- It's time for investors to fade the stock market rally and take profits, according to Mike Wilson of Morgan Stanley.
- Wilson believes the 17% rally in the S&P 500 rally from its mid-October low is simply a bear market rally.
- He said cracks are starting to form in both the jobs market and the strength of the consumer.
US stocks have had a good run over the past six weeks, with the S&P 500 soaring as much as 17% from its mid-October low.
But now its time for investors to fade the bear market rally and take profits, according to Morgan Stanley's top strategist Mike Wilson, as the S&P 500 runs into a wall of resistance and cracks begin to form in both the jobs market and the consumer.
In a Monday note, Wilson said, "While the [S&P 500] has modestly exceeded its 200-day moving average and the breadth continues to expand, the downtrend from the beginning of the year remains in place. This makes the risk-reward of playing for more upside quite poor at this point, and we are now sellers again."
There are two big technical resistance levels Wilson referenced in his note: the downward sloping 200-day moving average at 4,044 on the S&P 500, and a well-defined down-trend line that began at the early 2022 peak and is currently around 4,040. The S&P 500 fell nearly 1% on Monday to 4,034, below both resistance levels.
Wilson recommends investors stay defensively positioned in healthcare, utilities, and consumer staples stocks "as rates are likely to fall further into next year as growth and inflation continue to slow," according to the note."Growth stocks are unlikely to benefit from falling rates from here given risk to earnings, especially for tech and consumer oriented businesses which are large weights in growth indices," Wilson said.
From a fundamental perspective, Wilson highlighted cracks that are beginning to appear in both the jobs market and among consumers.
"Challenger job cuts and ADP data suggests the rate of change is worsening. Challenger job cuts saw a notable pickup on a 3-month rate of change, while ADP data was broadly negative except for leisure and hospitality," Wilson said.
And if it turns out the economy avoids an economic recession because employers are hesitant to fire employees due to recent labor shortages, it will hurt profit margins even more and lead to a drop in the S&P 500 earnings per share next year. "It could make the earnings recession worse," Wilson said.
Meanwhile, in a proprietary survey of consumers, Morgan Stanley found that middle and low income consumers "generally have a more pessimistic view of the economy with roughly half of them expecting the US economy to get a little or a lot worse over the next six months," according to the note.
"Bottom line, the bear market rally we called for six weeks ago is running out of steam. While there could be some final vestiges of strength into year-end, the risk-reward of trying to play for it has deteriorated materially given our confidence in our well below consensus EPS forecasts for next year," Wilson concluded.