'Ripe for another correction': US stocks could tumble 12% by year-end as the vaccine-driven rally gets exhausted, Morgan Stanley's investment chief says

• The S&P 500 could tumble by as much as 12% in one last sharp sell-off before the end of the year, according to Morgan Stanley's chief investment officer, Mike Wilson.
• "Price action appears exhaustive and the market seems ripe for another correction," Wilson said on Monday.
• Along with an exhausted vaccine-driven rally, Treasury Secretary Steven Mnuchin's decision to allow Federal Reserve lending programs to expire adds to the risk of a near-term correction, Wilson said.
• However, Wilson still has a bullish long-term outlook; he has a year-end 2021 price target of 3,900 for the S&P 500, a 9.6% upside from current levels.
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The S&P 500 could tumble by as much as 12% in one final correction before the end of the year, according to Mike Wilson, Morgan Stanley's chief investment officer.

Recent weakness could be the beginning of "one more twist" for stocks as the vaccine-driven rally is exhausted, Wilson wrote in a note to clients.

"Most noticeable to us last week is the almost universally bullish view from investors, including retail. In fact, it's very hard to find a bear on 2021 — a dramatic shift from even 3 months ago," he wrote. "However, price action appears exhaustive and the market seems ripe for another correction."

Wilson said that while many investors expect choppiness heading into next year, they might be underestimating the potential for a larger correction.

"Given the events last Thursday and extreme positioning, we think the downside could be greater and even return to the lower end of our long standing trading range (3150-3550) one more time," he said.

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Besides a rally that appears to be getting exhausted, another risk for stocks in the near term is "quasi tightening," Wilson said. Treasury Secretary Steven Mnuchin recently decided to allow several emergency Federal Reserve lending programs to expire while simultaneously requesting that the central bank return more than $70 billion in unused funds that Wilson said would have supported credit markets.

"Mnuchin's unexpected request to the Fed to return funds amounts to a quasi tightening at the time of the year when liquidity needs are rising," he said. "With equity markets back to resistance, another correction has likely begun with a classic sell the news reaction to the vaccines."

Wilson told investors to buy cyclical stocks pegged to the economy that might be oversold in the event of a correction. This dip-buying suggestion reflects his longer-term bullishness — he holds a year-end 2021 price target of 3,900 for the S&P 500, a 9.6% upside from current levels. And last Tuesday, Wilson said the stock market was vulnerable to several drawdowns before an "unequivocally bullish 2021."

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