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Part of what's happening around this and other giant IPOs that we're expecting this year is investors are trying to free up cash and selling other stocks. But Wall Street is also digesting the latest inflation print. So we're looking at kind of an up and down trade here as well as in a situation in Iran that could be good, could be bad, or could be just the same as it is. Joining us now is Morgan Stanley, Chief US Equity Strategists and chief investment Officer.
Mike Wilson.
Mike, even if we claw back some of the losses today, we're still seeing this rotation. It looks like maybe out of tech into something else, or maybe it's investors freeing up cash for big IPOs. How do you explain the drops that we've seen today, yesterday, and especially on Friday.
Yeah, I mean I think so.
First of all, we've had this concentrated market in the last month, and it's part of this rotation that's been going on all year from one cyclical group to the next, and I will I would actually say it's from one commodity to the next. Okay, we can go through that in a minute. And so now what happened last week, and you know we wrote about this this week in pretty good detail, is that, you know, the earning revisions that we've been probably the most BULLISHU and I think
than anybody this year, have even exceeded our expectations. And they've gotten to a point now where the revision breath, the leading indicator, second derivative, is now at a level that's unsustainably high. Okay, so I'll give you an example semiconductor revision breath and that's a seventy percent. It's only happened three or four times in the last twenty five years. The S and P five hundred revision breath is close to thirty percent, also very very high.
So it's going to rollover. Now.
Last week, get a couple of companies report in the semiconductor industry. They were fine, but the revision breath started to roll over. So it's a second derivative. And then there's leverage in the system in that trade, and that's sort of starting to unwind a bit. To me, this is going to be a transition now to some new leadership.
All Right, Maybe it's a little too much math for my brain. But I was looking at earnings revisions and since last time you were on you pointed out they were pretty much convex, right, I mean just continued to climb.
We have a chart of that. We'll probably pull it up in a second.
It looks like we're getting near a plateau at least for twenty twenty six earnings revisions, which I guess makes sense.
What do you make of that?
You know, how much longer can we continue to head upwards with earning earnings revisions? And what do you mean by revision's breadth?
So revision breath is just that the breath of the revisions is supposed to the absolute level, and it leads to second derivative, the rate of change on the actual growth.
So I do not expect.
The first derivative, I either forward earnings growth to come down or fall.
We're showing it here in white twenty twenty six, in blue twenty twenty six.
So that white line is going to continue to go, but the revision breath is rolling over so that there's a deceleration a second derivative, okay, which is what the market's picking up a little bit. That's a correction, that's not a change in the trajectory. So as we go forward into next year, forward earning is going to contain to rise, and that's our call. That's why stocks can contain to rise into year end. Multiples don't have to rise. It's just a forward you move forward into twenty twenty
seven as you look forward for twelve months. But the rate of change matters in the short term. It matters, and that's what's going on right now. That to me that that's going to lead to some leadership change, just like it did earlier in the year when we went from gold and silver stocks to metals, to energy, and then we went into d ram and semi conductors.
By the way, all four of those are commodities.
I see, yeah, because you said earlier we're going from one commodity to the next.
That's right.
But semiconductor's DRAM high bandwidth d RAM is the hot commodity of the moment, right, Are we going to shift out of that into something else?
Well, it's happening.
I mean, like I mean, if Friday's sell off is a sign that that's exhausted.
We did a chart this week. It's pretty interesting.
We looked at silver stocks versus semi conductor stocks, and it's like right on top of each other.
And we made this call at the end of January.
We said Gold's probably going to go down thirty percent, you know, and that would be normal.
That's what I would like to see, because.
You can't stay at that page, you know, to your point, you can't stay at that rate of change, both on price of stocks or the revisions. The key is is there a place to rotate too that the market can kind of hold in. We think there is, and we've highlighted it as consumer some of the other industrial areas like transportation stocks and even the regional banks. And by the way, all three of those areas were up yesterday in the downtape.
First off, like how much does this really move markets anymore?
I mean, we're kind of used to no outcome here, that's right. We would likened this to the teriffs a year ago.
We were probably the first ones to sort of not dismiss what's going on in the Middle East, of course, but that the market has moved past the oil spike like it did with terror. So if you go back a year ago in June, people were still kind of hand ringing around the terraces like because we didn't take them down, but the market moved past it and it started thinking forward, and it started focusing on the earnings revisions, which were turning positive.
At the time.
And I think it's a very good analogy. Nobody really knows how this is going to work out. But what I like to say is that the world is a lot more resilient than people think around these types of activities.
And you know, we've had some obviously, some.
Facilities get destroyed in this, particularly in Katar, and I like to remind folks that, you know, when Russia invaded Ukraine, we saw the North Stream pipeline get blown up, and people are like, oh my god, this is and what happened Germany bought, you know, built a bunch of LNG facilities. Because the world is resilient, you know, like it won't
tolerate this. And I also think that ultimately, you know, Iran is fighting not just the United States and Israel on this, They're now fighting the world, right, so the pressure is going to build here and ultimately, like my base case is that this will the enough flow is getting through now and there will be new flow and then there'll be new supply as we were talking offline.
I think this is going to lead to basically many countries basically adopting, you know, kind of going back to fossil fuels.
And new roots as well.
I mean, it's interesting to me that after you know, a US helicopter is shot down you have to assume by the Iranians, and then the US launches a counter strike, We're still seeing Brent at ninety two dollars a barrel in WTI under ninety It's like all the horror stories we have about inventories being dry, aren't moving this mark.
That's right, Well, we're not there yet, right, I mean, and markets, you know, they wait until the last minute because we don't know the answers.
It's a binary outcome.
Now, what would make me bearish is at the kinetic war really escalated again, like if we went back to where it was in the first couple of days of this conflict. That's the situation that I'm not planning on. If that would have happened, oil's going to probably spike to one fifty pretty quick and we're gonna have a real problem. But I mean, that's not my base case.
Morgan Stanley's Mike Wilson still with us here at the desk, and MI like, we haven't talked about these gigantic IPOs. What do you make of the I guess animal spirits right, or else they wouldn't be here. And the mechanical effects on the market. Surely some people are selling winners to get into whatever ipo they want.
Yeah, I mean, look, the market's been very receptive, not only to equity offerings, but dead offerings. I mean it's been another kind of binanza year. Not as strong as as twenty twenty one, but I mean that's a sign of a healthy market. Quite frankly, when you're absorbing this kind of supply, so it doesn't bother me. I think the you know, the collection of stuff, maybe all at once, can create some you know, digestion problems, but there's plenty of liquidity out there. I mean, I give you one
statistic which I think will help maybe understand this. You know, companies distribute income, whether through buybacks or dividends, and they do about one point seven trillion dollars a year. That's just you know income back to the showolders. Now, some of that's reinvested like dividends, but that's a lot of money. Right, and then you have inflows from retail all the time and pensioners and asset owners. So there is capital out there, and so the fact that the market's absorbing these deals
doesn't bother me. The collection in one quarter can create some you know, disruption, but I think there's there's capital to absorb this.
By the way, that goes to the heart of my my main question watching this throughout the last months and years. Right, because spreads have been so tight and equity indexes keep running up, investors have enough money to pile it into gold and things like bitcoin. Where's all this cash coming from.
Well, don't forget the bond market's been in a bear market for four years. Okay, So what we're seeing is people are not reinvesting their bond proceeds, right, they mature, and they're putting into things that can actually protect them against inflation, something we haven't talked about yet. Like, the average asset owner is pretty smart. They figured it out that, hey, that the biggest risk going forward is inflation, which is kind of my thought. Then I want to own assets
that will protect me against inflation. That's not bonds, okay, that's equities, it's gold, it's silver, it's other real assets, and that's what they're doing. So there's just a there's a tatonic shift, okay, from the sixty forty to something that looks more like sixty twenty twenty or even seventy thirty, depending on your preference.
So what is your take on inflation? Do you can Are you concerned it can continue to climb from here? Because four point two percent is a pretty shocking CPI number. If we hadn't all been through the sort of Biden inflation era of nine, this would be insane. And then the core looks pretty light at zero point two if you just month over month.
Yeah, maybe something perfectly clear.
I'm a headline guy, okay, I'm not a core guy making all these adjustments because I live in the real world, and by the way, stocks live in the real world, meaning like we don't take out certain things.
I mean the earning.
One of the reason why earnings are so good this year, which is part of our call, is that nominal GDP growth is accelerating, and half of that is inflation. So inflation is very, very good for earnings growth, and it's very good for stocks so long as the FED isn't pulling.
Away the punch bowl.
Okay, so the fact that the Fed is now talking about core PCE like they did in twenty twenty one and kind of justifying why they're not raising race when maybe they should be. We'll see litter this year. Then that allows multiples to kind of stay where they are. And so there's a lot of similarities to me to twenty twenty one. Right we have this incredible earning story driven by higher inflation pent up demand, and we're seeing
inflation kind of breaking above levels that are comfortable. The Fed is justifying not raising race because of a core PCE and maybe there's some AI productivity boom coming, which probably is and Gona they're going to hold firm and
that's a recipe for higher stock prices. Now, we could run into trouble later this year if inflation continues to go towards five percent, and then the Fed's going to have to do something about it because they got to retain their credibilit So it's a very similar set to twenty one, which was a very good year for stocks, but it rotated around. It's exactly what we're seeing right now, and I think it's gonna be more the same.
But I'm I mean, I imagine your base case is that we don't get to five percent or more on CPI, that the FED doesn't really do much beyond maybe one hike, right, and that we continue to have this nominal GDP growth that drives earnings.
Well, that's our base case exactly. Now.
I think that sets us up for something maybe a little different for next year. We'll have to see, because next year we're going to have a real deceleration potentially in the growth rate.
Right.
But between now and you're in, that growth rate is going to stay probably north of twenty percent on a forward basis, which is pretty healthy. So I don't anticipate a lot of multiple contraction this year, but I think that could be an issue for twenty twenty seven.
Well to wait and.
Say, but this base case is why you like transportation stocks, why you like shippers? I mean today's idiosyncratic I guess Amazon story aside. You think that the economy is can continue humming along and that these guys are going to ship more stuff and have enough power to raise prices.
Yeah, what's really going on, Matt, is that the economy now seeing real velocity and the private economy. Right, We've had this thesis for a long time that we're seeing a rebalancing from the kind of government driven economy to a private driven economy. That's why all the payroll numbers now are in the private area and there's real volume going through the economy. We got real GDP growth with volume for the first time in three or four years, which is driving a lot of these sectors that have
been dormant, like consumer like consumer goods in particularly. We think in the second half of this year. They were working earlier this year until inflation picked up and you know, the war kindomy evolved.
But we think that comes back.
Same thing for things like regional banks, transportations in another area, and by the way, tech can work in that environment too. It's just got a little overcooked here in the short term.
What do you make of the consumer?
There's so much talk, probably far too much about the K shaped economy, but there are you know, many people struggling with higher prices that are having to decide whether to buy, you know, cheaper food so they can put gas in their car. Does that not hurt the consumer stock story?
It doesn't hurt the consumer stock story because eighty percent of the spending is done by the top you know, twenty percent or thirty percent of the consumer. So it's just a you know, it's it's not good for the people at the bottomen of that k. But my job as a market strategist is to say, is this going to change the earnings profile? And I don't think so.
In fact, we start this morning some more of these you know, retail oriented stocks, you know, consumer consumption stocks doing quite well, and we think that's going to continue into the second half of the year, particularly if oil prices come back down.
All Right, what a fantastic education. I love when you come on the show and we get to spend some time with you, because I learned so much. Morgan Stanley, Chief US Equity Strategies and Chief Investment Officer, Mike Wilson