Stocks are entering a danger zone as they’re already pricing in a Fed pause, top Morgan Stanley strategist says
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Stocks’ strong rally this year may not last much longer, Morgan Stanley Wealth Management says.
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“We are entering a dangerous phase,” CIO Lisa Shalett said in a recent research note.
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Good news that could potentially extend the rally has already been priced in, she added.
Stock-market valuations look perilous right now, as investors have already priced in potential good news that could have sparked future rallies, according to Morgan Stanley Wealth Management’s top strategist.
CIO Lisa Shalett said Monday that markets have already factored in a Federal Reserve pause, falling inflation, and lower real interest rates – making it unlikely that equities will achieve further gains.
“The bear market rally in stocks rolls on, yet much of the good news around Federal Reserve rate hikes, declining headline inflation and lower real interest rates has been discounted,” she wrote in a research note seen by Insider.
“With much optimism priced in, especially around the sustainability of low interest rates that support extreme valuations, we are entering a dangerous phase,” Shalett added.
Stocks have started 2023 on a tear, with the benchmark S&P 500 jumping 8% and the tech-heavy Nasdaq Composite soaring 16% year-to-date.
Hopes of a Fed pause have fueled the rally, with just under 80% of traders expecting the central bank to have wrapped up its rate-hiking campaign by mid-June, according to CME Group. Typically, investors bid up the price of stocks if they no longer have to worry about companies’ borrowing costs to rise and eating up more and more of their cash flows.
Equities have rallied thanks to inflation retreating from four-decade highs as well. Moreover, it appears many companies were able to raise prices enough last year to offset the impact of higher borrowing costs on their profits.
Negative headlines about the economy have tended to push stocks upward this year, as investors wager the Fed will have to call time on its tightening campaign soon.
But that could be about to change now that markets’ optimism about a Fed pause and falling inflation is fully priced in, according to Shalett.
“Bad economic news is now bad for the stock market,” she wrote, highlighting a softening jobs market, a rise in bankruptcies, and a slowdown in lending as worrying headlines that could spark a sell-off.
Read more: Brace for the US economy to crash-land as the banking turmoil creates a credit crunch, Allianz says
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