'Ominous' signs show the S&P 500 is set to fall sharply and join the bear market within weeks, Morgan Stanley says

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Morgan Stanley’s Mike Wilson.Bloomberg TV

  • A “fairly ominous” performance for stocks last week suggests the S&P 500 is due for a sharp pullback, Morgan Stanley’s Mike Wilson said.

  • “Maybe we can finally complete this bear market over the next month or so,” he told CNBC Monday.

  • It’s clear that the primary market driver is slowing growth, rather than inflation or interest rates, the US equity strategist said.

The S&P 500 is set to join the bear market within weeks, as it faces a sharp pullback amid fears of aggressive Federal Reserve policy and soaring inflation, according to Morgan Stanley’s top US equity strategist.

Last week’s “fairly ominous” performance in both defensive stocks and cyclicals, like energy and materials, suggests investors are aware an economic slowdown is closing in, Mike Wilson told CNBC Monday.

“And that tells me we’re going into this final phase, which the good news. The silver lining… is that maybe we can finally complete this bear market over the next month or so,” he said.

Wilson added that a 20% pullback for the S&P 500 from its January high of 4,800 would “complete” the ongoing bear market.

A fall of that size would take the S&P 500 to a level of 3,900, around 9% lower than Tuesday’s level of 4,296. The benchmark index is already down 9.8% so far this year, while the Nasdaq is already in bear territory with its year-to-date drop of 20%.

Wilson, who’s been one of Wall Street’s biggest bears for more than a year, is known for his call in early 2021 that the S&P 500 index could correct 10% to 20% due to a “fire and ice” scenario. His stock market views are closely followed, since he’s been right on his last two big market sell-off calls.

“The market has been so picked over at this point, it’s not clear where the next rotation lies,” he said in a podcast Monday. “When that happens, it usually means the overall index is about to fall sharply, with almost all stocks falling in unison.”

Wilson said a fast-moving Fed is going into “the teeth of a slowdown,” and there’s little upside for defensive plays such as healthcare, real-estate investment trusts, and consumer staples.

“This is just another sign of the market’s realization that we are now entering the ice phase, when growth becomes the primary concern for stocks rather than inflation, the Fed and interest rates,” he said.

The reason Wilson, who has a year-end target of 4,400 for the S&P 500, is bearish on the market in the near term is that he believes a slowdown in growth will determine how stocks trade.

Tightening Fed policy, red-hot inflation, and signs of an economic slowdown due to China’s COVID-zero policy and Russia’s war on Ukraine have been key market drivers in recent weeks.

But US inflation, currently at a 41-year-high of 8.5%, has likely peaked and could take pressure off some stocks, Wilson said.

“While others have been using this as a bullish argument, we would like to send a clear warning — be careful what you wish for,” Morgan Stanley strategists said in a note.

“For many companies, it could be particularly painful if those declines in inflation are swift and sharp,” Wilson noted.

His advice to investors is to wait for the S&P 500 to trade well below 4,000 before devoting new capital to US equities.

Read more: War in Ukraine has some sustainable investors rethinking their long-held stances on weapons and defense stocks

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