Our CIO and Chief U.S. Equity Strategist explains why the new
tariffs added momentum to a correction that was already underway,
and what could ease the fallout in equity markets.
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 equity market reactions to the tariffs
and what to expect from here.
It's Tuesday, April 8th at 11:30am in New York.
So, let's get after it.
From our perspective, last week's Liberation Day was more like
the cherry on top for a market that had been dealing with
multiple headwinds to growth all year, rather than the beginning.
While the magnitude of the tariffs turned out to be worse than
our public policy team's base line expectations, the price
reaction appears capitulatory to us given that many stocks
were already down 30 to 40 percent before the announcement on
Wednesday. As discussed in last week’s podcast, our 5500 first
half support level on the S&P 500 quickly gave way given this
worse than expected outcome for tariffs. The price action since
then has forced us to consider new technical support levels which
could be as low as the 200-week moving average. And that would be
4700 on the S&P 500.
I think it’s worth highlighting that cyclical stocks started
underperforming in April of last year and are now down more
than 40 percent relative to defensive stocks. In other words,
markets have been telling us for almost a year that growth was
going to slow, and since January, it's been telling us it's going
to slow significantly. In fact, cyclicals have underperformed
defensives to a degree only seen during a recession, not prior to
them. This fits very nicely with our long-standing view that most
of the private economy has been much weaker than the headline
numbers suggest – thanks to unprecedented fiscal spending,
AI capex and wealthy consumers spending their gains from asset
prices.
With the exceptional fourth quarter surge in U.S. fiscal spending
likely to decline even without DOGE's efforts, global
growth impulses will suffer too. Hence, foreign stocks are
unlikely to provide much of a safe haven if the U.S. goes on a
diet or detox from fiscal spending. Markets began to contemplate
such an outcome with last week’s announcements. Therefore, I
remain of the view we discussed two weeks ago that U.S. equities
should trade better than foreign ones going forward. That is
especially the case with China, Europe and Japan all which run
big current account surpluses and are more vulnerable to weaker
trade.
Meanwhile, the headline numbers on employment and GDP have been
flattered by government related jobs and the hiring of immigrants
at below market wages. This is one reason the Fed has kept rates
higher than many businesses and consumers need and why we remain
in an economy of haves and have-nots. Our long standing thesis is
that the government has been crowding out much of the
economy since COVID, and arguably since the Great Financial
Crisis. It's also why large cap quality has
been such a consistent outperformer since the end of 2021 and why
we have continued to have high conviction and our recommendation
are overweight these factors despite short periods of
outperformance by low quality cyclicals or small caps – like last
fall when the Fed was cutting rates and we pivoted briefly
to a more pro-cyclical recommendation.
Bottom line, equity markets are discounting machines and they
trade six months in advance of the headlines. With most stocks
topping in December of last year and cyclicals’
relative performance peaking almost a year ago, this
correction is well advanced, and this is not the time to be
selling. However, it's fair to say that the tariff announcements
last week have taken us to an area with greater tail risk that
includes a recession or financial contagion that must be taken
into consideration when thinking about levels and adding risk.
I see three specific scenarios that could put in a durable floor
more quickly:
1. President Trump delays the effective date for the
implementation of the additional tariffs beyond the initial
10 percent that went into effect this weekend
2. The Fed offers support for markets, either explicitly or
verbally
3. A number of nations come to the table and negotiate on
favorable terms to the United States.
In short, get ready for another bumpy week and remember markets
are looking much further ahead than today’s headline. I remain
optimistic that the second half will be better than the first as
these growth negative policies morph into growth positive ones
via de-regulation, a better fiscal trajectory, lower interest
rates and taxes and maybe even higher wages for the American
consumer.
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.
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