Wall Street is warning investors to get ready for stocks to drop

Hindustan Times

9 hours ago

A chorus of stock market prognosticators at some of Wall Street's biggest firms is warning clients to prepare for a pullback as sky-high equity valuations slam into souring economic data. Morgan Stanley strategist Mike Wilson sees a correction of up to 10% this quarter as tariffs hit consumers and corporate balance sheets. (Bloomberg)
On Monday, Morgan Stanley, Deutsche Bank AG and Evercore ISI all cautioned that the S&P 500 Index is due for a near-term drop in the weeks and months ahead. The predictions come after a furious rally from April's lows that propelled the gauge to levels it has never seen before.
Morgan Stanley strategist Mike Wilson sees a correction of up to 10% this quarter as tariffs hit consumers and corporate balance sheets. Evercore's Julian Emanuel is expecting a more substantial decline of as much as 15%. And a team at Deutsche Bank led by Parag Thatte notes that a small drawdown in equities is overdue considering they've been on a tear for over three months.
'Over the last couple of weeks, we have noted that investors should expect a modest pullback in the third quarter,' Wilson said in his note to clients.
The calls are coming amid mounting concerns about the US economy after data last week showed an uptick in inflation as well as weakening job growth and consumer spending. In addition, stocks are entering what's usually their weakest time of the year. Over the past three decades, the S&P 500 has performed the worst in August and September, losing 0.7% on average in each month, compared with a 1.1% gain on average across other months, according to data compiled by Bloomberg.
In addition, stocks have gotten expensive. The S&P 500's 14-day relative strength index topped 76 last week — its highest point since July 2024 before US stocks briefly peaked last summer and above the 70 level that market technicians view as a sign of overheating.
Options trading is also showing the fear of a downturn, as hedging against another rout becomes more expensive. Contracts protecting against a 10% decline in the SPDR S&P 500 ETF Trust (SPY) over the next 60 days compared to the cost of contracts hedging against a similar rally is hovering around levels not seen since the regional banking crisis in May 2023.
Still, despite the near-term concerns, the warnings come with a big bullish caveat: In the event of a dip, buy it.
At Evercore, Emanuel emphasizes that the long-term bull market in stocks is still intact despite expectations for volatility, and he advises clients to stay invested, particularly in companies capitalizing on the artificial intelligence boom. Deutsche's Thatte points out that historically the S&P 500 experiences small pullbacks of around 3% every one-and-a-half-to-two months on average, and larger ones of 5% or more every three-to-four months.
'We're buyers of dips,' Wilson told clients.
So far, traders are heeding the advice. The S&P 500 and Nasdaq 100 Index are both up more than 1% on Monday after Friday's selloff on optimism that the Federal Reserve will cut interest rates soon.