5 billion of revenue to be generated from BCI implant procedures, hitting north of a $500 million annual run rate in 2036, and reaching the $1 billion annual run rate by 2041. It’s exciting to think BCIs will begin their healthcare application in the coming years, but we anticipate a number of regulatory hurdles on the way to widespread adoption in healthcare and beyond. Will BCIs push into fields like neurogaming, warfare, and even biological optimization of humans? The potential is certainly there, and with it the burden of the safe and responsible use of this cutting-edge technology. 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.

22 Okt 20244min

Our CIO and Chief U.S. Equity Strategist explains his preference for cyclical stocks amid a rise in global money supply and current US election dynamics.----- Transcript -----Welcome to Thoughts on the Market. I'm Mike Wilson, Morgan Stanley’s CIO and Chief US Equity Strategist. Along with my colleagues bringing you a variety of perspectives, today I'll be talking about our recent upgrade of quality cyclicals and how it will be affected by the US election and liquidity.It's Monday, Oct 21st at 11:30am in New York. So let’s get after it. We continue to have conviction in our recent cyclical shift and Financials upgrade. Indeed, cyclicals traded well last week as most economic data came in stronger than expected. It’s worth noting we recommend investors stay up the quality curve within the cyclical space, however. While Financials have been the best performing sector in the S&P 500 since our upgrade, institutional investors remain under-exposed to Financials based on our data suggesting the sector can run further. In addition to better economic data, there are other factors affecting pro-cyclical stocks. We are focused on two, in particular. The election and global liquidity. We believe a Trump win with a split Congress would provide a pro-cyclical bias with small caps keeping pace with large caps. The markets seem to agree, with the recent cyclicals outperformance led by financials. Meanwhile, consumer stocks negatively exposed to tariff risks under a Trump win have underperformed. Interestingly, there is some overlap between this recent leadership and the post Biden debate period in early July as well as the months surrounding the 2016 election. Finally, we've also witnessed higher interest rates and a stronger US Dollar more recently, which is something to watch closely as a possible headwind for liquidity post election and into 2025. While some argue a Trump win would be a headwind for growth and equity markets, due to tariff risks and slower immigration, we think there's an additional element from the 2016 experience that’s worth considering—rising animal spirits. More specifically, in 2016 Trump's pro-business approach led to the largest three-month positive impact on small business confidence in the past 40 years. It also translated into a spike in individual investor sentiment. It appears to me that markets may be trying to front-run a repeat of this outcome as Trump's win in 2016 came as a surprise to pundits and markets alike.This also means a Harris win could lead to some reversion in terms of overall equity market performance and leadership. Most notably, bonds could potentially rally with defensive and quality growth stocks doing better like earlier this year. Secondarily, even with a Trump win, certain areas of the market may be vulnerable to a ‘sell the news’ phenomena if the upside is already priced amid bullish positioning. On this front, we would also point out that the economic set-up today is very different than the 2016 period when the economy had much more slack and could absorb additional pro-cyclical policies like tax cuts or other forms of fiscal stimulus.Turning to liquidity, we note that global money supply in US dollars has surged at an 18 per cent annualized rate since the end of June. I believe this has also had a positive effect on equity prices, not to mention credit spreads, precious metals, cryptocurrencies and real estate. Bottom line, in the absence of a major swing in election probabilities or global liquidity between now and the election, equity markets are likely to trade with a bullish tilt both at the index level and from a style, sector, factor standpoint. Thanks for listening. If you enjoy the podcast, leave us a review wherever you listen, and share Thoughts on the Market with a friend or colleague today.

22 Okt 20243min

Our Head of Corporate Credit Research Andrew Sheets discusses why uncertainty around the election’s outcome could be detrimental for credit investors.----- Transcript -----Welcome to Thoughts on the Market. I'm Andrew Sheets, Head of Corporate Credit Research at Morgan Stanley. Along with my colleagues bringing you a variety of perspectives, today I'll discuss the US Election, and how it might matter for Credit. It's Friday, October 18th, at 4pm in London. Morgan Stanley’s positive view on credit this year has been anchored on a simplistic thesis. Credit is an asset class that hates extremes, as it faces losses if a company fails, but doesn’t earn extra if that company’s profits double or even triple. Credit, to an unusual degree, is an asset class that loves moderation. And here at Morgan Stanley, we’ve been forecasting … a lot of moderation. Moderate growth for the U.S. and Europe. Moderating inflation, that continues to fall into next year. And a moderation of central bank interest rates, rather than the type of sharp declines that you tend to see around recessions; as we think Fed funds will settle in a little bit below three-and-a-half per cent by the middle of next year. This moderate economy, coupled with moderate levels of corporate aggressiveness should be music to a credit investor’s ears, and support richer-than-average valuations, in our view. So how does the upcoming U.S. election on November 5th fit into this otherwise benign picture? Who runs a government matters, especially when it’s the government of the world’s largest and strongest economy. This election is also notable for the differences between the two candidates, who are presenting sharply contrasting visions of economic, domestic and foreign policy. Against this backdrop, we suggest credit investors try to keep a few things top of mind. First, and most broadly, the idea that “credit likes moderation” remains our north star. Outcomes that could drive larger changes of economic policy, or larger uncertainty in policy in general, are probably going to be a larger risk for credit.Second, of all the various policies under discussion, tariffs feel especially important as they can be largely implemented without congressional approval, and are thus far easier to see go into effect. Tariff proposals could create significant dispersion at the single-name level in credit, and pose significant risks for sectors like retail, which import a large share of their ultimate goods. For time-limited investors, tariffs are the policy area where we’d spend the most time – and where much of our Credit Research around the election has been focused. Third, it’s notable that as we head into this election, expected volatility, in equities or credit, is elevated even as the stock market sits near all time highs, and credit spreads are historically low. So this begs the question. Do these options markets know something that the rest of the market does not? We’re skeptical. Historically, when you’ve seen high volatility alongside all-time-highs in the market – and it’s not all that common – it’s tended to be a positive short-term indicator, rather than a negative one. And one way we could perhaps explain this is that it suggests that investors are still a little bit nervous, and not as positive as they otherwise could be. The U.S. election is close in time, uncertain in outcome, and has stakes for future policy. That high implied volatility we see at the moment, in our view, could reflect known unknowns, rather than some hidden factor. Tariff policy, being largely independent of congress and thus easier to implement, is probably the most relevant for single-name credit exposures. And most broadly, credit likes moderation, and should do best in outcomes that are more likely to achieve that. 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.

18 Okt 20244min

Our expert panel explains whether the US election will impact energy policy, including how the Inflation Reduction Act’s possible fate and increased tariffs could transform the sector.----- Transcript -----Michael Zezas: Welcome to Thoughts on the Market. I'm Michael Zezas, Morgan Stanley's Global Head of Fixed Income and Thematic Research.David Arcaro: I'm Dave Arcaro, Morgan Stanley's US Power and Utilities Analyst.Andrew Percoco: And I'm Andrew Percoco, the North American Clean Tech Analyst here at Morgan Stanley.Michael Zezas: And today we're discussing another key election related topic that generates a lot of political and market debate: Energy policy.It's Thursday, October 17th at 10am in New York.The outcome of the 2024 election will likely determine the direction of U.S. climate policy for years to come. David, what are the key focus areas for investors as they evaluate the various election outcomes on the utilities and clean energy industries?David Arcaro: Yeah, Mike, investors are highly focused on the Inflation Reduction Act, the IRA, especially as it pertains to the election and the clean energy space. This was a law that was passed in 2022, and it really has supportive policies across the entire clean energy spectrum. It's got tax credits and incentives for solar, wind, offshore wind, green, hydrogen, nuclear, you name it. Battery storage. And some of those tax credits go all the way to 2032 and beyond in some cases.So, it's a very supportive policy when it comes to the clean energy industry and the growth outlook. So, the big question is what's going to happen to the Inflation Reduction Act – depending on which administration is in place following the election.Our core view is that the IRA stays in place; that the core wind, solar storage and nuclear tax credits all remain, regardless of the outcome of the election. And then separately, investors are focused on tariff policy as it pertains to clean energy. It is a global industry. A lot of the equipment and materials are imported around the world. And so, any changes to the tariff approach could have an impact on the space as well.Michael Zezas: Got it. And so how does the outlook for renewables change under different election outcomes?David Arcaro: Yeah, really, the outlook for renewables growth is not very different in our view, regardless of the outcome of the election.We think it's a strong growth outlook either way. And part of that is because we've got policies that we expect to stay in place that will be supportive regardless of the outcome, as I mentioned with the Inflation Reduction Act. And then we've also got demand. It's a very strong demand backdrop for the renewable space – and that's because in the electric industry, we're seeing an inflection in electricity usage across the US.It's been stagnant for years and years, but now with data center growth, with industrial production accelerating, and manufacturing and onshoring, we're seeing a big change in the growth outlook for electricity usage. And that means we need more power plants. We need more to be built, and renewables are going to be the predominant new resource for producing electricity in the US.Some of these companies like data centers, they want renewables to power their operations. And most utilities, electric companies that are building power plants, they're going to be using renewables more than anything else. There are impediments to building fossil plants, it's challenging to permit and there's supply chain delays and issues.So, we think there's a very strong growth outlook for renewables based on that demand and the policy support going forward, regardless of the outcome.Michael Zezas: And Andrew, how about corporate tax policy, including renewable energy tax credits?Andrew Percoco: I mean, as Dave mentioned, we think IRA repeal risk is very low, and I think the only scenario where IRA repeal is a relevant conversation is in a Republican sweep scenario. But even under this scenario, we would expect any repeal measures to be targeted in nature and not a wholesale repeal of the bill. So, the question then becomes, you know, what is safe and what's at risk of getting cut.So, to start off with what's safe; maybe three items that I'll highlight. One would be domestic manufacturing tax credits. There's been a lot of bipartisan support for the onshoring of manufacturing. So, the clean energy manufacturing tax credits within the IRA look like they are on solid footing, regardless of the election outcome.Now, why do domestic manufacturing tax credits have bipartisan support? One, there's a general view that we need to reduce our reliance on China for our energy infrastructure and, two, the job creation angle. The IRA has created over 150, 000 new jobs, and a lot of those jobs are in states where there is a large representation of Republican voters. So, the local pushback would be pretty severe if IRA was repealed in full.Number two, area of IRA that we think is safe would be nuclear tax credits. There's a general understanding across both sides of the aisle that nuclear is an important and reliable form of clean energy, and that we need to support the existing fleet of assets.And then third again, as Dave mentioned, solar storage and wind investment tax credits. These have been around for a while, well before the IRA was in place and they've had bipartisan support. They've been extended multiple times, even under past Republican administrations. So, we would not expect any changes to those core tax credits in a Republican sweep.On the flip side, you know what's potentially at risk in a Republican sweep? Number one would be consumer facing tax credits like the EV tax credits. This is something that the Republicans have definitely taken aim at on the campaign trail.Number two would be offshore wind. Former President Trump has definitely had [a] very candid view of offshore wind, and the issues that it poses on local communities. So, this could be another area where, they look for some targeted repeal. And then the third would just be delayed implementation of any unfinalized rules, by the time they take office.Michael Zezas: Makes sense. And finally, what other key election implications should investors focus on at this point when it comes to clean energy?Andrew Percoco: Yeah, I think the biggest would be around tariffs. It's frankly the hardest to predict but could have some pretty meaningful near-term implications for clean energy.Just to zoom out for a second, the clean energy supply chain is global with a heavy concentration in China and Southeast Asia. So, if there is higher tariffs put in place against these regions, it could create some disruption in supply chains and impact the pace at which we deploy renewables in the US. But frankly, at the same time, it should just accelerate a trend that we're already seeing in the US, which is the onshoring of manufacturing, thanks in part due to the IRA.So ultimately could create some near-term disruption but doesn't change the secular growth for the renewable space since developers in the US have already started to make the shift towards domestic supply.Michael Zezas: Yeah, that makes sense, Andrew. And obviously tariffs have been top of mind for investors as we've talked about here. Well, David, Andrew, thanks for taking the time to talk.And as a reminder, if you enjoy Thoughts on the Market, please take a moment to rate and review us wherever you listen and share Thoughts on the Market with a friend or colleague today.

17 Okt 20247min