Sell the recent equity rally, says Morgan Stanley

Morgan Stanley cut its 12-month base case target for the S&P 500 index to 2,050 from 2,175 and its base target on the MSCI Europe to 1,300 from 1,500 as it recommended investors sell the recent stock market rally.

The target represents an increase of just 1.4% from the S&P’s close of 2,022 on Friday.

“Weaker growth forecasts and rising political risk lead us to close our positive tactical stance and lower exposure in global equities,” the bank said.

The bank’s economists now expect the US economy to grow 1.7% this year versus a previous estimate of 1.9% growth, while its Eurozone growth forecast for 2016 was cut to 1.5% from 1.8%.

“Given the lack of policy tools, we think growth will matter more for markets than central banks. And our growth forecasts are not inspiring,” the bank said.

“Our economists are below consensus on global, EM and DM growth and have raised their probability of a global recession within the next 12 months to 30%. This is a major reason many of our price targets have come down.”

Morgan Stanley said it now reckons the Fed will delay its next rate hike until the December meeting, which is a big departure from its previous expectation of three hikes this year.

The bank, which has a base case for 3% global GDP growth this year, recommended investors sell the recent rally in global equities.

MS said its FX team continues to expect the US dollar to strengthen, while its commodities team does not reckon there will be a sustained recovery in oil and base metals. Its rates team, meanwhile, expects yields to move lower in the short to medium term.

“Factoring in this macro view, recent trends in earnings announcements, and the other components of our earnings models, we anticipate that earnings will decline year-on-year in 2016 versus 2015 in EM, Europe and Japan, rising only modestly in the US.”

It expressed a preference for US equity markets, which it said offered the best defence, with more reliable growth and lower volatility than the rest of the world.

In Europe, favourable valuations, high dividend yields amidst low growth backdrop and political uncertainty led to a preference for large caps over small caps.