Morgan Stanley sees more gains for S&P 500. Investors will need patience.

Mint

22-05-2025

U.S. stocks are likely to extend their post 'Liberation Day" rally, according to strategists at Morgan Stanley, but the gains may not come until the end of the year because Treasury yields remain range-bound and uncertainty about tariffs is clouding the outlook for corporate earnings.
The bank's cross-asset strategy team, led by Serena Tang, said the S&P 500 will hit 6500 points, a 9.5% advance from current levels, by the second quarter of next year. The boost, however, is likely to come from Federal Reserve rate cuts, government deregulation, and a weaker dollar, all of which could take months to manifest as inflation pressures linger and lawmakers grapple with their current budget plans.
The bank, which kept its Equal Weight rating on global stocks in place, raised its call on U.S. assets to Overweight from Neutral. Morgan Stanley cited a 'backdrop of a slowing but still expanding global economy despite policy uncertainty, along with deregulation and more rate cuts than priced in the markets."
The S&P 500 moved into positive territory for the year so far last week, riding a furious rally that has lifted it 6.6% since the start of the month. The market benchmark has risen 19% from the lows it hit in early April in response to President Donald Trump's unveiling of sweeping global tariffs.
Much of that move has been tied to a stronger-than-expected profit-reporting season. Aggregate first-quarter profits for companies in the S&P 500 are now forecast to rise more than 14% from last year, an improvement of nearly five percentage points from earlier estimates, according to LSEG data.
However, the data also suggest that the growth rate will slow to around 6.9% over the three months ending in June, with single-digit percentage gains expected over the third and fourth quarters.
'We think that stocks won't revisit the lows of April in the near term, especially since the large drawdowns experienced year to date have mainly been reactions to tariff shock-and-awe," the bank said.
Treasury bond yields, while rising sharply from earlier in the year, have held at key levels for much of this month, thanks in part to an uncertain inflation outlook and a hawkish Federal Reserve. Rate cuts that might help the stock market now seem increasingly remote as a result.
Benchmark 10-year note yields were last pegged at 4.535%, an increase of 0.36 percentage point from their early April lows. Yields on rate-sensitive 2-year notes topped 4% in early Wednesday trading.
Fed officials, in fact, have signaled this week that the central bank is unlikely to consider reducing its key lending rate, which currently sits between 4.25% and 4.5%, until the September meeting of the Federal Open Market Committee, when the bank will publish updated forecasts for growth and inflation. By then, policymakers may have a better understanding of how Trump's tariff strategy is affecting the world's biggest economy.
'It's not going to be that in June we're going to understand what's happening here, or in July," New York Fed President John Williams told a Mortgage Bankers Association conference on Monday. 'It's going to be a process of collecting data, getting a better picture, and watching things as they develop."
Tang, and the team at Morgan Stanley, see expectations that the Fed will cut rates accelerating as the year draws to a close. Economists at the bank are forecasting several quarter-point reductions in 2026.
'Substantial monetary easing is ahead along with the benefits of deregulation," the bank said. 'Our equity strategists see the future U.S. policy agenda to be more accommodating, and expect the seven Fed cuts our economists anticipate for 2026 to be supportive of higher-than-average valuations."
Tang and her cross-asset strategy team see Fed rate cuts pulling 10-year U.S. Treasury yields notably lower, to around 3.45% by the middle of next year, a decline of nearly a percentage point from current levels.
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