The 1% Move Report

Wealth Management — November 22, 2022

• The S&P 500 rose 1.4% Tuesday to close at 4,004. This was the first time the S&P 500 Index closed above 4,000 since September 12th. With the gains, the index has now fallen 16.0% year-to-date.
• All 11 S&P 500 sectors rose Tuesday as Energy (+3.2%) and Materials (+2.2%) outperformed while Consumer Staples (+0.7%) and Real Estate (+0.5%) lagged.
• Equities moved higher as investors showed improved confidence in upcoming customer holiday shopping activity. Additionally, a number of better-than-expected earnings reports helped buoy sentiment, even as one major retailer highlighted inflation pressures on spending patterns. Additionally, ahead of tomorrow's release of the November FOMC meeting minutes, several Federal Reserve Officials spoke of slowing the pace of future rate hikes. Federal Reserve President Daly reminded investors that "the lags in monetary policy...likely take at least several quarters."
• By the 4 pm equity market close, WTI oil rose on potential OPEC+ cuts in output, up 1.4% to $81.2 per barrel, and the US Dollar Index declined modestly. The 10-year US Treasury yield decreased to 3.76% while the 2-year Treasury yield moved to 4.53%. 

• Monetary Policy: The next FOMC meeting is December 13-14 and the November FOMC meeting minutes are expected to be released tomorrow. Following the November FOMC meeting, Fed Chair Powell announced a fourth consecutive 75-basis-point (bp) hike and reiterated that "there is still a way to go to get to a sufficiently restrictive level of monetary policy" that will allow for inflation to return to 2% over time. Ongoing rate increases are likely and there will be a discussion at the next meeting on the need for another 75-basis-point hike, or if it is possible to moderate the pace of increases. Nonetheless, Fed Chair Powell emphasized that the discussion on how long to keep policy restrictive is most important and that it is premature to think about a pause in rate hikes. With core services inflation still rising and goods inflation higher than the Fed anticipated at this point in time, the clarity on when inflation will moderate sustainably is not apparent. During the Q&A session, Fed Chair Powell noted that "a soft landing is still possible, although the window has narrowed."  MS & Co.'s Ellen Zentner expects a 50-basis-point hike in December, and a 25-basis-point hike in January 2023, to a terminal rate of 4.625% in January. Additionally, she anticipates that rates will remain steady at the implied 4.625% level until December 2023 when a first rate cut of 25 bp may occur. Odds of a 50 bp hike at the December FOMC meeting are 100% while odds of a 75 bp hike are 8%, according to Bloomberg. 
• 3Q22 Earnings: As of market close Tuesday, 483 S&P 500 companies reported third quarter results with 69% of them beating earnings expectations. In aggregate, for the companies that reported, earnings surprised by 2.9% while sales surprised by 2.6%, according to Bloomberg. Nonetheless, increasing cost pressures are evident as margin expectations are now below preseason forecasts. For the S&P 500, bottom-up, blended 3Q22 earnings growth is 4.2%% y/y and (-3.6% excluding Energy companies), according to Refinitiv. 

Calendar:

• 11/23: Durable Goods Orders, Jobless Claims, New Home Sales, S&P Global PMIs

With the Fed responding to 40-year highs in inflation through both rate hikes and balance sheet run-off in 2022, the GIC’s call for continued caution remains intact. Corporate earnings revisions have moved lower over the course of the year, suggesting downside to forward earnings growth. We recommend investors focus on risk management through quality cash flows, defensiveness, and attention to stock-specific valuations. We suggest rebalancing portfolios and tax-loss harvesting during bear market rallies. In fixed income, the challenge is two-fold: generating sufficient income, while also preserving capital, given the potential for higher yields amid ongoing inflation. This requires diversified and active exposure, with our preference for core investment grade fixed income and dividend-paying stocks. Consider revisiting positioning in long-duration/growth equities, where there may not be adequate compensation for the risks of higher real rates, falling operating leverage and the strong US dollar.
For US equities, the US Equity Strategy team sees the potential for further equity downside in the early part of 2023, given their base-case expectations of $195 for 2023E earnings, well below current consensus levels. Their 2023E S&P 500 base case provides a target of 3,900, based on 2024E earnings of $241. This scenario assumes that nominal top-line growth slows to the low single digits and that margins contract. Their 2023E bear case of 3,500 considers a severe earnings recession, margin pressure and a contraction of EPS growth. Their 2023E bull case of 4,200 corresponds to a mid-single-digit top-line growth rate and limited margin compression. This bull case forecast embeds an estimate of 16.7x MS & Co.'s forward 2024E earnings of $251.

Market data provided by Bloomberg.

Dow Jones Industrial Average (DJIA): A price-weighted average of 30 blue-chip stocks that are generally the leaders in their industry.

NASDAQ Composite Index: A broad-based capitalization-weighted index of stocks in all three NASDAQ tiers: Global Select, Global Market and Capital Market.

S&P 500 Index: The Standard & Poor's (S&P) 500 Index tracks the performance of 500 widely held, large-capitalization US stocks.

US Trade-Weighted Dollar Index: A weighted average of the foreign exchange value of the 17US dollar against a subset of the broad index currencies that circulate widely outside the US.

Important note regarding economic sanctions. This event may involve the discussion of country/ies which are generally the subject of selective sanctions programs administered or enforced by the U.S. Department of the Treasury’s Office of Foreign Assets Control (“OFAC”), the European Union and/or by other countries or multi-national bodies. The content of this presentation is for informational purposes and does not represent Morgan Stanley’s view as to whether or not any of the Persons, instruments or investments discussed are or may become subject to sanctions. Any references in this presentation to entities or instruments that may be covered by such sanctions should not be read as recommending or advising on any investment activities involving such entities or instruments.  You are solely responsible for ensuring that your investment activities in relation to any sanctioned country/ies are carried out in compliance with applicable sanctions.