Morgan Stanley Says Stock Movements Point to 'No Landing' Beliefs for Economy

By Lewis Krauskopf

NEW YORK (Reuters) - Recent moves in the U.S. stock market suggest investors are beginning to price in a "no landing" scenario for the economy, where growth is expected to pick up, Morgan Stanley's equity strategist said on Monday.

For months, investors have been bracing for a "soft landing" in the economy, recognizing that economic growth is sluggish and inflation is coming down from its highs.

"However, macro data and equity market leadership have begun to support a non-landing outcome," Morgan Stanley strategists led by Michael Wilson said in a report.

Strong economic data and a higher-than-expected inflation report also lowered expectations for a Fed rate cut. On Monday, Fed fund futures traders are betting on a total of 62 basis points in aggregate rate cuts this year, down from 150 basis points expected in January.

Sectors typically associated with economic growth, such as financials, energy and industrials, have performed strongly so far this year, outpacing the S&P 500's 9% gain in 2024, while materials-another economically sensitive sector-has also performed well.

This strength is in stark contrast to last year, when technology and growth-oriented Big Rock stocks accounted for the bulk of the index's gains.

"Cyclical sectors have led the expansion of this trend ...... This supports the view that the stock market is beginning to create a better environment for growth," Morgan Stanley said in its report.

Morgan Stanley strategists note that while cyclically sensitive stocks and sectors have begun to outperform the broader rock, quality remains a key attribute for the leaders.

The emphasis on quality, they said, "makes sense in the context of a re-acceleration of growth that is still late in the cycle rather than early in the cycle".

Morgan Stanley says that if the growth spurt is early in the cycle, then the performance of small-cap and low-quality cyclical stocks will be more persistent.

The small-cap Russell 2000 index has risen only 2.4% this year.

Morgan Stanley said the move in Treasury yields could also have an impact on the performance of the economically sensitive part of the market. 10-year Treasury yields were last reported at 4.42%, above Morgan Stanley's previously stated level of 4.35%, where the stock market is likely to be even more sensitive to yields.

Strategists said lower yields could prompt the market to turn on a wider range of cyclical stocks, but "once yields move higher, it could put us back into a narrow market system."

(Reporting by Lewis Krauskopf; Editing by Bill Berkrot)