Top Wall Street strategists say a strong jobs report will kick off a rotation into lower-quality stocks

• A strong jobs report would boost low-quality stocks, Goldman Sachs and Morgan Stanley analysts say.
• Goldman says it would prompt investors to price in smaller odds of further labor-market weakness.

Investor eyes are locked on the upcoming jobs report, due Friday.

If it comes in strong, that will be great news for less-loved, lower-quality stocks, analysts from Goldman Sachs and Morgan Stanley say.

A strong report will compel investors to price in smaller chances of further labor market weakening, giving them more confidence to invest in riskier stocks, the Goldman Sachs analysts wrote in a new report.

"A positive jobs print could prompt some investors to rotate out of expensive 'quality' stocks into less-loved lower-quality firms," the analysts said.

The consensus estimate for September nonfarm-payroll additions is 150,000, which would be an increase from the prior month. Meanwhile, the unemployment rate — which unexpectedly jumped in August — is projected to stay unchanged at 4.2%.

While Goldman didn't specify exactly what it meant by a "strong" report, anything exceeding the 150,000 NFP estimate would likely fit the bill, as would another shock decline in unemployment.

The Goldman Sachs analysts, led by chief US equity strategist David Kostin, noted that so-called quality stocks have outperformed in 2024 amid persistently high inflation that pushed off interest-rate cuts longer than most envisioned. But since the Fed's first rate cut, stocks possessing quality factors like strong balance sheets and margins have "moved down to sideways."

Morgan Stanley's equity-strategy team is also keyed in on the jobs report.

"I still believe that over the next 3-6 months, equity performance, at both the index and sector/factor level, will be determined more by labor data than anything else," Mike Wilson, the firm's CIO, said in a recent note.

Wilson also highlighted the jobs report as a possible catalyst for rotation towards low quality in the stock market.

In an analysis published on Sunday, Wilson said that under an ultra-positive scenario where unemployment goes below 4.1%, nonfarm payrolls come in above 150,000, and the Fed does more than two 25-basis-point rate cuts by year-end, lower-quality cyclical stocks would be among those poised to benefit most.