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Podcast Summary: Midyear U.S. Outlook – Equity Markets a Step Ahead?

Podcast Information:

Title: Thoughts on the Market
Host/Author: Morgan Stanley
Episode: Midyear U.S. Outlook: Equity Markets a Step Ahead?
Release Date: May 23, 2025

Introduction

In the May 23, 2025 episode of "Thoughts on the Market", Mike Wilson, Morgan Stanley's Chief Investment Officer (CIO) and Chief U.S. Equity Strategist, delves into the current state of U.S. equity markets. He provides an in-depth analysis of recent developments concerning tariffs, interest rates, and their collective impact on the 12-month outlook for U.S. equities. Wilson offers insights into market volatility, trade policies, earnings forecasts, and the Federal Reserve's stance, presenting a comprehensive view for investors navigating the midyear market landscape.

Tariffs and Trade Developments

Reduction in China Tariffs

Wilson begins by highlighting a significant development in U.S.-China trade relations:

"The reduction in the headline tariff rate on China from 145% to 30% extended the rally in stocks last week and should help to support both corporate and consumer confidence." ([00:00])

This substantial tariff reduction has bolstered investor sentiment, mitigating previous trade tensions that had adversely affected market performance. Wilson emphasizes the timing of this detente, noting its critical role in averting a potential recession:

"The 90-day detente came at a critical juncture in my view, as a few more weeks of what was essentially a trade embargo would have likely led to a recession." ([00:00])

Impact on Market Volatility

The easing of trade tensions has also led to a notable decline in market volatility:

"Equity market volatility also subsided considerably amid the decline in trade policy uncertainty." ([00:00])

Wilson observes that volatility indicators peaked before the trade agreement and have since fallen below pre-truce levels, suggesting that trade-related headwinds have likely peaked in terms of their rate of change.

Equity Market Performance and Outlook

S&P 500 Recovery

Wilson discusses the recovery trajectory of the S&P 500, attributing it to positive momentum and earnings revisions:

"The combination of upside momentum and revision breadth and last week's deal with China has placed the S&P 500 firmly back in our original pre liberation first half range of 5,500 to 6,100." ([00:00])

He notes that while hard economic data may show softness in the coming months, the market had already priced in these expectations in April following a significant drawdown.

Earnings Revision Breadth

Earnings revision breadth, a leading indicator of corporate confidence, has shown signs of stabilizing:

"Earnings revision breadth also appears to have bottomed. This indicator is leading properties in terms of the direction of earnings forecasts and is an important gauge of corporate confidence in our view." ([00:00])

This stabilization suggests that corporate earnings forecasts are improving, reinforcing the bullish stance on equities.

Price Targets and Forecast Adjustments

Wilson addresses recent adjustments to Morgan Stanley's price targets and earnings forecasts:

"We effectively pushed out the timing of our original 6,500 price target for the end of the year to 12 months from today. This is mainly due to a less dovish Fed and therefore higher 10-year treasury yields than our economists and rate strategists expected at the end of last year." ([00:00])

Additionally, the firm has modestly trimmed its Earnings Per Share (EPS) forecast to account for higher-than-expected tariff rates, though he maintains a more optimistic view compared to the previous year.

Federal Reserve and Interest Rates

Fed's Stance and Treasury Yields

Wilson provides an analysis of the Federal Reserve's current stance and its implications for treasury yields:

"The Fed's next move is likely to be multiple cuts. In short, the rate of change on earnings, revision breadth, interest rates and policy changes from the administration are all now pointing in a positive direction." ([00:00])

He notes that despite lingering inflation concerns and Moody's downgrade of U.S. treasury debt, the Fed remains equipped to manage these risks:

"Ultimately, we think the treasury and Fed have the tools that they can and will use to manage this risk." ([00:00])

Potential Short-Term Risks

However, Wilson cautions about near-term risks stemming from overbought market conditions and high interest rates:

"The near term risk for US equities remains very overbought conditions and interest rates with the Fed on hold due to lingering inflation concerns and Moody's downgrade of U.S. treasury debt." ([00:00])

He points out that treasury yields have surpassed the 4.5% threshold, a level where their correlation with equities often turns negative, potentially leading to a market correction:

"Last Friday, 10-year treasury yields are back above 4.5%, the level where the correlation between equities and rates tends to move back into negative territory. Ultimately, we think... this is a potential catalyst for the S&P 500 to take a break and even lead to a 5% correction." ([00:00])

Despite this, Wilson remains bullish on the 6 to 12-month horizon, suggesting that such corrections could present buying opportunities:

"We would look to add equity risk into such a correction should it materialize given our bullish 6 to 12 month view." ([00:00])

Conclusion and Forward Look

In concluding his analysis, Mike Wilson reiterates Morgan Stanley's optimistic outlook for U.S. equities over the medium term. He attributes this optimism to improving earnings forecasts, stabilizing trade relations, and favorable policy shifts. While acknowledging short-term risks related to high interest rates and market overvaluation, Wilson remains confident in the fundamental strengths supporting the equity markets.

"Growth, negative policy announcements are now behind us and the Fed's next move is likely to be multiple cuts. In short, the rate of change on earnings, revision breadth, interest rates and policy changes from the administration are all now pointing in a positive direction." ([00:00])

Investors are encouraged to remain vigilant but take advantage of potential market corrections to reinforce their equity positions in anticipation of sustained growth.

Speaker Attribution

Mike Wilson, CIO and Chief U.S. Equity Strategist, Morgan Stanley

Notable Quotes with Timestamps

Reduction in Tariffs:

"The reduction in the headline tariff rate on China from 145% to 30% extended the rally in stocks last week and should help to support both corporate and consumer confidence." ([00:00])
Avoiding Recession Through Trade Detente:

"The 90-day detente came at a critical juncture in my view, as a few more weeks of what was essentially a trade embargo would have likely led to a recession." ([00:00])
Earnings Revision Breadth:

"Earnings revision breadth also appears to have bottomed. This indicator is leading properties in terms of the direction of earnings forecasts and is an important gauge of corporate confidence in our view." ([00:00])
Adjusting Price Targets:

"We effectively pushed out the timing of our original 6,500 price target for the end of the year to 12 months from today." ([00:00])
Short-Term Risks:

"Last Friday, 10-year treasury yields are back above 4.5%, the level where the correlation between equities and rates tends to move back into negative territory." ([00:00])
Bullish Medium-Term Outlook:

"We would look to add equity risk into such a correction should it materialize given our bullish 6 to 12 month view." ([00:00])

Final Thoughts

Mike Wilson's comprehensive analysis in this episode of "Thoughts on the Market" provides investors with a nuanced understanding of the current U.S. equity landscape. By dissecting the interplay between trade policies, interest rates, and corporate earnings, Wilson equips listeners with the insights necessary to navigate potential risks and capitalize on emerging opportunities in the midyear market environment.

This summary is based on the transcript provided and presents the key points discussed by Mike Wilson in the podcast episode released on May 23, 2025.

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Transcript2 lines

[00:01]
A
Welcome to Thoughts on the Market. I'm Mike Wilson, Morgan Stanley CIO and chief U.S. equity strategist. Today on the podcast I'll discuss recent developments on tariffs and interest rates and how it affects our 12 month view for US equities. It's Friday, May 23rd at 9am in New York, so let's get after it. The reduction in the headline tariff rate on China from 145% to 30% extended the rally in stocks last week and should help to support both corporate and consumer confidence. More importantly, the 90 day detente came at a critical juncture in my view, as a few more weeks of what was essentially a trade embargo would have likely led to a recession. Equity market volatility also subsided considerably amid the decline in trade policy uncertainty. In fact, both measures peaked well before the deal with China came together and are now back below where they were pre liberation day. To me, this means trade headwinds have likely peaked in rate of change terms and are unlikely to return to such levels again. This would fit with the capitulatory price action we saw in early April, with the average stock in the S&P 500 experiencing a 30% drawdown. In short, while the lagging hard data is likely to come in softer over the next coming months, the equity market already priced it in April. In the event of a recession that still arrives, we think the April lows will still hold, assuming it's a mild one with manageable risk to credit and funding markets. As further support for stocks earnings revision breadth also appears to have bottomed. This indicator is leading properties in terms of the direction of earnings forecasts and is an important gauge of corporate confidence in our view. The combination of upside momentum and revision breadth and last week's deal with China has placed the S&P 500 firmly back in our original pre liberation first half range of 5,500 to 6,100. Having said that, we think continued upward progress in earnings revision breadth into positive territory will be necessary to break through 6,100 in the near term given the stickiness in 10 year treasury yields. Amidst these developments, we released our mid year outlook earlier this week and updated our base bear and bull case targets for the S&P 500. In short, we effectively pushed out the timing of our original 6,500 price target for the end of the year to 12 months from today. This is mainly due to a less dovish Fed and therefore higher 10 year treasury yields than our economists and rate strategists expected at the end of last year we also trimmed our EPS forecast modestly to adjust for higher than expected tariff rates, at least for now. Looking ahead, we are more bullish today than we were at the end of last year. Given the growth, negative policy announcements are now behind us and the Fed's next move is likely to be multiple cuts. In short, the rate of change on earnings, revision breadth, interest rates and policy changes from the administration are all now pointing in a positive direction. The opposite of six months ago and why I was not bullish on the first half of this year. The near term risk for US equities remains very overbought conditions and interest rates with the Fed on hold due to lingering inflation concerns and Moody's downgrade of U.S. treasury debt. Last Friday, 10 year treasury yields are back above 4.5%, the level where the correlation between equities and rates tends to move back into negative territory. Ultimately, we think the treasury and Fed have the tools that they can and will use to manage this risk. However, in the short term, this is a potential catalyst for the S&P 500 to take a break and and even lead to a 5% correction. We would look to add equity risk into such a correction should it materialize given our bullish 6 to 12 month view. Thanks for tuning in. I hope you found it informative and useful. Let us know what you think by leaving us a review and if you find thoughts on the market worthwhile, tell a friend or colleague to try it out.
[04:05]
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