Morgan Stanley Says Stocks Aren't Risky Enough At All Yet
Excerpt: This is What Will Happen if No Pivot
We read the newest piece by Mike Wilson the MS UberBear. ZeroHedge does a full write up on it entitled "This Could Get Very Ugly, Very Quickly":.. Wilson Sees Stocks Tumbling Another 22% here. For MS the bottom line is, “we don't think a 3,500-3,600 (the current recent low) S&P 500 is consistent with the consensus view for a mild recession.”
Wilson’s analysis is rational doom-and-gloom stuff. Less macro and more fundamental at the earnings level as well. Here is an overview.
Consensus calls for a mild recession in the first half and a recovery in the second. They do not agree
Their Earnings forecast model calls for more EPS downside Risk- And accelerating revisions downward
If their EPS projections are right, then The ERP is not nearly as big as it needs to be.
If you start seeing earnings revisions downward, (They think it's going to happen and describe why), then its game-on for their model
Then stocks go below 3500-3600, down as much as 22% from here
Then the ERP spread will get to where they think it should be to fully price in a recession
The key to this from our vantage is: Wilson believes the market is grossly missing how dedicated Powell is (warranted or not) to fighting inflation.
Wilson Likes ERP For Risk Analysis
The term equity risk premium (ERP) refers to an excess return that investing in the stock market provides over a risk-free rate. For here, think of ERP as how much potential upside do you think stocks have relative to the 10 year bond. The bigger the number is, the more enticing it is to attract stock investors. It’s a very subjective but good tool in the right hands. The ERP gets widest when a recession is priced in, and therefore can be used like an oversold indicator in recessions.
ERP Peaks mid to near end of recession , so by this measure, stocks are nowhere near discounting the full one...
Inflation was Propping Earnings
If he is right and earnings do compress in no small part from dropping inflation without stimulus, then stock prices could be down even more than 22% at the lows. The bottom line, we don't think a 3,500-3,600 S&P 500 is consistent with the consensus view for a mild recession. That is one way the consensus could be right directionally, but wrong in terms of magnitude.
Remember what happened in Q3 2022...
Some Notes taken:
- Consensus is bad 1st half, good 2nd: Everyone is not as bearish as you’d think. Is he disagreeing with Hartnett or is Hartnett just saying they will pivot after Wilson is right??
- Margin Compression: Dropping inflation is bad for profitability.- Valuations were inflated too
- Stock Picking: Stocks will begin to differentiate based on how they are run now- Paired trades will come back
- The Equity Risk Premium (ERP) remains way too low at just 233bps given the earnings we forecast.
- Watch for negative earnings revisions to drive things lower- and to accelerate once it starts
- Parallels with Aug 2001 and 2008
- If you think a mild recession is coming, you cannot assume the market has priced it given the ERP is at its lowest level since the run up to the Great Financial Crisis in 2008.
Russian sanctions: pic.twitter.com/fc2FR6kAAK— VBL’s Ghost (@Sorenthek) January 10, 2023
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