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Morgan Stanley’s top equity strategist has once again warned investors about continuing to ride the ongoing stock market rally.
In a research note sent to clients, he admits he has been surprised by the magnitude of this bear market rally.
“In our view, it’s been driven by a combination of better than feared 2Q earnings (although revisions/price came down into the quarter), light positioning and continued hope for a less hawkish Fed path. In our view, the last catalyst is historically the one capable of driving significant late cycle rallies even amid deteriorating fundamentals. The most recent example of this occurred in 2019,” he said.
However, he remains pessimistic as inflation is “not likely to come off at a pace fast enough to spur the type of sustained Fed pause the equity market is already discounting.” He sees fewer and fewer chances of a dovish policy path after the strong July labor report.
At the same time, the equity valuation is “now significantly disconnected from fundamentals.”
“Our fair value framework suggests the market’s ERP is ~150 basis points too low based on current data. The message from us for the next several months remains: risk/reward is unattractive,and this bear market remains incomplete,” he emphasized in a note.
The equity strategist sees the earnings disappointment as the key driver of the next leg lower in stocks.
