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IBM Representative
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Mike Wilson
Bloomberg Audio
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IBM Representative
Studios Podcasts, Radio news We begin this
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Host/Interviewer
out with stocks adding to gains to kick off the first full week of the first quarter, the third quarter Mike Wilson of Morgan Stanley writing falling energy prices, peaking tariff inflation and contained services keep the Fed on hold rather than hiking this year. Lower real rates should support equities and further fuel the broadening trade. I'm pleased to say that Mike joins us around the table for the next hour. He joins us for more. Mike, good morning. Good to see you.
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Mike Wilson
Good morning.
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Host/Interviewer
Let's just start with the stability we're seeing in the rates market and how important that is to set the stage for what you're anticipating in the next few months.
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Mike Wilson
Yeah, I mean, I think you were saying it earlier, I was listening to the show. I mean, there's somebody expecting a hike, there's someone expecting a cut, and we're on hold. And this is, I think what we've got to get used to is that with the new chair probably not giving as much guidance is going to allow the market to kind of figure it out on its own and have these differing, different views. We're in that adjustment period now. And, and I think that's one of the reasons why the market's been a little choppy or even correcting in the last month or so is we're getting used to this new regime, which is going to be higher volatility and potentially the bond market. But over time, I think what's going to end up happening is the market's going to settle down. It's going to, it's actually more, more estimates. A wider dispersion of estimates actually leads to lower volatility in the pricing over time. But we're in that adjustment period. So we think rates are lower ultimately, particularly at the back end. And oh, by the way, we've, we've talked about this on the show many times. New treasury secretary, you know, new Fed chair, this kind of new Fed treasury accord to really anchor the back end. That's what they're focused on. You got to get the back end down or at least anchored because you have so much debt that you have to basically finance.
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Host/Interviewer
Do you think in the meantime we're confusing a reduction in guidance with an increase in hawkishness? Yes, in the meantime.
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Mike Wilson
Yeah, I think that's right. And the market's pricing that now. So that's the good news is that we've already had that adjustment. And that adjustment started four months ago. Right. This is why precious metals have traded really poorly. You know, the day that WARSH was announced as a nominee, the gold market peaked and that, that was a sign the dollar has been stronger. So once again, the market has really gotten ahead of this.
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Host/Interviewer
So rates of reset, we've come down from around 4.2% to 4.1. There's a belief this morning, at least we've removed the urgency to hike as soon as July so we can put that story to bed. Cruise decline, massive reset in crude from triple digits down to the 60s on WTI. Does that open the door within the equity market and let's talk about the stock market exclusively. Does that open the door to, to the broadening trade again?
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Mike Wilson
Yeah, that's, that's our call basically, is that that was happening at the beginning of the year. Then we had Venezuela and then Iran. By the way, the market priced Iran before the invasion even happened or the attacks happened because. Because once again, it was pretty well signaled. And so that's when the broadening trade stopped. The broading trade literally stopped the day that the attacks happened. And we had the big spike in oil and then the pricing of the Fed to hike rates since I say mid May, which is we reiterated the broading call. We had a different view than most. We thought oil prices would come down and that has allowed now Fed pricing to sort of stabilize and that has allowed the broadening trade to reignite.
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Host/Interviewer
Small caps have performed nicely. Just had a massive quarter up by more than 20% on the Russell. We've seen the broadening trade speak to the performance we've seen in the equal weight on the S&P 500 as well. Let's talk about the Max 7, which increasingly was called the like 7. You've got to know out this morning talking about maybe the money going back into the hyperscalers. Just walk us through how you're thinking about what's happened in tech and that divergence between the big spending companies and the beneficiaries of all that spending and the divergence that's really widened in the last few months.
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Mike Wilson
Yeah, I mean, there's a symbiotic relationship between the spenders and the beneficiaries. And typically they trade sort of in lockstep. And a couple of things we've been writing about for the last several months, number one, capex to sales, that particular factor has been straight up since the big beautiful bill was passed, right? That, that basically the government's incenting businesses to spend money today rather than later. And so that capex of sales factor has been driving a lot of stocks higher. That looks like it's peaking now. And by the way, the hyperscaler stocks started to trade poorly about a month and a half ago and into this idea and, but that, that's not sustainable. You can't have the spender stocks trading poorly and the beneficiary stocks continuing to go straight up. And now what we saw last week, you know, announced that perhaps they're going to sell some excess capacity, maybe turn into a provider of capacity. That is just a reason for these things to take a break. Also, peak rate of change on revision breadth, right. The memory stocks revisions have been spectacular, but there's, they can only go so high. So all of that's kind of happening at the same time. And I expect the hyperscalers now to stabilize. That's what's going on the last couple of weeks. And the semiconductor stocks are going to, are going to correct. That's a good, that's a good development. That doesn't mean the capex cycle is over, but that ebbing and flowing between the two is a natural kind of governing factor because you can't have this divergence continue. It's unstable.
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Host/Interviewer
Your words take a break. That's interesting. Some people have called it a narrative shift for the overall trade and maybe a shift in spending too. Why is it one and not the other?
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Mike Wilson
Well, we don't know for sure, but we've had three of these already, John. So since Chat GPT was announced in November 22, we've had three of these sort of mini cycles within the broader structural CapEx cycle, which is that the market starts to question, oh, the return on capital isn't good enough to support this kind of capex. What happens then? The stocks trade poorly and then the CEOs of those companies come out and say, well, you know, maybe we won't spend as aggressively. And then it ebbs the other way. And so that's, that's the story. That's the dance back and forth. Now there is going to be a period, there is going to be a time we don't know when it's going to happen yet where the capex cycle will exhaust itself and we will have you know we've talked about this there is going to be mal investment here. We don't think that that spending cycle is over because they just started raising the capital in the credit market so they're going to spend the capital. Okay so but we can have these many cycles within in the structural bull
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Host/Interviewer
market of I think as you know though forget the spending that's not yet happened is the intentions that matter and a deceleration in capex intentions from here. How do you think this market is going to internalize the prospect of the that in the coming months?
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Mike Wilson
Well it's doing it right now so we talk about as a peak rate of change or you know trough rate of change second derivative growth and that's exactly what's going on. There's two things we're focused on earnings revision breadth for the semiconductor stocks themselves are like 75% that's about as high as it goes we've documented that so that's going to roll over that doesn't mean it goes negative but the deceleration on that can cause those stocks to correct and then of course the hyperscalers will benefit if the market perceives these companies as being somewhat capex disciplined that they're not going to do willy nilly spending in a way where free cash flow goes to zero or negative and by the way free cash flow expectations for some of those companies are going towards zero that's why they've underperformed so it sustains like I said back and forth and now in the last week and a half the hyperscaler some of the hyperscaler stocks have started to trade better. That's a good sign that we're going to have a slow correction this could last you know, four, six, eight weeks, something like that and then we'll probably have the next up cycle for the
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Host/Interviewer
semi these newer names that were in bear markets I'm talking about Matter and Microsoft Matter had a better week last week Chips, you keep using this word correct. When I hear that I'm just thinking what do you mean by that? How much is the downside? How big is the downside for some of these chip names?
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Mike Wilson
Well these are high beta stocks I mean they can correct 30, 40% in a bull market. No, by the way just look at the 200 day moving average that's a, that's probably a really good gauge. These stocks are so extended relative to those moving averages that's how you got to think about it. Those moving averages exist for a reason, right. They always return to the moving averages. Does it happen in a violent way or does it happen kind of gradually over time? We'll have to wait and see. But yeah, 30% correction in these stocks is, I mean, well, within possibility. In fact, some of them already have corrected.
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Host/Interviewer
You can have a 30% correction in chips. Just bear with me here. And you can still see the index move up and to the right on the S&P 500 even with a massive weight in the. They have.
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Mike Wilson
But we didn't say that. That's what I'm saying, but I mean that's part of our call too, is that we think this rotation is happening in a downtape.
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Host/Interviewer
Okay.
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Mike Wilson
Unlike the correction we saw in the precious metals stocks in January because they're such a small part of the index. Energy stocks had a big correction after having a great run in January, February. Now the market traded off a little bit because of the war itself. But what I'm. So I agree with what you're saying or your premise or your question, which is since these stocks are such a big part of the index, it's going to be really hard for the index to make any upward progress until this rotation has sort of happened.
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Host/Interviewer
This is a summer story for you.
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Mike Wilson
Oh, yeah. This. I don't, I mean, we're not bearish on the year end. We're, we're still 8,000 plus for year end and we've had that call for quite a while based on the earnings story. So that earnings story is very much intact. In fact, the fact that we're rotating now to some of these other areas almost confirms that thesis we've had all year, which is this is not just a tech story. That's a great story. But the broadening story is the story that I think people have really underestimated the rolling recession from a year ago. This operating leverage story, which I think is still very underappreciated.
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Host/Interviewer
Do you think the banks can start working now too?
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Mike Wilson
Well, they have been, I mean the money center banks and the capital markets banks really have been your stock.
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Host/Interviewer
Absolutely. Goldman stocks, fantastic. I'm talking about the others, the regionals.
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Mike Wilson
And so they've started to perform and that's been an area we've been highlighting now, the yield curve flattening still or, you know, is having trouble kind of steepening. So I think that group could pause a bit. We took that off of our list of favorites for the, for the broadening trade this week. But ultimately between now and year End we think, we do think the banks are going to do quite well because this is the strategy of the treasury and the Fed is they want more lending going through the traditional lending sector. So while the yield curve is flattening, loan growth is accelerating. And that's feeding this whole broadening out story of the economy. This is a strategy of the administration. They want a, a privately driven organic economic expansion and that's what we're getting. Notwithstanding that maybe the labor market isn't as robust as some people were hoping, but that's also then feeding the earnings story, right? Because you're seeing revenue growth without a crazy need to hire a bunch of people. And that's the operating leverage story. One on one.
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Host/Interviewer
This market, Mike, has been conditioned just to ignore all of this. This market burned by anyone, of course, anyone who was sure the market at the end of March for the next month or so got burned really hard. Why should it pay any attention to any of this over the next week?
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Mike Wilson
Well, what I would say is the market tends to get in front of this stuff. So what I'm trying to figure out is what is it, what is it digesting in the next six months? And I am, this is one of the reasons why I'm not that bullish in the short term. For the, I think we have discounted a lot oil prices at this point.
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Host/Interviewer
I mean, it's down, it's in the market.
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Mike Wilson
Yeah, well, it means oil prices are 70 bucks again. So it's going to be hard to really get oil prices below that level, you know, without a significant new source of oil or maybe demand being destroyed further, which is probably not a good thing for growth. So I think this is another part of the story is that we, you know, the market got ahead of this in April and May. It said oil prices, rate of change and oil prices have peaked. Okay. The conflict that continues to go on between Ukraine and Russia, I mean, like to me it's, this is sort of back and forth and it's uncertain, but the market, just like tariffs a year ago, the worst, the rate of change, the worst part of it is now behind. And markets are always forward thinking. So I'm trying to figure out what's going to happen in six months that was happening next week.
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The Hartford Representative
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