Special Encore: Uncertainty Surrounds 2025 U.S. Equities Outlook
Podcast: Thoughts on the Market
Host: Morgan Stanley
Release Date: December 30, 2024
Morgan Stanley's "Thoughts on the Market" presents a comprehensive analysis of the U.S. equities outlook for 2025 in their special encore episode. Hosted by Mike Wilson, CIO and Chief U.S. Equity Strategist, and Andrew Pauker from the U.S. Equity Strategy Team, the episode delves into market drivers, policy impacts, sector positioning, and investor sentiments shaping the financial landscape as we approach 2025.
1. Introduction and 2025 Equities Outlook
The episode kicks off with Mike Wilson setting the stage for the discussion on the 2025 U.S. equities outlook. On November 26th at 5:00 PM, Wilson and Pauker present their forecast, emphasizing both the opportunities and uncertainties that lie ahead.
Key Forecast:
- S&P 500 Price Target: 6,500 by the end of 2025, reflecting a 9% upside from current levels.
Andrew Pauker [01:00]: “Mike, we're forecasting a year-end 2025 price target of 6,500 for the S&P 500. That's about 9% upside from current levels.”
2. Drivers of the 2025 Price Target
Wilson breaks down the factors contributing to the optimistic price target, focusing on earnings growth and valuation strategies.
Earnings and Valuation:
- Earnings Forecast: Steady with no significant changes; expected growth around 8%, potentially higher.
- Valuation Multiples: Despite a 5% depreciation, multiples remain historically high, allowing for appreciation driven by earnings.
- Macro Uncertainty: Acknowledges potential fluctuations in growth rates and interest rates, emphasizing a non-linear progression.
Mike Wilson [01:12]: “We really didn't change any of our earnings forecast... From an economic standpoint and from a rate standpoint, it's unlikely rates are going to come down... All the appreciation from our earnings forecast for about 10, 12%, a little bit of a discount for multiple that gets your 9% upside.”
3. Policy Changes Post-Election and Market Impact
The discussion shifts to the anticipated policy shifts following the U.S. elections and their implications for the market.
Potential Policy Changes:
- Deregulation: Expected to be a significant positive, aligning with President-elect Trump’s agenda for business-friendly policies.
- Tariffs: Uncertainty around potential increases in tariffs, initially causing stock volatility but mitigated by appointments like Scott Bessen as Treasury Secretary.
- Immigration Enforcement: Potential negative impact on growth, labor supply, and costs.
Mike Wilson [03:11]: “What markets are most excited about, I would say, is this idea of deregulation... On the negative side, what markets are maybe wary about, of course, is tariffs... Immigration enforcement and the impact there on growth and also labor supply and labor costs.”
Market Volatility:
- Anticipates increased volatility in the coming months as policy announcements are tested as "trial balloons."
- Emphasizes the importance of sequencing in policy implementation, particularly regarding tariffs and immigration.
4. Positioning Across Styles, Themes, and Sectors
Under the theme "Stay Nimble Amid Changing Market Leadership," Wilson and Pauker discuss strategic positioning to capture leadership shifts within the market.
Strategic Pivot:
- From Defensive to Pro-Cyclical: Transition influenced by improved economic outlook and unexpected rate cuts by the Fed.
- Quality Cyclical Rotation: Focus on sectors like financials and industrials, favoring high-quality businesses with strong balance sheets.
Mike Wilson [05:23]: “What we did was we went to quality cyclical rotation. What does that mean? We prefer things like financials, maybe industrials, kind of a close second from a sector standpoint.”
Sector Preferences:
- Financials and Industrials: Primary focus due to their resilience and growth potential.
- Utilities: Maintained as overweight for their defensive qualities and offensive opportunities in energy sectors.
5. Sector Analysis: Financials
Andrew Pauker delves deeper into the financial sector, highlighting why it remains the top pick for 2025.
Reasons for Financials Being Top Pick:
- Rebounding Capital Markets: Improved conditions favoring financial institutions.
- Strong Earnings Revisions: Positive outlook on earnings growth within the sector.
- Buybacks Acceleration: Potential increase in share buybacks enhancing shareholder value.
- Post-Election Deregulation: Continued deregulation could drive sector performance.
- Valuation: Financials remain attractively valued, positioned in the 50th percentile historically.
Andrew Pauker [07:16]: “Financials remains our top sector pick following our upgrade in early October... Relative valuation remains undemanding in kind of the 50th percentile of historical levels.”
6. Investor Feedback and Sentiment
Wilson and Pauker address the feedback received from investors, discussing areas of consensus and contention.
Common Themes in Investor Feedback:
- Stock Valuation Concerns: Persistent worries about high stock valuations despite strategic shifts.
- Small Caps Debate: Transition from underweight to neutral stance on small caps, with investors seeking clarity on future positions.
- Government Efficiency Skepticism: Mixed opinions on the potential for government spending reduction and its impact on the economy.
Mike Wilson [07:56]: “The pushback then is the same as it is now. It's just that equities are expensive... People want to understand this analysis that we did this time around, which kind of just shows why multiples can stay higher.”
Positive Outlook on Government Spending:
- Wilson expresses excitement over the possibility of freezing or shrinking government spending, which could enhance private sector productivity and broad market rally.
Mike Wilson [09:21]: “There's so much skepticism around the ability or likelihood of success in shrinking the government... by freezing the size of the government and redeploying those efforts into the private economy, we could see a very significant increase in productivity.”
Consumer Sector Concerns:
- Pauker highlights pessimism in the consumer discretionary sector due to shifts from goods to services, high prices, and sticky interest rates. However, potential reversion towards goods could improve outlook.
Andrew Pauker [10:28]: “We laid out a couple of drivers that could potentially get us more positive on that cohort... a reversion in terms of the wallet share shift actually back towards goods.”
7. Conclusion and Final Thoughts
The episode wraps up with closing remarks, reiterating the importance of staying adaptable amidst market uncertainties and policy shifts. Wilson and Pauker emphasize their commitment to navigating the evolving financial landscape with strategic sector positioning and a keen eye on macroeconomic indicators.
Mike Wilson [11:21]: “That's great. Andrew, thanks a lot. Thanks for taking the time to talk today.”
Key Takeaways
- Optimistic 2025 Outlook: Aiming for a 9% upside in the S&P 500 driven by steady earnings growth and favorable valuation multiples.
- Policy Impact: Deregulation and potential tariff changes will significantly influence market dynamics, with increased volatility expected in the near term.
- Strategic Sector Positioning: Emphasis on financials, industrials, and high-quality cyclical sectors to capitalize on economic improvements and policy shifts.
- Investor Sentiment: Mixed feelings on stock valuations and small caps, with particular interest in government spending efficiency and its broader economic impacts.
- Consumer Sector Dynamics: Watch for shifts back towards goods consumption as a potential catalyst for improved performance in consumer discretionary stocks.
Notable Quotes:
- Andrew Pauker [01:00]: “We're forecasting a year end 2025 price target of 6,500 for the S&P 500. That's about 9% upside from current levels.”
- Mike Wilson [01:12]: “It's unlikely rates are going to come down... it's very high relative to history.”
- Mike Wilson [03:11]: “Markets are most excited about deregulation... a trial period where we're going to see a lot of announcements.”
- Andrew Pauker [07:16]: “Financials remains our top sector pick following our upgrade in early October.”
- Mike Wilson [09:21]: “By freezing the size of the government and redeploying those efforts into the private economy, we could see a very significant increase in productivity.”
This comprehensive analysis by Morgan Stanley provides valuable insights into the factors influencing the U.S. equities market as we head into 2025, offering investors strategic guidance amidst a landscape of policy changes and economic uncertainties.