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Morgan Stanley’s equity strategists are not ready to declare the all-clear for U.S. equities. Despite 2022 being one of the most challenging years for investors, MS sees more challenges for stocks in the near term.
“This is a time for patience,” the strategists wrote in the “2023 Outlook” note sent to Morgan Stanley’s clients.
The backbone of this cautious stance is the fact that the Fed’s actions need 6-12 months to produce the full economic impact. The strategists say the market might not know the full impact of aggressive hikes “until well into next year.”
Echoing the comments about high earnings risk, the consensus for the S&P 500 EPS for 2023 stands at $230. This is extremely high, given that some major indicators point to an 80% chance of a recession.
“Such a scenario fails to account for the likelihood that companies will simultaneously encounter declining volumes and loss of pricing power, ushering in powerful negative operating leverage,” the strategists wrote.
Morgan Stanley’s S&P 500 EPS projection stands at $195 – significantly below consensus. In line with this estimate, they see a 15-20% retreat from current levels in the S&P 500. The drop in the first half of the year should “be followed by recovery through year-end to a level essentially flat with today.”
The Fed pause will weaken the U.S. dollar and “could translate into positive returns in commodities, gold and non-US stocks.”
“Emerging markets look particularly interesting, given their relative valuations and overall resilience in the face of China lockdowns, energy and food price inflation, and US dollar strength. Based in part on our expectation for improvement in Chinese growth prospects by next spring, we believe the risk/reward is above average,” the strategists added.
