Thoughts on the Market

The rise in unused office space has triggered suggestions about converting commercial real estate into residential buildings. But our US Real Estate Research analyst lists three major challenges.

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Welcome to Thoughts on the Market. I’m Adam Kramer, from the Morgan Stanley U.S. Real Estate Research team. Along with my colleagues bringing you a variety of perspectives, today I’ll discuss a hot real estate topic. Whether the surplus of vacant office space offers a logical solution to the national housing shortage.

It’s Wednesday, August 14, at 10am in New York.

Sitting here in Morgan Stanley’s office at 1585 Broadway, Times Square is bustling and New York seems to have recovered from COVID and then some. But the reality inside buildings is a little bit different. 

On the one hand, 14 percent of U.S. office space is sitting unused. Our analysis shows a permanent impairment in office demand of roughly 25 percent compared to pre-COVID. And on the other hand, we have a national housing shortage of up to 6 million units. So why not simply remove obsolete lower-quality office stock and replace it with much-needed housing? On the surface, the idea of office-to-residential conversion sounds compelling. It could revitalize struggling downtown areas, creating a virtuous cycle that can lead to increased local tax revenues, foot traffic, retail demand and tourism.

But is it feasible?

We think conversions face at least three significant challenges. First, are the economics of conversion. In order for conversions to make sense, we would need to see office rents decline or apartment rents rise materially – which is unlikely in the next 1-2 years given the supply dynamics — and office values and conversion costs would need to decline materially. 

Investors can acquire or develop a multifamily property at roughly $600 per square foot. Alternatively, they can acquire and convert an existing office building for a total cost of nearly $700 per square foot, on average. The bottom line is that total conversion costs are higher than acquisition or ground-up development, with more complexity involved as well. 

The second big challenge is the quality of the buildings themselves. Numerous elements of the physical building impact conversion feasibility. For example, location relative to transit and amenities. Buildings in suboptimal locations are unlikely to be considered. Whether the office asset is vacant or not is also a factor. Office leases are typically longer duration, and a building needs to be close to or fully vacant for a full conversion. And lastly, physical attributes such as architecture, floor-plate depth, windows placement, among others. 

And finally, regulation presents a third major hurdle. Zoning and building code requirements differ from city to city and can add substantive time, cost, complexity, and limitations to any conversion project. That said, governments are in a unique position to encourage conversions — for example, via tax incentives – and literally remake cities short on affordable housing but with excess, underutilized office space.

We have looked at conversion opportunities in three key markets: New York, San Francisco, and Washington, D.C. In Manhattan, active office to residential conversions have been concentrated in the Financial District, and we think this trend will continue. We also see the East Side of Manhattan as a uniquely untapped opportunity for future conversions, given higher vacancy today. This would shift existing East Side office tenants to other locations, boosting demand in higher-quality office neighborhoods like Park Avenue and Grand Central.

In San Francisco, we are concerned about other types of real estate properties beyond just office. Retail, multifamily, and lodging in the downtown area are taking longer to recover post-COVID, and we think this will limit conversions in the market. 

And finally, in Washington, D.C. we think conversion would work best for older, Class B/C office buildings on the edges of pre-existing residential areas. 

In these three markets, and others, conversions could work in specific instances, with specific buildings in specific sub-markets. But on a national basis, the economic and logistic challenges of wide-scale conversions make this an unlikely solution.

Thanks for listening. If you enjoy the show, please leave us a review wherever you listen and share Thoughts on the Market with a friend or colleague today.

Our US Public Policy Strategist expects a robust M&A cycle, regardless of the outcome of the US election. But rising antitrust concerns could create additional scrutiny on possible future deals. 

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Welcome to Thoughts on the Market. I’m Ariana Salvatore, from Morgan Stanley’s US Public Policy Research Team. Along with my colleagues bringing you a variety of perspectives, today I’ll talk about the impact of the US election on M&A. 

It’s Tuesday, August 13th, at 10am in New York.

2023 saw the lowest level of global mergers and acquisitions – or M&A – in more than 30 years, relative to the overall size of the economy. But we believe that the cycle is currently reversing in a significant way and that politics won't halt the "Return of M&A." 

Why? Because M&A cycles are primarily driven by broader factors. Those include macroeconomics, the business cycle, CEO confidence and financing conditions. More specifically, unusually depressed volumes, open new issue markets, incoming rate cuts and the bottom-up industry trends are powerful tailwinds to an M&A recovery and can offset the political headwinds. 

So far this year we’ve seen an increase in deal activity. Announced M&A volume was up 20 per cent year-over-year in the first half of [20]24 versus [20]23, and we continue to expect M&A volumes to rise in 2024 as part of this broader, multi-year recovery. 

That being said, one factor that can impact M&A is antitrust regulation. Investors are reasonably concerned about the ways in which the election outcome could impact antitrust enforcement – and whether or not it would even be a tailwind or a headwind. If you think about traditional Republican attitudes toward deregulation, you might think that antitrust enforcement could be weaker in a potential Trump win scenario; but when we look back at the first Trump administration, we did see various antitrust cases pursued across a number of sectors. 

Further, we’ve seen this convergence between Republicans and Democrats on antitrust enforcement, specifically the vice presidential pick JD Vance has praised Lina Khan, the current FTC chair, for some of her efforts on antitrust in the Biden administration. In that vein, we do think there are certain circumstances that could cause a deal to come under scrutiny regardless of who wins the election. 

First, on a sector basis, we think both parties share a similar approach toward antitrust for tech companies. Voters across the ideological spectrum seem to want their representatives to focus on objectives like 'breaking up big tech' and targeting companies that are perceived to have outsized control. 

We also think geopolitics is really important here. National security concerns are increasingly being invoked as a consideration for M&A involving foreign actors, in particular if the deal involves a geopolitical adversary like China. We’ve seen lawmakers invoke these kind of concerns when justifying increased scrutiny for proposed deals. 

Finally, key constituencies' positions on proposed deals could also matter. The way that a deal might impact key voter cohorts – think labor unions, for example – could also play a role in determining whether or not that deal comes under extra scrutiny. 

We will of course keep you updated on any changes to our M&A outlook. 

Thanks for listening. If you enjoy the show, please leave us a review wherever you listen to podcasts and share Thoughts on the Market with a friend or colleague today.

Recent market volatility has made headlines, but our Global Chief Economist explains why the numbers aren’t as dire as they seem.

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Seth Carpenter: Welcome to Thoughts on the Market. I'm Seth Carpenter, Morgan Stanley's Global Chief Economist. Along with my colleagues, bringing you a variety of perspectives, today I'll be talking about central banks, the Bank of Japan, Federal Reserve, data and how it drove market volatility.

It's Monday, August 12th at 10am in New York.

You know, if life were a Greek tragedy, we might call it foreshadowing. But in reality, it was probably just an unfortunate coincidence. The BOJ's website temporarily went down when the policy announcement came out. As it turns out, expectations for the BOJ and the Fed drove the market last week. Going into the BOJ meeting consensus was for a September hike, but July was clearly in play.

The market's initial reaction to the decision itself was relatively calm; but in the press conference following the decision, Governor Ueda surprised the markets by talking about future hikes. Some hiking was already priced in, and Ueda san's comments pushed the amount priced in up by another, call it 8 basis points, and it increased volatility.

In the aftermath of that market volatility, Deputy Governor Yoshida shifted the narrative again, by stressing that the BOJ was attuned to market conditions and that there was no fundamental change in the BOJ's strategy. But this heightened attention on the BOJ's hiking cycle was a critical backdrop for the US non farm payrolls two days later.

The market knew the BOJ would hike, and knew the Fed would cut, but Ueda san's tone and the downside surprise to payrolls ignited two separate but related market risks: A US growth slowdown and the yen carry trade.

The Fed's July meeting was the same day as the BOJ decision, and Chair Powell guided markets to a September rate cut. Prior to July, the FOMC was much more focused on inflation after the upside surprises in the first quarter. But as inflation softened, the dual mandate came into a finer balance. The shift in focus to both growth and inflation was not missed by markets; and then payrolls at about 114, 000 in July. Well, that was far from disastrous; but because the print was a miss relative to expectations on the heel of a shift in that focus, the market reaction was outsized.

Our baseline view remains a soft landing in the United States; and those details we discussed extensively in our monthly periodical. Now, markets usually trade inflections, but with this cycle, we have tried to stress that you have to look at not just changes, but also the level of the economy. Q2 GDP was at 2.6 per cent. Consumer spending grew at 2.3 per cent. And the three-month average for payrolls was at 170, 000 -- even after the disappointing July print.

Those are not terribly frightening numbers. The unemployment rate at 4.3 per cent is still low for the United States. And 17 basis points of that two-tenths rise last month; well, that was an increase in labor force participation. That's hardly the stuff of a failing labor market.

So, while these data are backward looking, they are far from recessionary. Markets will always be forward looking, of course; but the recent hard data cannot be ignored. We think the economy is on its way to a soft landing, but the market is on alert for any and all signs for more dramatic weakness.

The data just don't indicate any accelerated deterioration in the economy, though. Our FX Strategy colleagues have long said that Fed cuts and BOJ hikes would lead to yen appreciation. But this recent move? It was rapid, to say the least. But if we think about it, the pair really has only come into rough alignment with the Morgan Stanley targets based on just interest rate differentials alone.

We also want to stress the fundamentals here for the Bank of Japan as well. We retain our view for cautious rate hikes by the BOJ with the next one coming in January. That's not anything dramatic because over the whole forecast that means that real rates will stay negative all the way through the end of 2025.

These themes -- the deterioration in the US growth situation and the appreciation of the yen -- they're not going away anytime soon. We're entering a few weeks of sparse US data, though, where second tier indicators like unemployment insurance claims, which are subject to lots of seasonality, and retail sales data, which tend to be volatile month to month and have had less correlation recently with aggregate spending, well, they're going to take center stage in the absence of other harder indicators.

The normalization of inflation and rates in Japan will probably take years, not just months, to sort out. The pace of convergence between the Fed and the BOJ? It's going to continue to ebb and flow. But for now, and despite all the market volatility, we retain our outlook for both economies and both central banks. We see the economic fundamentals still in line with our baseline views.

Thanks for listening. If you enjoy this show, please leave us a review wherever you listen to podcasts and share Thoughts on the Market with a friend or colleague today.

As markets adjust to global volatility, our Head of Corporate Credit Research considers when the Fed might choose to cut interest rates and how long the impacts may take to play out.

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Welcome to Thoughts on the Market. I'm Andrew Sheets, head of Corporate Credit Research at Morgan Stanley. Along with my colleagues bringing you a variety of perspectives, today I'll discuss the market’s expectation for much larger rate cuts from the Federal Reserve, and how much that actually matters.

It's Friday, August 9th at 2pm in London.

Markets have been volatile of late. One of the drivers has been rising concern that the Fed may have left interest rates too high for too long, and now needs to more dramatically course-correct. From July 1st through August 2nd, the market’s expectation for where the Fed’s target interest rate will be in one year’s time has fallen by more than 1 percent. 

But…wait a second. We’re talking about interest rates here. Isn’t a shift towards expecting lower interest rates, you know, a good thing? And that seems especially relevant in the recent era, where strong markets often overlapped with fairly low interest rates. 

Zoom out over a longer span of history, however, and that’s not always the case.

Interest rates, especially the rates from the Federal Reserve, are often a reflection of economic strength. And so high interest rates often overlap with strong growth, while a weak economy needs the support that lower rates provide. And so if interest rates are falling based on concern that the economy is weakening, which we think describes much of the last two weeks, it’s easier to argue why credit or equity markets wouldn’t like that outcome at all.

That’s especially true because of the so-called lag in monetary policy. If the Fed lowered interest rates tomorrow, the full impact of that cut may not be felt in the economy for 6 to 12 months. And so if people are worried that conditions are weakening right now, they’re going to worry that the help from lower rates won’t arrive in time.

The upshot is that for Credit, and I would say for other asset classes as well, rate cuts have only tended to be helpful if growth remained solid. Rate cuts and weaker growth were bad, and that was more true the larger those rate cuts were. In 2001, 2008 and February of 2020, large rate cuts as the economy weakened led to significant credit losses. Concern about what those lower rates signalled outweighed the direct benefit that a lower rate provided.

We think that dynamic remains in play today, with the market over the last two weeks suggesting that a combination of weaker growth and lower rates may be taken poorly, not taken well.

But there’s also some good news: Our economists think that the market's views on growth, and interest rates, may both be a little overstated. They think the US economy is still on track for a soft-landing, and that last week’s jobs report wasn’t quite as weak as it was made out to be.

Because of all that, they also don’t think that the Fed will reduce interest rates as quickly as the market now expects. And so, if that’s now right, we think a stronger economy and somewhat higher rates is going to be a trade-off that credit is happy to take.

Thanks for listening. If you enjoy the show, leave us a review wherever you listen and share Thoughts on the Market with a friend or colleague today.

Our Head of Europe Sustainability Research discusses how rising longevity is revolutionizing our fundamental approach from reactive to proactive treatment.

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Welcome to Thoughts on the Market. I’m Mike Canfield, Morgan Stanley’s European Head of Sustainability Research. Along with my colleagues, we’re bringing you a variety of perspectives; and today we’re focusing on a topic that affects everyone – how much does poor health cost us? And how are ageing populations and longer life expectancy driving a fundamental shift in healthcare? 

It’s Thursday, August the 8th, at 4pm in London.   

As populations age across the developed world, health systems need to help people live both longer and healthier. The current system is typically built around to focus on acute conditions and it’s more reactive; so it introduces clinical care or drugs to respond to a condition after it’s already arisen, rather than keeping people healthy in the first instance. So increasingly, with the burden of chronic disease becoming by far the greatest health and economic challenge we face, we need to change the structure of the healthcare system. 

Essentially, the key question is how much is poor health amongst the ageing population really costing society? To get a true sense of that, we need to keep in mind that workers over 50 already earn one out of every three dollars across the G20 regions. By 2035, they're projected to generate nearly 40 per cent of all household income. So with that in mind, preventable conditions amongst those people aged 50-64 at the moment, are already costing G20 economies over $1 trillion annually in productivity loss. And there’s one more key number: 19 per cent. That's how much age-diverse workforces can raise GDP per capita over the next thirty years, according to estimates from the Organization for Economic Co-operation and Development, or OECD. So clearly, keeping workers healthier for longer underpins a more productive, more efficient, and a profitable global economy. So it’s clear that [if] the current healthcare system were to shift from sick from care to prevention, the global gains would be substantial.

The BioPharma sector is already contributing some targeted novel treatments in areas like smart chemotherapy and in CRISPR – which is a technology that allows for selective DNA modification. While we can credit BioPharma and MedTech for really powerful innovations in diagnostics, in AI deployment for areas like data science and material science, and in sophisticated telemedicine – all these breakthroughs together give a more personalized, targeted health system; which is a big step in the right direction, but honestly they alone can’t solve this much broader longevity challenge we face. 

Focus on health and prevention, ultimately, could address those underlying causes of ill-health, so that problems don’t arise even in the first instance. Governments around the world are obviously realizing the value of preventive care over sick care. And as a strategy, disease prevention fundamentally aims to promote wellness across the board, whether that’s in things like mental state, nutrition or even in things like sleep and stress. While it might be easy to kind of conflate that with wellness trends – things like green smoothies or meditation – the underlying benefits of boosting health at the cellular level have much broader and deeper implications. Things like Type 2 diabetes and heart disease, supporting better health across populations can significantly reduce the incidence of a wide range of chronic conditions. It can lower the burden on health systems overall, and actually increase healthy lifespan at the end of the day. 

BioPharma advances are significant, but addressing longevity will require a much broader alignment across a myriad of elements; everything really from the food system to sanitation to training healthcare professionals. And of course, all of that will require consistent policy support. Regulators and policymakers are paying very close attention to their ageing population – and so are we. We’ll continue to bring you updates on this topic, which is so important to all of us.

Thanks for listening. If you enjoy the show, please do leave us a review wherever you listen and share Thoughts on the Market with a friend or colleague today.

Our Global Head of Thematic and Fixed Income Research joins our Chief Fixed Income Strategist to discuss the recent market volatility and how it impacts investor positioning within fixed income. 

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Zezas: Welcome to Thoughts on the Market. I'm Michael Zezas, Morgan Stanley's Global Head of Fixed Income and Thematic Research.

Vishy: And I am Vishy Tirupattur, Morgan Stanley's Chief Fixed Income Strategist.

Zezas: And on this episode of Thoughts on the Market, we'll talk about the recent market volatility and what it means for fixed income investors.

It's Wednesday, August 7th at 10am in New York.

Vishy, on yesterday's show, you discussed the recent growth of money market funds. But today I want to talk about a topic that's top of mind for investors trying to make sense of recent market volatility. For starters, what do you think tipped off these big moves across global markets?

Vishy: Mike, a confluence of factors contributed to the volatility that we've seen in the last six or seven trading sessions. To be clear, in the last few weeks, there have been some downside surprises in incoming data. They were capped off by last Friday's US employment report that came in soft across the board. In combination, that raised questions on the soft-landing thesis that had been baked into market prices, where valuations were already pretty stretched. And this one came after a hawkish hike by Bank of Japan just two days prior.

While Morgan Stanley economists were expecting it, this hike was far from consensus going in. So, what this means is that this could lead to a greater divergence of monetary policy between the Fed and the Bank of Japan. That is, investors perceiving that the Fed may need to cut more and sooner, and that Bank of Japan may need to hike more; in both cases, more than expected.

As you know, when negative surprises show up together, volatility follows.

Zezas: Got it. And so last week's soft US employment data raises the question of whether the Fed's overtightened and the US economy might be weaker than expected. So, from where you sit, how does this concern impact fixed income assets?

Vishy: To be clear, this is really not our base case. Our economists expect US economy to slow, but not fall off the cliff. Last Friday's data do point to some slowing, on the margin more slowing than market consensus as well as our economists expected. And really what this means is the markets are likely to challenge our soft-landing hypothesis until some good data emerge. And that could take some time. This means recent weakness in spread products is warranted, and especially given tight starting levels.

Zezas: So, it seems in the coming days and maybe even weeks, the path for total fixed income market returns is likely to be lower as the market adjusts to a weaker growth outlook. What areas of fixed income do you think are best positioned to weather this transition and why?

Vishy: We really need more data to confirm or push back on the soft-landing hypothesis. That said, fears of growth challenges will likely build in expectations for more Fed cuts. And that is good for duration through government bonds.

Zezas: And conversely, what segments of fixed income are most exposed to risk?

Vishy: In one way or the other, all spread products are exposed. In my mind, the US corporate credit market recession risks are least priced into high yield single B bonds, where valuations are rich, and positioning is stretched.

Zezas: So clearly the recent market volatility has affected global markets, not just the US and Japan. So, what are you seeing in other markets? And are there any surprises there?

Vishy: Emerging market credit. In emerging market credit, investment grade sovereign bonds will likely outperform high yield bonds, causing us to close our preference for high yield versus investment grade. It is too soon to completely flip our view and turn bearish on the overall emerging market credit index.

We do see a combination of emerging market single name CDSs as an attractive hedge. South Africa, Colombia, Mexico, for example.

Zezas: So finally, where do we go from here? Do you think it's worth buying the dip?

Vishy: Our message overall is that while there have been significant moves, it is not yet the time to buy on dips.

Zezas: Well, Vishy, thanks for taking the time to talk.

Vishy: Great speaking with you, Mike.

Zezas: And as a reminder, if you enjoy Thoughts on the Market, please take a moment to rate and review us wherever you listen. And share Thoughts on the Market with a friend or colleague today.

Risk-averse investors have poured trillions into money-market funds since 2019. Our Chief Fixed Income Strategist explains why investors shouldn’t expect this money to pivot to equities and other risk assets as rates fall. 

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Welcome to Thoughts on the Market. I am Vishy Tirupattur, Morgan Stanley’s Chief Fixed Income Strategist. Along with my colleagues bringing you a variety of perspectives, today I'll be talking about money market funds. 

It's Tuesday, August 6th at 3pm in New York. 

Well over $6.5 trillion sit in US money market funds. A popular view in the financial media is that the assets under management in money market funds represent money on sidelines, waiting to be allocated to risk assets, especially stocks. The underlying thesis is that the current level of interest rates and the consequent high money market yields have resulted in accumulation of assets in money market funds; and, when policy easing gets under way and money market yields decline, these funds will be allocated towards risk assets, especially stocks. To that I would say, curb your enthusiasm. 

Recent history provides helpful context. Since the end of 2019, money market funds have seen net inflows of about $2.6 trillion, occurring broadly in three phases. The first phase followed the outbreak of COVID, as the global economy suddenly faced a wide array of uncertainties. The second leg mainly comprised retail inflows, starting when the Fed began raising rates in 2022.The third stage came during the regional bank crisis in March-April 2023, with both retail and institutional flows fleeing regional bank deposits into money market funds. 

Where do we go from here? 

We think money market funds are unlikely to return to their pre-COVID levels of about $4 trillion, even if policy easing begins in September as our economists expect. They see three 25 basis point rate cuts in 2024 and four in 2025 as the economy achieves a soft landing; and they anticipate a shallow rate-cutting cycle, with the Fed stopping around 3.75 per cent. This means money market yields will likely stabilize around that level, albeit with a lag – but still be attractive versus cash alternatives. 

In a hard landing scenario, the Fed will likely deliver significantly more cuts over a shorter period of time, but we think investors would be more inclined to seek liquidity and safety, allocating more assets to money market funds than to alternative assets. 

Further, money market funds can delay the decline in their yields by simply extending the weighted average maturities of their portfolios and locking in current yields in the run-up to the cutting cycle. This makes money market funds more attractive than both short-term CDs and Treasury bills, whose yields reprice lower in sync with rate cuts. This relative appeal explains much of the lag between rate cuts and the peak in assets under management in money market funds. These have lagged historically, but average lag is around 12 months. 

Finally, it is important to distinguish between institutional and retail flows into and out of money market funds, as their motivations are likely to be very different. Institutional funds account for 61 per cent of money market funds, while funds from retail sources amount to about 37 per cent. When they reallocate from money market funds, we think institutional investors are more likely to allocate to high-quality, short-duration fixed income assets rather than riskier assets such as stocks, motivated by safety rather than level of yield. Retail investors, the smaller segment, may have greater inclination to reallocate towards risk assets such as stocks. 

The bottom line: While money market fund assets under management have grown meaningfully in the last few years, it is likely to stay high even as policy easing takes hold. Allocation toward risk assets looks to be both lagged and limited. Thus, this 'money on the sidelines' may not be as positive and as imminent a technical for risk assets as some people expect. 

Thanks for listening. If you enjoy the podcast, please leave us a review wherever you listen and share Thoughts on the Market with a friend or colleague today.

Although Monday’s correction springs from multiple causes, the real questions may be what’s next and when will the correction become a buying opportunity?

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Welcome to Thoughts on the Market. I'm Mike Wilson, Morgan Stanley’s CIO and Chief US Equity Strategist. Along with my colleagues bringing you a variety of perspectives, today I'll be talking about the recent equity market correction and whether it’s time to step in.

It's Monday, Aug 5th at 11:30am in New York.

So let’s get after it.

Over the past several weeks, global equity markets have taken on a completely different tone with most major averages definitively breaking strong uptrends from last fall. Many are blaming the Fed’s decision last week to hold interest rates steady in the face of weaker jobs data while others have highlighted the technical unwind of the Japanese yen carry trade.

However, if we take a step back, this topping process began in April with the first meaningful sell off since last October’s lows. Even as many stocks and indices rallied back to new highs this summer, the leadership took on a more defensive posture with sectors like Utilities, Staples and even Real Estate doing better than they have in years. As I have been discussing on this podcast this shift in leadership has coincided with softer economic data during the second quarter. This softness has continued into the summer with the all-important labor market data joining in as already noted.

This rotation was an early warning sign that stocks were likely vulnerable to a correction as we highlighted in early July. After all, the third quarter is when such corrections tend to happen seasonally for several reasons. This year has turned out to be no different. The real question now is what’s next and when will this correction become a buying opportunity?

Lost in the blame game is the simple fact that valuations reached very rich levels this year, something we have consistently discussed in our research. In fact, this is the main reason we have no upside to our US major averages over the next year even assuming our economists’ soft landing base case outcome for the economy. In other words, stocks were priced for perfection.

Now, with the deterioration in the growth data, and a Fed that is in no rush to cut rates proactively, markets have started to get nervous. Furthermore, the Fed tends to follow 2-year yields and over the last month 2-year treasury yields have fallen by 100 basis points and is almost 170 basis points below the Fed Funds rate. What this means is that the market is telling the Fed they are way too tight and they need to cut much more aggressively than what they have guided.

The dilemma for the Fed is that the next meeting is six weeks away and that’s a lifetime when markets are trading like they are today. Markets tend to be impatient and so I expect they will continue to trade with high volatility until the Fed appeases the market’s wishes. The flip side, of course, is that the Fed does an intra meeting rate cut; but that may make the markets even more nervous about growth in my view.

Bottom line, markets are likely to remain vulnerable in the near term until we get better growth data or more comfort from Fed on policy support, neither of which we think is forthcoming soon.

Finally, support can also come from cheap valuations, but we don’t have that yet at current prices. As of this recording the S&P 500 is still trading 20x forward 12-month earnings estimates. Our fair value multiple assuming a soft-landing outcome on the economy is closer to 19x, which means things aren’t actually cheap until we reach 17-18x, which is more than 10 per cent away from where we are trading.

In the meantime, we continue to recommend more defensive stocks in sectors like Utilities, Healthcare, Consumer Staples and some Real Estate. Conversely, we continue to dislike smaller cap cyclical stocks that are most vulnerable to the current growth slowdown and tight rate policy.

Thanks for listening. If you enjoy the podcast, please leave us a review wherever you listen, and share Thoughts on the Market with a friend or colleague today.

After a dizzying week of economic and market activity, our Head of Corporate Credit Research breaks down the three top stories.

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It’s been a whirlwind week of economic activity in the markets as we enter the dog days of summer. Our Head of Corporate Credits Research breaks down three top stories.

Welcome to Thoughts on the Market. I'm Andrew Sheets, Head of Corporate Credit Research at Morgan Stanley. Along with my colleagues bringing you a variety of perspectives, today I'll be discussing what we’ve taken away from this eventful week.

It's Friday, August 2nd at 2pm in London.

For all its sophistication, financial activity is still seasonal. This is a business driven by people, and people like to take time off in the summer to rest and recharge. There’s a reason that volumes in August tend to be low.

And so this week felt like that pre-vacation rush to pack, find your keys, and remember your ticket before running out the door. Important earnings releases, central bank meetings and employment numbers all hit with quick succession. Some thoughts on all that whirlwind.

The first story was earnings and continued equity rotation. Equity markets are seeing big shifts between which stocks are doing well and poorly, particularly in larger technology names. These shifts are a big deal for equity investors, but we think they remain much less material for credit.

Technology is a much smaller sector of the bond market than the stock market, as these tech companies have generally issued relatively little debt – relative to their size. Credit actually tends to overlap much more with the average stock, which at the moment continues to do well. And while the Technology sector has been volatile, stocks in the US financial sector – the largest segment for credit – have been seeing much better, steadier gains.

Next up this week was the Bank of Japan, which raised policy rates, a notable shift from many other central banks, which are starting to lower them. For credit, the worry from such a move was somewhat roundabout: that higher rates in Japan would strengthen its currency, the yen. That such strength would be painful for foreign exchange investors, who had positioned themselves the other way around – for yen weakness. And that losses from these investors in foreign exchange could lead them to lower exposure in other areas, potentially credit. 

But so far, things look manageable. While the yen did strengthen this week, it hasn’t had the sort of knock-on impact to other markets that some had feared. We think that might be evidence that investor positioning in credit was not nearly as concentrated, or as large, as in certain foreign exchange strategies, and we think that remains the case.

But the biggest story this week was the Federal Reserve on Wednesday, followed by the US Jobs number today. These two events need to be taken together.

On Wednesday, the Fed chose to maintain its high current policy rate, while also hinting it’s open to a cut. But with inflation falling rapidly in recent months, and already at the Fed’s target on market-based measures, the question is whether the Fed should already be cutting rates to even out that policy. After all, lowering rates too late has often been a problem for the Fed in the past.

Today’s weak jobs report brings these fears front-and-center, as highly restrictive monetary policy may start to look out-of-line with labor market weakness. And not cutting this week makes it more awkward for the Fed to now adjust. If they move at the next meeting, later in September; well, that means waiting more than a month and a half. But acting before that time, in an unusual intra-bank meeting cut; well, that could look reactive. The market will understandably worry that the Fed, once again, may be reacting too late. That is a bad outcome for the balance of economic risks and for credit.

Thanks for listening. If you enjoy the show, please leave us a review wherever you listen and share Thoughts on the Market with a friend or colleague today.

Our Chief Global Cross-Asset Strategist, Serena Tang, explains where funds are moving across global markets currently, and why it matters to investors.

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Welcome to Thoughts on the Market. I’m Serena Tang, Morgan Stanley’s Chief Cross-Asset Strategist. Along with my colleagues bringing you a variety of perspectives, today I’ll dig into the concept of fund flows, how they shape global markets and why they matter to investors. 

It’s Thursday, August 1, at 10am in New York. 

Finance industry professionals often use the term “flows” when looking at where investors are, in the aggregate, moving their money. It refers to net movements of cash in and out of investment vehicles such as mutual funds and exchange-traded funds, or in and out of whole markets. By looking at flows, investors can get a good sense of where market winds are blowing and, essentially, where demand is at any given moment. Now, whether you’re a retail or institutional investor, having a perspective on market sentiment and demand are powerful tools. So today I’m going to give you a snapshot of some key flows, which should give a sense of demand and the mood right now; and what it means for investors.

First of all, despite the recent rally in global equities year-to-date, we've yet to see an investor rotation, or portfolio realignment, from bonds to stocks. Flows into bonds are still leading flows into stocks by a pretty large margin. And unless stocks cheapen materially, we don’t expect this trend to reverse anytime soon. In addition, fund flows into large-cap equities still dwarf those into small-caps year-to-date. Although we saw a brief reversal of this trend in June, large caps flows have swung back to prominence. 

We do see hints of sector rotation within equities, as investors shift to what they see as more promising stocks; but it’s not a clean or entirely unambiguous story. The Science & Tech sectors – which saw a notable drop-off in flows from the first to the second quarter of this year – still lead year-to-date; and flows represent nearly a third into all flows into equities. More cyclical sectors like Basic Materials and Financials attracted more capital than in the first and second quarter, while defensive sectors such as Consumer Goods saw a softening of outflows compared to the same period. 

From a global perspective, we also look at flows in and out of particular regions or markets. So, year-to-date, US stocks received about US$43 billion in net inflows while rest-of-world stocks saw about US$15 billion in net outflows. Now, there were some exceptions – with India, Korea, and Taiwan leading – seeing significant inflows year-to-date. 

We look at flows within categories too, so within fixed income, for example, we are seeing flows toward less risky assets; revealing what we call a risk-off preference. Higher quality, Investment Grade funds – raked in about US$92 billion in net inflows year-to-date, while US treasuries saw only at US$25 billion. That Treasury number is actually significantly higher than what we saw from the first quarter to the second quarter, while inflows to High Yield and low-quality Investment Grade corporates have slowed compared to the start of the year. 

Finally, money market funds – that is mutual funds that invest in short-term higher quality securities – have not yet really seen sustained outflows, as one would expect when investors believe shorter term yields would come down, as central banks start to ease. Rather there’s been some $70 billion in net inflows through the first half of this year. Although we’re sympathetic to the view that money market outflows should begin when the Fed starts cutting rates, there’s actually a considerable lag between first cut and those outflows, as we have seen in the last two rate cutting cycles. 

But what does all of this mean for investors? Well, it suggests they still have a defensive tilt, and they shouldn’t really be jumping on the rotational story. The current yield environment means rotation from fixed income and money market funds into riskier assets is still some way away. Investors also shouldn’t look at the dry powder/cash on the sidelines narrative as the big tailwind for riskier assets -- because it’s not coming any time soon. That said, we still like non-government bonds because this is where cash would go first if and when those flows begin. We also like global equities, but more so because the benign macro backdrop we are forecasting supports this. 

We’ll keep you up to date if there’s any change in the direction of market winds and fund flows.

Thanks for listening. If you enjoy the show, please leave us a review wherever you listen and share Thoughts on the Market with a friend or colleague today.

As Generative AI continues to accelerate, some agencies will be better positioned than others to reap the benefits. Our Europe Media & Entertainment analyst, Laura Metayer, explains.

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Welcome to Thoughts on the Market. I’m Laura Metayer, from the Morgan Stanley Europe Media & Entertainment team. Along with my colleagues bringing you a variety of perspectives, today I’ll discuss what the future may hold for advertising agencies amid fast-paced Generative AI developments.

It’s Wednesday, July 31, at 2 PM in London. 

Right now we’re still in the early stages of GenAI’s impact on ad agency offerings; although the debate around technology removing the need for ad agencies is not new. 

Soon after the release of ChatGPT in early 2023, my colleagues in North America started mapping out the potential impact of GenAI on the ad agencies. They concluded that GenAI should represent an opportunity for the ad agencies, at least near-term. First, Gen AI would lead to productivity improvements from automatable tasks in creative, media, digital transformation consulting and central functions like HR and Finance. Second, GenAI would boost client demand for advice from agencies to help navigate the coming evolution in digital advertising.   

Fast-forward to now and the impact of GenAI on the ad agencies has become an active investor debate, with concerns centering around the Creative business. Many eyes are on the Gen AI-powered text to image/video tools, which could disrupt the ad agencies' Creative & Production business. We this has weighed on agency stock prices recently.  

Essentially, the bear case has been – and is – that technology would devalue agencies’ offerings and agency clients may rely more on tech platforms and in-house services. That bear case – twenty years into online advertising – has not played out. We think that in these early days of AI’s impact on marketing, there may be more upside to agency equities than risk over the next 12 to 18 months.  

On the one hand, the introduction of Gen AI tools may mean reduced pricing power and challenged top-line growth. At the same time, replacing creative personnel with software may increase earnings power, even with less revenue. We think it's likely that a key value-add of the ad agencies' Creative business would be campaign personalization at scale, powered by data and technology. 

Looking back, technology has been commoditizing certain areas of creative and production for years, well ahead of AI; and yet creativity and creative services remain core value propositions by agencies to brands. Overall, there is as much – if not more – opportunity than risk for ad agencies over time. 

So let me leave you with two key takeaways:  

First, we see the larger ad agencies as better positioned to remain relevant to customers in the GenAI era. However, we would caution that their large scale may also lower their ability to adapt quickly to evolving customer requirements when it comes to GenAI. 

Second, we expect GenAI to drive more consolidation in the industry. We think it’s likely that some of the large ad agencies take market share from other large ad agencies. 

As these trends play out over time, we’ll continue to keep you updated. 

Thanks for listening. If you enjoy the show, please leave us a review wherever you listen and share Thoughts on the Market with a friend or colleague today.

A later cycle economy and continued uncertainty means that investors should be remain wary of cyclicals such as small caps, explains Mike Wilson, our CIO and Chief US Equity Strategist.

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Welcome to Thoughts on the Market. I'm Mike Wilson, Morgan Stanley’s CIO and Chief US Equity Strategist. Along with my colleagues bringing you a variety of perspectives, today I'll be talking about slowing growth in the context of high valuations.

It's Tuesday, July 30th at 3pm in New York.

So, let’s get after it.

Over the past few weeks, the equity markets have taken on a different complexion with the mega cap stocks lagging and lower quality small caps doing better. What does this mean for investor portfolios? And is the market telling us something about future fundamentals? In our view, we think most of this rotation is due to the de-grossing that is occurring within portfolios that are overweight large cap quality growth and underweight lower quality and smaller cap names.

We have long been in the camp that large cap quality has been the place to be – for equity investors – as opposed to diving down the quality and cap curves. That continues to be the case; though we are watching the fundamental and technical backdrop for small caps closely, and we’re respectful of the pace of the recent move in the space.

For now, however, we continue to think the better risk/reward is to stay up the quality curve and avoid the more cyclical parts in the market like small caps. Our rationale for such positioning is simple — in a later cycle economy where growth is softening or not translating into earnings growth for most companies, large cap quality outperforms. 

Exacerbating the many imbalances across the economy is a bloated fiscal budget deficit. In our view, there are diminishing returns to fiscal spending when it starts to crowd out private companies and consumers. As I have been discussing for the past year, this crowding out has contributed to the bifurcation of performance in both the economy and equity markets, while potentially keeping the Fed's Interest rate policy tighter than it would have been otherwise.

While the macro data has been mixed, there is a growing debate around the actual strength of the labor market with the household survey painting a weaker picture than the non-farm payroll data which is based on employer surveys. The bottom line is that we are in a stable, but decelerating late cycle economy from a macro data standpoint. However, on the micro front, the data has not been as stable and is showing a more meaningful deterioration in growth; particularly as it relates to the consumer.

More specifically, earnings revision breadth has broken down recently for many of the cyclical parts of the market. Financials has been a bright spot here but that may be short-lived if the consumer continues to weaken. We continue to favor quality but with a greater focus on defensive sectors like utilities, staples and REITs as opposed to growthier ones like technology. The issue with the growth stocks is valuations and the quality of the earnings for some of the mega cap tech stocks.

The other variable weighing on stocks at the moment is valuations which remain in the top decile of the past 20 years. It’s worth noting that valuations are very sensitive to earnings revisions breadth. The last time revision breadth rolled over into negative territory was last fall. Between July and October 2023, the market multiple declined from 20x to 17x. Two weeks ago, this multiple was 22x and is now 21x. If earnings revisions continue to fade as we expect, it’s likely these valuations have further to fall. With our 12-month base case target multiple at 19x, the risk reward for equities broadly remains quite unfavorable at the moment.

Thanks for listening. If you enjoy the podcast, leave us a review wherever you listen, and share Thoughts on the Market with a friend or colleague today.

Our sustainability strategists Stephen Byrd and Tim Chan discuss what’s driving new opportunities across the global nuclear power sector and some risks investors should keep in mind.

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Stephen Byrd: Welcome to Thoughts on the Market. I'm Steven Byrd, Morgan Stanley's Global Head of Sustainability Research.

Tim Chan: And I'm Tim Chan, Asia Pacific Head of Sustainability Research.

Stephen Byrd: And on this episode of the podcast, we'll discuss some significant developments in the nuclear power generation space with long term implications for global markets.

It’s Monday, July 29th at 8am in New York.

Tim Chan: And 8 pm in Hong Kong.

Stephen Byrd: Nuclear power remains divisive, but it is making a comeback.

So, Tim, let's set the scene here. What's really driving this resurgence of interest in nuclear power generation?

Tim Chan: One key moment was the COP28 conference last year. Over 20 countries, including the US, Canada, and France, signed a joint declaration to triple nuclear capacity by 2050. Right now, the world has about 390 gigawatts of nuclear capacity providing 10 per cent of global electricity. It took 70 years to bring global nuclear capacity to 390 gigawatts. And now the COP28 target promises to build another 740 gigawatts in less than 30 years.

And if this remarkable nuclear journey is going to be achieved, that will require financing and also shorter construction time.

Stephen Byrd: So, Tim, how do you size the market opportunity on a global scale over the next five to ten years?

Tim Chan: We estimate that nuclear renaissance will be worth $ 1.5 trillion (USD) through 2050, in the form of capital investment in new global nuclear capacity. And the growth globally will be led by China and the US. China will also lead in the investment in nuclear, followed by the US and the EU. In addition, this new capacity will need $128 billion (USD) annually to maintain.

Stephen Byrd: Well, Tim, those are some gigantic numbers, $1.5 trillion (USD) and essentially a doubling of nuclear capacity by 2050. I want to dig into China a bit and if you could just speak to how big of a role China is going to play in this.

Tim Chan: In China, by 2060, nuclear is likely to account for roughly 80 per cent of the total power generation, according to the China Nuclear Association. This figure represents half of the global nuclear capacity in similar stages, which amounts to 520 gigawatts.

And Stephen, can you tell us more about the US?

Stephen Byrd: Sure, during COP 28, the US joined a multinational declaration to triple nuclear power capacity by 2050. In this past year, the US has seen the completion of a new nuclear power plant in Georgia, which is the first new reactor built in the United States in over 30 years.

Now, beyond this, we have not seen a strong pipeline in the US on large scale nuclear plants, according to the World Nuclear Association. And for the US to triple its nuclear capacity from about 100 gigawatts currently, the nation would need to build about 200 gigawatts more capacity to meet the target.

In our nuclear renaissance scenario, we assume only 50 gigawatts will be built, considering a couple of factors. So, first, clean energy options, such as wind and solar are becoming more viable; they're dropping in cost. And also, for new nuclear in the United States, we've seen significant construction delays and cost overruns for the large-scale nuclear plants. Now that said, there is still upside if we're able to meet the target in the US.

And I think that's going to depend heavily on the development of small modular reactors or SMRs. I am optimistic about SMRs in the longer term. They're modular, as the name says. They're easier to design, easier to construct, and easier to install. So, I do think we could see some upside surprises later this decade and into the next decade.

Tim Chan: And nuclear offers a unique opportunity to power Generative AI, which is accounting for a growing share of energy needs.

Stephen Byrd: So, Tim, I was wondering how long it was going to take before we began to talk about AI.

Nuclear power generators do have a unique opportunity to provide power to data centers that are located on site, and those plants can provide consistent, uninterrupted power, potentially without external connections to the grid. In the US, we believe supercomputers, which are essentially extremely large data centers used primarily for GenAI training, will be built behind the fence at one or more nuclear power plants in the US. Now these supercomputers are absolutely massive. They could use the power, potentially, of multiple nuclear power plants.

Now just let that sink in. These supercomputers could cost tens of billions of dollars, possibly even $100 billion plus. And they will bring to bear unprecedented compute power in developing future Large Language Models.

So, Tim, where does regulation factor into the resurgence of nuclear power or the lack of resurgence?

Tim Chan: So, for the regulation, we focus a lot on the framework to provide financing: subsidies, sustainable finance taxonomies and also from the bond investor; although we note that taxonomies are still developing to offer dedicated support to nuclear. 

We expect nuclear financing under green bonds will become increasingly common and accepted. However, exclusion on nuclear still exists.

Stephen Byrd: So finally, Tim, what are some of the key risks and constraints for nuclear development?

Tim Chan: I would highlight three risks. Construction time, shortage of labor, and uranium constraint. These remain the key risks for nuclear projects to bring value creation.

US and Europe had high profile delay in the past, which led to massive cost overrun. We are also watching the impacts of shortage of skilled labor, which is more likely in the developed markets versus emerging markets. And the supply of enriched uranium, which is mainly dominated by Russia.

Stephen Byrd: Well, that's interesting, Tim. There are clearly some risks that could derail or slow down this nuclear renaissance. Tim, thanks for taking the time to talk.

Tim Chan: Great speaking with you, Stephen.

Stephen Byrd: And thanks for listening. If you enjoy Thoughts on the Market, please leave us a review wherever you listen and share the podcast with a friend or colleague today.

Our head of Corporate Credit Research, Andrew Sheets, notes areas of uncertainty in the credit, equity and macro landscapes that are worth tracking as we move into the fall.

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Welcome to Thoughts on the Market. I'm Andrew Sheets, head of Corporate Credit Research at Morgan Stanley. Along with my colleagues bringing you a variety of perspectives, today I'll be talking about three risks we’re focused on for the third quarter.

It's Friday, July 26th at 2pm in London.

We like credit. But there are certainly risks we’re watching. I’d like to discuss three that are top of mind. 

The first is probably the mildest. Looking back over the last 35 years, August and September have historically been tougher months for riskier assets like stocks and corporate bonds. US High Yield bonds, for example, lose about 1 per cent relative to safer government bonds over August-September. That’s hardly a cataclysm, but it still represents the worst two-month stretch of any point of the year. And so all-else-equal, treading a little more cautiously in credit over the next two months has, from a seasonal perspective, made sense. 

The second risk is probably the most topical. Equity markets, especially US equity markets, are seeing major shifts in which stocks are doing well. Since July 8th, the Nasdaq 100, an index dominated by larger high-quality, often Technology companies, is down over 7 per cent. The Russell 2000, a different index representing smaller, often lower quality companies, is up over 11 per cent. So ask somebody – ‘How is the market?’ – and their answer is probably going to differ based on which market they’re currently in. This so-called rotation in what’s outperforming in the equity market is a risk, as Technology and large-cap equities have outperformed for more than a decade, meaning that they tend to be more widely held. But for credit, we think this risk is pretty modest. 

The weakness in these Large, Technology companies is having such a large impact because they make up so much of the market – roughly 40 per cent of the S&P 500 index. But those same sectors are only 6 per cent of the Investment grade credit market, which is weighted differently by the amount of debt somebody is issued. Meanwhile, Banks have been one of the best performing sectors of the stock market. And would you believe it? They are one of the largest sectors of credit, representing over 20 per cent of the US Investment Grade index. Put a slightly different way, when thinking about the Credit market, the average stock is going to map much more closely to what’s in our indices than, say, a market-weighted index. 

The third risk on our minds is the most serious: that economic data ends up being much weaker than we at Morgan Stanley expect. Yes, weaker data could lead the Fed and the ECB to make more interest rate cuts. But history suggests this is usually a bad bargain. When the Fed needs to cut a lot as growth weakens, it is often acting too late. And Credit consistently underperforms.

We do worry that the Fed is a bit too confident that it will be able to see softness coming, given the lag that exists between when it cuts rates and the impact on the economy. We also think interest rates are probably higher than they need to be, given that inflation is rapidly falling toward the Fed’s target. But for now, the US Economy is holding up, growing at an impressive 2.8 per cent rate in the second quarter in data announced this week. Good data is good news for credit, in our view. Weaker data would make us worried. 

Thanks for listening. If you enjoy the show, please leave us a review wherever you listen and share Thoughts on the Market with a friend or colleague today.

Markets are contending with greater uncertainty around the US presidential election following President Biden’s withdrawal. Our Global Head of Fixed Income and Thematic Research breaks down what we know as the campaign enters a new phase.

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Welcome to Thoughts on the Market. I'm Michael Zezas, Morgan Stanley's Global Head of Fixed Income and Thematic Research. Along with my colleagues bringing you a variety of perspectives, today I'll be talking about the latest development in the US presidential race.

It's Thursday, July 25th at 2:30 pm in New York. 

Last weekend, when President Biden decided not to seek re-election, it begged some questions from investors. 

First, with a new candidate at the top of the ticket, are there new policy impacts, and potential market effects, resulting from Democrats winning that we haven’t previously considered? 

For the moment, we think the answer is no. Consider Vice President Harris. Her policy positions are similar to Biden’s on key issues of importance to markets. And even if they weren’t, the details of key legislative policies in a Democratic win scenario will likely be shaped by the party’s elected officials overall. So, our guidance for market impacts that investors should watch for in the event that Democrats win the White House is unchanged. 

Second, what does it mean for the state of the race? After all, markets in the past couple of weeks began anticipating a stronger possibility of Republican victory. It was visible in stronger performance in small cap stocks, which our equity strategy team credited to investors seeing greater benefits in that sector from more aggressive tax cuts under possible Republican governance. 

It was also visible in steeper yield curves, which could reflect both weaker growth prospects due to tariff risks, pushing shorter maturity yields lower, and greater long-term uncertainty on economic growth, inflation, and bond supply from higher US deficits – something that could push longer-maturity Treasury yields relatively higher. So, it's understandable that investors could question the durability of these market moves if the race appeared more competitive. 

But the honest answer here is that it's too early to know how the race has changed. As imperfect as they are, polls are still our best tool to gauge public sentiment. And there’s scant polling on Democratic candidates not named Biden. So, on the question of which candidate more likely enjoys sufficient voter support to win the election, it could be days or weeks before we have reliable information. That said, prediction markets are communicating that they expect the race to tighten – pricing President Trump’s probability of regaining the White House at about 60-65 per cent, down from a recent high of 75-80 per cent. 

So bottom line, a change in the Democratic ticket hasn’t changed the very real policy stakes in this election. We’ll keep you informed here of how it's impacting our outlook for markets. 

Thanks for listening. If you enjoy the podcast, please leave us a review wherever you listen and share Thoughts on the Market with a friend or colleague today.

Our Chief Asia Economist explains how the region’s economies and markets would be affected by higher tariffs, and other possible scenarios in the US elections.

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Welcome to Thoughts on the Market. I’m Chetan Ahya, Morgan Stanley’s Chief Asia Economist. Along with my colleagues bringing you a variety of perspectives, today I’ll discuss a question that’s drawing increasing attention – just how the U.S. presidential election would affect Asian economies and markets. 

It’s Wednesday, July 24th, at 8 PM in Hong Kong. 

As the US presidential race progresses, global markets are beginning to evaluate the possibility of a Trump win and maybe even a Republican sweep. Investors are wondering what this would   mean for Asia in particular. We believe there are three channels through which the US election outcome will matter for Asia. 

First, financial conditions – how the US dollar and rates will move ahead of and after the US elections. Second, tariffs. And third, US growth outcomes, which will affect global growth and end demand for Asian exports. Well, out of the three our top concern is the growth downside from higher tariffs. 

The 2018 experience suggests that the direct effect of tariffs is not what plays the most dominant role in affecting the macro outcomes; but rather the transmission through corporate confidence, capital expenditure, global demand and financial conditions. 

Let’s consider two scenarios. 

First, in a potential Trump win with divided government, China would likely be more affected from tariffs than Asia ex China. We see potentially two outcomes in this scenario – one where the US imposes tariffs only on China, and another where it also imposes 10 percent tariffs on the rest of the world. 

In the case of 60 percent tariffs on imports from China, there would be meaningful adverse effect on Asia's growth and it will be deflationary. China would remain most exposed compared to the rest of the region, which has reduced its export exposure to China over time and could see a positive offset from diversification of the supply chain away from China. 

In the case where the US also imposes 10 percent tariffs on imports from the rest of the world, we expect a bigger downside for China and the region. We believe that in this instance – in addition to the direct effect of tariffs on exports – the growth downside will be amplified by significant negative impact on corporate confidence, capex and trade. Corporate confidence will see bigger damage in this instance as compared to the one where tariffs are imposed only on China as corporate sector will have to think about on-shoring rather than continuing with friend-shoring. 

In the second scenario, in a potential Trump win with Republican sweep, in addition to the implications from tariffs, we would also be watching the possible fiscal policy outcomes and how they would shift the US yields and the dollar. This means that the tightening of financial conditions would pose further growth downside to Asia, over and above the effects of tariffs. 

How would Asia’s policymakers respond to these scenarios? As tariffs are imposed, we would expect Asian currencies to most likely come under depreciation pressure in the near term. While this helps to partly offset the negative implications of tariffs, it will constraint the ability of the central banks to cut rates. In this context, we expect fiscal easing to lead the first part of the policy response before rate cuts follow once currencies stabilize. It’s worth noting that in this cycle, the monetary policy space in Asia is much more limited than in the previous cycles because nominal rates in Asia for the most part are lower than in the US at the starting point. 

Of course, this is an evolving situation in the remaining months before the US elections, and we’ll continue to keep you updated on any significant developments. 

Thanks for listening. If you enjoy the show, please leave us a review wherever you listen and share Thoughts on the Market with a friend or colleague today.

Our Head of Global Autos & Shared Mobility discusses what makes humanoid robots a pivotal trend with implications for the global economy.

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Welcome to Thoughts on the Market. I’m Adam Jonas, Morgan Stanley’s Head of Global Autos & Shared Mobility. Today I’ll be talking about an unusual but hotly debated topic: humanoid robots.

It’s Tuesday, July 23rd, at 10am in New York. 

We've seen robots on factory floors, in displays at airports and at trade shows – doing work, performing tasks, even smiling. But over the last eighteen months, we seem to have hit a major inflection point.

What's changed? Large Language Models and Generative AI. The current AI movement is drawing comparisons to the dawn of the Internet. It’s begging big, existential questions about the future of the human species and consciousness itself. But let’s look at this in more practical terms and consider why robots are taking on a human shape. 

The simplest answer is that we live in a world built for humans. And we’re getting to the point where – thanks to GenAI – robots are learning through observation. Not just through rudimentary instruction and rules based heuristic models. GenAI means robots can observe humans in action doing boring, dangerous and repetitive tasks in warehouses, in restaurants or in factories. And in order for these robots to learn and function most effectively, their design needs to be anthropomorphic. 

Another reason we're bullish on humanoid robots is because developers can have these robots experiment and learn from both simulation and physically in areas where they’re not a serious threat to other humans. You see, many of the enabling technologies driving humanoid robots have come from developments in autonomous cars. The problem with autonomous cars is that you can't train them on public roads without directly involving innocent civilians – pedestrians, children and cyclists -- into that experiment. 

Add to all of this the issue of critical labor shortages and challenging demographic trends. The global labor total addressable market is around $30 trillion (USD) or about one-third of global GDP. We’ve built a proprietary US total addressable market model examining labor dynamics and humanoid optionality across 831 job classifications, working with our economic team; and built a comprehensive survey across 40 sectors to understand labor intensity and humanoid ability of the workforce over time. 

In the United States, we forecast 40,000 humanoid units by 2030, 8 million by 2040 and 63 million by 2050 – equivalent to around $3 trillion (USD) of salary equivalent. But as early as 2028 we think you're going to see significant adoption beginning in industries like manufacturing, production, warehousing, and logistics, installation, healthcare and food prep. 

Then in the 2030s, you’re going to start adding more in healthcare, recreational and transportation. And then after 2040, you may see the adoption of humanoid robots go vertical. Now you might say – that’s 15 years from now. But just like autonomous cars, the end state might be 20 years away, but the capital formation is happening right now. And investors should pay close attention because we think the technological advances will only accelerate from here. 

Thanks for listening. And if you enjoy the show, please leave us a review wherever you listen and share Thoughts on the Market with a friend or colleague today.

Our CIO and Chief US Equity Strategist explains that in the event of a Republican sweep in this fall’s U.S. elections, investors should not expect a repeat of 2016 given the different business environment.

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Welcome to Thoughts on the Market. I'm Mike Wilson, Morgan Stanley’s CIO and Chief US Equity  Strategist. Along with my colleagues bringing you a variety of perspectives, today I'll be talking about  why investors should fade the recent rally in small caps and other pro cyclical trades. 

It's Monday, July 22nd at 11:30am in New York.  

So let’s get after it.

With Donald Trump’s odds of winning a second Presidency rising substantially over the past few weeks, we’ve fielded many questions on how to position for this outcome. In general, there is an increasing view that growth and interest rates could be higher given Trump's focus on business-friendly policies, de-regulation, higher tariffs, less immigration and additional tax cuts.  

While the S&P 500 has risen alongside Trump's presidential odds this year, several of the perceived  industry outperformers under this political scenario have only just recently started to show relative outperformance. One could argue a Trump win in conjunction with a Republican sweep could be  particularly beneficial for Banks, Small Caps, Energy Infrastructure and perhaps Industrials. Although, the  Democrats' heavy fiscal spending and subsidies for the Inflation Reduction Act, Chips Act and other infrastructure projects suggest Industrial stocks may not see as much of an incremental benefit relative to the past four years. The  perceived industry underperformers are alternative energy stocks and companies likely to be affected  the most by increased tariffs. Consumer stocks stand out in terms of this latter point, and they have underperformed recently. However, macro factors are likely affecting this dynamic as well. For example, concerns around slowing services demand and an increasingly value-focused consumer have risen, too. 

It's interesting to note that while these cyclical areas that are perceived to outperform under a Trump Presidency did work in 2016 and through part of 2017, they did even better during Biden's first year. Our rationale on this front is that the cycle plays a larger role in how stocks trade broadly and at the sector level than who is in the White House. As a comparison, we laid out a bullish case at the end of 2016 and in early 2017 when many were less constructive on pro cyclical risk assets than we were post the 2016 election. It’s worth pointing out that the global economy was coming out of a commodity and  manufacturing recession at that time, and growth was just starting to reaccelerate, led by another China boom. Today, we face a much different macro landscape. More specifically, several of the cyclical trades mentioned above typically show their best performance in the early cycle phase of an economic  expansion like 2020-2021. They show strong, but often not quite as strong performance in mid cycle  periods like 2016-17. They tend to show less strong returns later in the cycle like today. Our late cycle view is further supported by the persistent fall in long term interest rates and inverted yield curve.  

We believe the recent outperformance of lower quality, small cap stocks has been driven mainly by a combination of softer inflation data and hopes for an earlier Fed cut combined with dealer demand and short covering from investors on the back of Trump’s improved odds. For those looking to the 2016 playbook, we would point out that relative earnings revisions for small cap cyclicals are much weaker today than they were during that period.   

Back in December when small caps saw a similar squeeze higher, we explored the combination of factors  that would likely need to be in place for small cap equities to see a durable, multi-month period of  outperformance. Our view was that the introduction of rate cuts in and of itself was not enough of a factor to drive small cap outperformance versus large caps. In fact, history suggests large cap growth tends to be the best performing style once the Fed begins cutting as nominal growth is often slowing at  this point in the cycle, which enables the Fed to begin cutting. We concluded that to see durable small cap  outperformance, we would need to see a much more aggressive Fed cutting cycle that revived animal spirits in a significant enough way for growth and pricing power to inflect higher, not lower like recent trends.  

We are monitoring small cap earnings expectations and small business sentiment for signs that animal  spirits are building in this way. Rates and pricing power are still headwinds; while small businesses are not all that sanguine about expanding operations, they are increasingly viewing the economy more  positively — an incremental positive and something worth watching. We will continue to monitor the  data in assessing the feasibility of this small cap rally continuing. Based on the evidence to date, we  would resist the urge to chase this cohort and lean back into large cap quality and defensives. 

Thanks for listening. If you enjoy the podcast, please leave us a review wherever you listen, and share  Thoughts on the Market with a friend or colleague today. 

Our Head of Corporate Credit Research shares four reasons that he believes credit spreads are likely to stay near their current lows.

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Welcome to Thoughts on the Market. I'm Andrew Sheets, Head of Corporate Credit Research at Morgan Stanley. Along with my colleagues bringing you a variety of perspectives, today I'll be talking about why being negative credit isn’t as obvious as it looks, despite historically low spreads.

It's Friday, July 19th at 2pm in London.

We’re constructive on credit. We think the asset class likes moderation, and that’s exactly what Morgan Stanley forecasts expect: moderate growth, moderating inflation and moderating policy rates. Corporate activity is also modest; and even though it’s picking up, we haven’t yet seen the really aggressive types of corporate behavior that tend to make bondholders unhappy. 

Meanwhile, demand for the asset class is strong, and we think the start of Fed rate cuts in September could make it even stronger as money comes out of money market funds, looking to lock in current interest rates for longer in all sorts of bonds – including corporate bonds. 

And so while spreads are low by historical standards, our call is that helpful fundamentals and demand will keep them low, at least for the time being. 

But the question of credit’s valuation is important. Indeed, one of the most compelling bearish arguments in credit is pretty straightforward: current spreads are near some of their lowest levels of several prior cycles. They’ve repeatedly struggled to go lower. And if they can’t go lower, positioning for spreads to go wider and for the market to go weaker, well, it would seem like pretty good risk/reward. 

This is an extremely fair question! But there are four reasons why we think the case to be negative isn’t as straightforward as this logic might otherwise imply.

First, a historical quirk of credit valuations is that spreads rarely trade at long-run average. They are often either much wider, in times of stress, or much tighter, in periods of calm. In statistical terms, spreads are bi-modal – and in the mid 1990s or mid 2000’s, they were able to stay near historically tight levels for a pretty extended period of time. 

Second, work by my colleague Vishwas Patkar and our US Credit Strategy team notes that, if you make some important adjustments to current credit spreads, for things like quality, bond price, and duration, current spreads don’t look quite as rich relative to prior lows. Current investment grade spreads in the US, for example, may still be 20 basis points wider than levels of January 2020, right before the start of COVID. 

Third, a number of the key buyers of corporate bonds at the moment are being driven by the level of yields, which are still high rather than spread, which are admittedly low. That could mean that demand holds up better even in the face of lower spreads. 

And fourth, credit is what we’d call a positive carry asset class: sellers lose money if nothing in the market changes. That’s not the case for US Treasuries, or US Equities, where those who are negative – or short – will profit if the market simply moves sideways. It’s one more factor that means that, while spreads are low, we’re mindful that being negative too early can still be costly. It’s not as simple as it looks. 

Thanks for listening. If you enjoy the show, please leave us a review wherever you listen and share Thoughts on the Market with a friend or colleague today.

Our experts discuss how high prices for auto insurance have been driving inflation, and the implications for consumers and the Fed now that price increases are due to slow.

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Seth Carpenter: Welcome to Thoughts on the Market. I'm Seth Carpenter, Morgan Stanley's Global Chief Economist.

Diego Anzoategui: I'm Diego Anzoategui from the US Economics team.

Bob Huang: And I'm Bob Huang, the US Life and Property Casualty Insurance Analyst.

Seth Carpenter: And on this episode, we're going to talk about a topic that -- I would have guessed -- historically we weren't going to think about too often in a macro setting; but over the past couple of years it's been a critical part of the whole story on inflation, and probably affects most of our listeners.

It's auto insurance and why we think we're reaching a turning point.

It's Thursday, July 18th at 10am in New York.

All right, let's get started.

If you drive a car in the United States, you almost surely have been hit by a big increase in your auto insurance prices. Over the past couple of years, everyone has been talking about inflation, how much consumer prices have been going up. But one of the components that lots of people see that's really gone up dramatically recently has been auto insurance.

So that's why I wanted to come in and sit down with my colleagues, Diego and Bob, and talk through just what's going on here with auto insurance and how does it matter.

Diego, I'm going to start with you.

One thing that is remarkable is that the inflation that we're seeing now and that we've seen over the past several months is not related to the current state of the economy.

But we know in markets that everyone's looking at the Fed, and the Fed is looking at the CPI data that's coming out. We just got the June CPI data for the US recently. How does this phenomenon of auto insurance fit into that reading on the data?

Diego Anzoategui: Auto insurance is a relatively small component of CPI. It only represents just below 3 per cent of the CPI basket. But it has become a key driver because of the very high inflation rates has been showing. You know, the key aggregate the Fed watches carefully is core services ex-housing inflation. And the general perception is that inflation in these services is a lagged reflection of labor market tightness. But the main component driving this aggregate, at least in CPI, since 2022 has been auto insurance.

So the main story behind core services ex-housing inflation in CPI is just the lagged effect of a cost shock to insurance companies.

Seth Carpenter: Wait, let me stop you there. Did I understand you right? That if we're thinking about core services inflation, if you exclude housing; that is, I think, what a lot of people think is inflation that comes from a tight labor market, inflation that comes from an overheated economy. And you're saying that a lot of the movement in the past year or two is really coming from this auto insurance phenomenon.

Diego Anzoategui: Yes, that's exactly true. It is the main component explaining core services ex-housing inflation.

Seth: What's caused this big acceleration in auto insurance over the past few years? And just how big a deal is it for an economist like us?

Diego Anzoategui: Yeah, so believe it or not, today's auto insurance inflation is related to COVID and the supply chain issues we faced in 2021 and 2022. Key cost components such as used cars, parts and equipment, and repair cost increased significantly, creating cost pressures to insurance companies. But the reaction in terms of pricing was sluggish. Some companies reacted slowly; but perhaps more importantly, regulators in key states didn't approve price increases quickly.

Remember that this is a regulated industry, and insurance companies need approvals from regulators to update premiums. And, of course, losses increased as a result of this sluggish response in pricing, and several insurance started to scale back businesses, creating supply demand imbalances.

And it is when these imbalances became evident that regulators started to approve large rate increases, boosting car insurance inflation rapidly from the second half of 2022 until today.

Seth Carpenter: Okay, so if that's the case, what should we think about as key predictors, then, of auto insurance prices going forward? What should investors be aware of? What should consumers be aware of? 

Diego Anzoategui: So in terms of predictors, it is always a good idea to keep track of cost related variables. And these are leading indicators that we both Bob and I would follow closely.

Used car prices, repair costs, which are also CPI components, are leading indicators of auto insurance inflation. And both of them are decelerating. Used car prices are actually falling. So there is deflation in that component. But I think rate filings are a key indicator to identify the turning point we are expecting this cycle.

Seth Carpenter: Can you walk through what that means -- rate filings? Just for our listeners who might not be familiar?

Diego Anzoategui: So, rate filings basically summarize how much insurers are asking to regulators to increase their premiums. And we actually have access to this data at a monthly frequency. Filings from January to May this year -- they are broadly running in line with what happened in 2023. But we are expecting deceleration in the coming months.

If filings start to come down, that will be a confirmation of our view of a turning point coming and a strong sign of future deceleration in car insurance inflation.

Seth Carpenter: So Bob, let me turn to you. Diego outlines with the macro considerations here. You're an analyst, you cover insurers, you cover the equity prices for those insurance, you're very much in the weeds. Are we reaching a turning point? Walk us through what actually has happened.

Bob Huang: Yeah, so we certainly are reaching a turning point. And then, similar to what Diego said before, right, losses have been very high; and then that consequently resulted in ultimately regulators allowing insurance companies to increase price, and then that price increase really is what's impacting this.

Now, going forward, as insurers are slowly achieving profitability in the personal auto space, personal auto insurers are aiming to grow their business. And then, if we believe that the personal auto insurance is more or less a somewhat commoditized product, and then the biggest lever that the insurance companies have really is on the pricing side. And as insurers achieve profitability, aim for growth, and that will consequently cost some more increased pricing competition.

So, yes, we'll see pricing deceleration, and that's what I'm expecting for the second half of the year. And then perhaps even further out, and that could even intensify further. But we'll have to see down the road.

Seth Carpenter: Is there any chance that we actually see decreases in those premiums? Or is the best we can hope for is that they just stopped rising as rapidly as they have been?

Bob Huang: I think the most likely scenario is that the pricing will stabilize. For price to decrease to before COVID level, that losses have to really come down and stabilize as well. There are only a handful of insurers right now that are making what we call an underwriting profit. Some other folks are still trying to make up for the losses from before.

So, from that perspective, I think, when we think about competition, when we think about pricing, stabilization of pricing will be the first point. Can price slightly decrease from here? It's possible depending on how intensive the competition is. But is it going to go back to pre-COVID level? I think that's a hard ask for the entire industry.

Seth Carpenter: You were talking a lot about competition and how competition might drive pricing, but Diego reminded all of us at the beginning that this industry is a regulated industry. So can you walk us through a little bit about how we should think about this going forward?

What's the interaction between competition on the one hand and regulation on the other? How big a deal is regulation? And, is any of that up for grabs given that we've got an election in November?

Bob Huang: Usually what an insurer will have to do in general is that for some states -- well actually, in most cases they would have to ask for rate filings, depending on how severe those rate filings are. Regulators may have to step in and approve those rate filings.

Now, as we believe that competition will gradually intensify, especially with some of the more successful carriers, what they can do is simply just not ask for price increase. And in that case, regulators don't really need to be involved. And then also implies that if you're not asking for a rate increase, then that also means that you're not really getting that pricing -- like upward pricing pressure on the variety of components that we're looking at.

Seth Carpenter: To summarize, what I'm hearing from Bob at the micro level is those rate increases are probably slowing down and probably come to a halt and we'll have a stabilization. But don't get too excited, consumers. It's not clear that car insurance premiums are actually going to fall, at least not by a sizable margin.

And Diego, from you, what I'm hearing is this component of inflation has really mattered when it comes to the aggregate measure of inflation, especially for services. It's been coming down. We expect it to come down further. And so, your team's forecast, the US economics team forecast, for the Fed to cut three times this year on the back of continued falls of inflation -- this is just another reason to be in that situation.

So, thanks to both of you being on this. It was great for me to be able to talk to you, and hopefully our listeners enjoyed it too.

Bob Huang: Thank you for having me here.

Diego Anzoategui: Always a pleasure.

Seth Carpenter: To the listeners, thank you for listening. If you enjoy Thoughts on the Market, please leave us a review wherever you listen; and share this podcast with a friend or a colleague today.

Financial markets can be sensitive to news cycles, but our Global Head of Fixed Income and Thematic Research offers a word of caution about reacting to recent headlines about the US presidential election.

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Welcome to Thoughts on the Market. I'm Michael Zezas, Morgan Stanley's Global Head of Fixed Income and Thematic Research. Along with my colleagues bringing you a variety of perspectives, today I'll be talking about development in the upcoming US elections.

It's Wednesday, July 17th at 10:30am in New York. 

Financial markets are starting to reflect the possibility of a Trump presidency. Investors may be taking cues from a few current developments. There’s the recent weakening of President Biden’s polling numbers in key swing states such as Pennsylvania, Michigan and Wisconsin. There’s also the ongoing discussion about whether he will remain the Democratic nominee. And there's also former President Trump’s increased win probabilities in prediction markets, as well as the perception that Democrats will have more trouble pursuing their agenda in the wake of the assassination attempt against him. 

To that end we’ve seen moves in key areas of markets sensitive to what we have argued will be the policy impacts of a Trump presidency, including a steepening of the US Treasury yield curve. But – a word of caution. These market reactions to recent political events may be rational, but it's not clear they’re sustainable.  

First, there are plausible ways investors’ perceptions of the likely outcomes of this election could shift. Voters can have very short memories, resulting in polls shifting to partisan priors. This happened with popular opinion on elected officials following notable incidents in recent years – such as the events of January 6th, 2021, the US withdrawal from Afghanistan, and more. Also, if President Biden were to withdraw as a candidate, it’s possible investors could perceive that a different candidate could tighten the race. For example, there have been recent surveys showing alternate Democratic candidates polling better than President Biden. 

Second, there’s also room for investors to misunderstand the policy path that could follow an election outcome as well as the impact of that path. For example, we’ve seen some recent press articles linking the broadening out of positive performance in the equity market to the likelihood of a Trump win on perceived benefits of friendlier tax policies that might result from this outcome. But if investors only focus on that policy, they’re not incorporating the potential offsetting effects that could come from policies that could challenge the economic growth outlook, such as higher tariffs – something former President Trump has advocated for. 

So bottom line, it makes sense to interrogate what seems like clear links between the upcoming election and markets.Some linkages are strong, and it’s possible that will make for a good investment strategy; others are weak and may break under scrutiny. We’ll help you sort it out here. 

Thanks for listening. If you enjoy the podcast, please leave us a review wherever you listen and share Thoughts on the Market with a friend or colleague today.

Our Chief Global Cross-Asset Strategist explains why she sees a future for the 60/40 portfolio strategy, which worked well for over half a century and may continue to perform well – with some modifications.

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Welcome to Thoughts on the Market. I’m Serena Tang, Morgan Stanley’s Chief Cross-Asset Strategist. Along with my colleagues bringing you a variety of perspectives, today I’ll discuss the future of the 60/40 equity/bond portfolio.

 It’s Tuesday, July 16th, at 10am in New York.

Now investors have been asking: Is the 60/40 portfolio -- which allocates 60 percent to stocks and 40 percent to bonds -- dead? After all, the last two years saw some of the worst returns of this strategy in decades. Now, we think the concerns about this widely used strategy are not unfounded, but definitely a bit exaggerated. Exactly how one thinks about the right mix of equities and bonds within this type of portfolio though will need to change.

The strategy of investing 60 percent of a portfolio in equities and 40 percent in bonds to lower portfolio risk evolved from modern portfolio theory in the 1950s. To succeed, bonds must be less volatile than stocks and the correlation between stock and bond returns can't be 1 -- because that would mean a perfect positive correlation between stocks and bonds. And this correlation has been below 1 and low for a long time because growth and inflation have moved up and down in tandem for a long time. 

Now what does this have to do with anything, you may ask. Well, typically in an environment where equities are rallying on the back of strong growth, inflation is also increasing – which in turn means that nominal yields stay high, dampening bond returns; and vice-versa in a recessionary scenario. Now, in both of those cases, the negative stock-bond return correlations is related to the positive growth inflation correlation. Which explains why the strategy of the 60/40 equity/bond portfolio worked so well for decades, particularly in the low-vol, high-growth inflation correlation, low stock-bond returns correlation environment of the late aughts to 2010s. 

Unfortunately for investors though, this has not been the backdrop for the last few years. The highly unusual macro environment coming out of pandemic broke that relationship between growth and inflation, which in turn broke the relationship between stocks and bonds, led to a spike in fixed income volatility, and dragged bond returns to lowest levels in decades over the last couple of years. But we believe these factors will slowly normalize, which means 60/40-like strategies should work again. While the levels of correlation and bond volatility going forward may look different from history, and definitely different from the QE period, as long as bonds have lower risks than stocks – and there’s little to suggest they won’t – bonds will continue to be good diversifiers. 

But it’s important for investors to ask themselves: what could drive correlation between stocks and bonds going forward? Well, longer term, the path of correlation between the two assets depends in part on the relationship between economic growth and inflation, as I touched on earlier. And this is where AI can come in. Positive productivity shocks from GenAI tech diffusion and the energy transition may change that dynamic between growth and inflation. And at the same time, decoupling in the world’s key economic regions as a result of the transition to a multipolar world can alter the correlation between regional equities and rates. 

So, will the 60/40 portfolio be the strategy of the future? Or is it going to be more like 70/30 or even 50/50? Slower normalization of volatility and correlation means that a portfolio with more equity could yield better risk/reward than a 60/40 mix. On the other hand, as the world’s 65+ year-old population continues to grow over the next decades, this aging demographic may demand higher allocations to less volatile assets, even at the expense of lower returns. 

Or maybe, just maybe, there is another solution. Instead of a simple 60/40 like strategy, investors can look beyond government bonds to other diversifiers, and building a multi-asset portfolio with more flexibility. 

Thanks for listening. If you enjoy the show, please leave us a review wherever you listen and share Thoughts on the Market with a friend or colleague today.

Our Retail analyst and U.S. Internet analyst connect the dots on how technology is helping the retail industry to cash in on the future.

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Simeon Gutman: Welcome to Thoughts on the Market. I'm Simeon Gutman, Morgan Stanley's Hardlines, Broadlines, and Food Retail Analyst.

Brian Nowak: And I'm Brian Nowak, Morgan Stanley's US Internet Analyst.

Simeon Gutman: And on this episode of the podcast, we'll hear how retailers are using technology to make a comeback and set themselves up for the future.

It's Monday, July 15th at 6pm in London.

Brian Nowak: And it's 1pm in New York.

Simeon Gutman: Retail has taken a big hit over the last few years. The long tail of the pandemic, outbreaks of war and inflation have had a big impact on the landscape. However, our research suggests retail is finding its feet, and technology is playing a significant role.

Automation, AI, and retail media are the game changers here. And we're seeing retailers of larger scale and larger size disproportionately invest in these technologies -- which means it will not benefit all retailers equally.

My colleague Brian is here to help explain the technology and how these are manifesting themselves across the internet and technology landscapes. Brian, can you talk about how these things are materializing across your coverage universe?

Brian Nowak: Thanks, Simeon. Across the US internet space, we're seeing early emerging use cases for Generative AI of many types. We are seeing improved targeting on the advertising side. We are seeing new diffusion and creative models being built where advertisers can create new types of advertising copy using large language models. We are seeing new forms of customer service using large language models and Generative AI. And in effect, we are seeing companies across the entire internet space better analyze their first party data to drive more new people and customers to their platforms -- to drive higher conversion and share of wallets from those customers. And ultimately more durable multiyear top-line growth, which in some cases is also leading to higher free cash flow growth over the long term as well. It's early, but it's very encouraging with what we're seeing for Generative AI and retail media across the space.

Simeon Gutman: Can you talk about in more detail how retail media is influencing the success and the prospects for some of your companies?

Brian Nowak: Retail media is a emerging, rapidly growing, new high margin revenue stream that is moving across the internet space. Large companies are analyzing more of their data and essentially creating new advertising units that users and consumers can click on to drive transactions. And they're finding ways to better link these advertising dollars to transactions and ultimately creating a new revenue stream that we think is going to drive more durable top-line growth -- and because of its high margin nature, also more durable, multiyear free cash flow growth. It is benefiting the commerce players. It is benefiting the online advertising players. And it's also benefiting the advertising technology players.

So with that as a backdrop, Simeon, where are you seeing Generative AI, retail media, and maybe even automation, start to manifest itself throughout the retail landscape?

Simeon Gutman: Those are the three pillars of technology that are influencing retailers. Taking a quick step back, what's changing is that market share in retail is concentrating and consolidating among the largest players. And if you think about the investments required for some of these new capabilities, the companies that have the greatest ability to invest should see the greatest benefits. That means that the big could get bigger at an even faster rate. And this is why the stakes in retail are growing even faster.

Now with, respect to these technologies. Let's start with AI. AI is helping retailers analyze big pieces of data that they never had an ability to do in such a quick way. That could help them refine their search criteria to consumers scanning a website. That could help them improve the algorithms in a distribution center with robots creating orders.

Second, speaking of robots, bringing automation to distribution centers, supply chains for retailers can cost anywhere between 2 to 6 per cent of sales. There's a significant opportunity to reduce the amount of labor -- human labor -- in these distribution centers by automating them; whether it's dry goods, whether it's grocery items, as tricky as frozen and perishable items.

And then lastly, retail media, the way that you mentioned, Brian, the benefit to your companies is very similar to retailers. There are now advertising dollars that are moving into new channels, whether it's closed loop advertising in store or retail media that's appearing on websites -- where some of the larger and more successful companies have a lot of traffic and advertisers are intrigued to show them offers and deals to try to change their perception or behaviors.

So those three pieces of technology are slowly transforming the retailer. So next time you step into a retail store, there may be more technology that meets the eyes.

Thanks for listening. If you enjoy Thoughts on the Market, please leave us a review wherever you listen and share the podcast with a friend or colleague today.

Our Head of Corporate Credit Research explains why he expects the US Federal Reserve to make three rate cuts before the end of the year, starting in September.

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Welcome to Thoughts on the Market. I'm Andrew Sheets, head of Corporate Credit Research at Morgan Stanley. Along with my colleagues bringing you a variety of perspectives, today I'll be talking about why it's looking more likely that the Fed should, and will, cut interests rates several times this year.

It's Friday, July 12th at 2pm in London.

Last week, we discussed why the case for Fed rate cuts this year was strengthening. Credit markets generally don’t care too much about the exact timing or pace of policy rates, but they do care if a central bank is behind the curve. 

That’s because over the last 40 years, the worst returns for credit have repeatedly overlapped with periods where the Fed was too late in reversing tight monetary policy. After all, interest rates impact the economy with a pretty long and variable lag; and a interest rate cut today may not be fully felt in the economy for 12 months – or even longer. It’s therefore important for a central bank to be proactive. 

And so, with the recent US economic data softer, and the Fed appearing in little rush to act, the concern was straightforward: if the Fed is waiting for signs of economic weakness to be obvious, it will take too long to lower interest rates to blunt this. The Fed will be behind the curve. 

This risk of acting too late hasn’t gone away, and it’s a key reason why we think credit investors should be rooting for economic data in the second half of this year to remain solid, in line with Morgan Stanley’s base case. But this week did bring some events that suggest the Fed may start to adjust rates soon. 

First, in testimony before the US Congress, Chair Powell repeatedly emphasized that the risks for the US economy are becoming more balanced. Previously, the Fed had appeared to be much more focused on an upside scenario where conditions are hotter rather than a scenario where growth slowed unexpectedly. 

Second, in data released yesterday, US Consumer Price Inflation – or CPI – came in lower than expected. Overall, prices actually fell month-over-month, something that hasn’t happened since May of 2020, a time when the pandemic was raging, and Fed rates were near zero percent. Morgan Stanley’s base case is that moderating inflation will lead the Fed to cut interest rates by 25 basis points in September, November and December of this year. 

For credit, the question of “what do these rate cuts” mean is an ‘and’ statement. If the Fed is lowering rates and growth is holding up, you are potentially looking at a mid-1990s scenario, the best period for credit in the modern era. But if the Fed is cutting and growth is weak … well, over and over again, that has not been good. 

We remain constructive on credit, expecting three Fed rate cuts this year to coexist with moderate growth. But weaker data remains the risk. For credit, good data is good. 

Thanks for listening. If you enjoy the show, please leave us a review wherever you listen and share Thoughts on the Market with a friend or colleague today.

Our Freight Transportation & Airlines Analyst discusses the key takeaways from his mid-year corporate travel survey, which includes a number of positive trends for the second half of 2024.

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Welcome to Thoughts on the Market. I’m Ravi Shanker, Morgan Stanley’s Freight Transportation and Airlines analyst. Along with my colleagues bringing you a variety of perspectives, today I’ll discuss my expectations for corporate travel in the second half of this year. 

It’s Thursday, July 11th, at 10am in New York. 

More and more business travelers are packing their bags and taking a flight for business meetings. In fact, our corporate travel survey suggests that a record 50 percent of respondents marked their travel itineraries as returning to pre-COVID levels. As well, corporate travel budgets are expected to be up five to seven percent year-over-year in 2024, and about six percent in 2025. This means significantly more flights, hotels and car bookings for corporate travel.

Interestingly, this is the first survey since 2021 that larger enterprises were more optimistic on corporate travel demand compared to smaller enterprises.

The shift to virtual meetings over the next two years will likely be stable. Companies continue to predict that 12-13 percent of travel volume will be replaced by virtual meetings in 2024 and 2025. Looking ahead, respondents expect this level to hold through 2025, supporting some level of permanent shift we think.

For US airlines specifically, we have started to see more signs of life within the corporate space. Several US airlines are pointing to noticeable improvement in the first quarter after fairly stagnant volumes at the end of 2023. We also saw a reversal from prior surveys with larger corporations recovering faster than smaller enterprises, which had initially led the post-COVID recovery.

This positive trend in airline demand is supportive of our attractive view on US aerospace, as well. Even though global air traffic has already reached pre-COVID-19 levels, it is still about 32 percent below where the trendline would have been if COVID-19 had not happened, which leaves more room for growth.

For business aviation, private jet use should remain strong and stable as a large majority of survey participants are not planning to change their business jet travel. Higher interest rates and a potentially slowing economy could lead to a potential slowdown in business jet demand, but this hasn’t happened so far as there continues to be limited excess capacity in the industry as well as continued strong demand for aircraft.

Our colleagues in Europe note that although near-term indicators are positive, 40 percent of European respondents now do not expect corporate travel volumes to return to 2019 levels. This is concerning for the longer-term prospects of European corporate demand growth, which appears to be weaker than US growth.

Whether you're flying private jets or commercial, or choosing to keep your team meetings virtual, we'll continue to monitor corporate travel trends, and let you know of any updates to those flight manifests. 

Thanks for listening. If you enjoy the show, please leave us a review wherever you listen and share Thoughts on the Market with a friend or colleague today.

U.S., French and Indian elections may have a minimal effect on equity markets, particularly in the short term, according to our Global Head of Fixed Income and our Chief Global Cross Asset Strategist.

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Michael Zezas: Welcome to Thoughts on the Market. I'm Michael Zezas, Morgan Stanley's Global Head of Fixed Income and Thematic Research.

Serena Tang: And I'm Serena Tang, chief Global Cross Asset Strategist,

Michael Zezas: And on this episode of the podcast, we'll discuss what the elections in the US and Europe mean for global markets.

It's Wednesday, July 9th at 10am in New York.

As investors digest the results of the French election and anticipate the upcoming US presidential election, there's some key debates that are surfacing. And so I wanted to sit down with Serena to dig into these issues that are top of mind for investors.

Serena, do you expect the upcoming US elections will impact markets in the run up to November?

Serena Tang: Significantly, not likely -- because if we look at history, for stocks for example, in any election year, returns don't look significantly different from any other year.

Serena Tang: My team ran some cross asset analysis on market behavior in and out of prior US elections using as much data as we have. And what has been very interesting is that whether a Democrat or Republican candidate eventually takes the White House, that doesn't change the trend of returns into an election.

The form of the future elected government, whether it is divided or unified, that has also never really bothered stock markets before the vote. And you can see very, very similar patterns in bond yields, the dollar and gold. Now, what this means is that even if an investor has perfect foresight and know the results of the elections now, it won't necessarily give them an edge over the next few months.

Serena Tang: Now, beyond the election is really when you see performance in various election outcome scenarios really diverge. So, whether the election was tight or not seemed to have led US rates to see very different levels of returns 12 months out from an election. Whether the outcome means a unified or divided government saw very large swings in gold prices.

Now there are a lot of caveats. Every election is different. The economic conditions in every election is different. And as much as we talk about other historical periods, the truth is there aren't a lot of data points to work with. Data for S&P 500 going back to 1927 reaches the most far back among the major markets, but even then it only covers 23 presidential elections.

So what I'm trying to say is there have been a lot of presidents, but there aren't a lot of precedents, at least for markets.

Michael Zezas: The US election isn't the only election making headlines this year. For example, we just had an election in France that had a surprising result. How does the outcome there affect your outlook on the market?

Serena Tang: It doesn't, in short. It doesn't change our bullish view on European equities at all. As you know, we have been constructive on that market since January and added significant exposure in our asset allocation then -- very much on the back of our European equity strategist Marina Zavolok coming out with an out of consensus bullish call for European stocks.

Serena Tang: We like the market because of its cheap optionality and convexity. It has about 20 per cent revenue exposure to US but at much cheaper valuation. And it has about 20 per cent revenue exposure to EM, meaning should we get a growth surprise to the upside; you're geared to that but at much lower volatility than owning EM equities outright.

Now, none of this has changed post French elections, and we also don't see significant increase in bearish tail risks. If you look at other markets like Euro IG corporate credit or the euro, those markets are suggesting risks in France are idiosyncratic, not systemic. So we maintain our overweight in European stocks.

Serena Tang: Everything that I just said is also true for our bullish view on Indian equities, even after elections a month ago. Ridham Desai, head of India research, argued the election outcome there is likely to usher in more structural reforms and really reinforces our forecast of 20 per cent annual earnings growth over next five years, sustaining India's longest and strongest bull market ever. Bullish secular factors for Indian equities have not changed and therefore our bullish view on Indian equities have not changed.

Michael Zezas: And elections have consequences for how countries interact with one another. And how their policies differ from one another. And one area of the markets that tend to be sensitive to this is the foreign exchange markets. So are there any impacts you're looking for around foreign currencies?

Serena Tang: Yes, in particular, the dollar. But let me start with the euro first. Because I talked earlier about our bullish view on European equities; and in fact, in our asset allocation, we actually have a higher allocation to Europe versus US for stocks, bonds, and corporate credit bonds. The one European market we're more cautious on is the euro. And this actually has nothing to do with the French election results, per se -- because what matters now really is dollar strength. Now, part of this is a rates differential issue. Our US economics team are expecting the Fed to start cutting in September, while the ECB, of course, has already started easing policy. So yield differentials really favor the dollar here.

But we also need to factor in the election, which seems to be the theme for today. Our FX [foreign exchange] strategy team thinks markets really need to start pricing in material likelihoods of dollar positive changes in US fiscal, foreign and trade policy as the election approaches. Meaning the dollar will continue its modest uptrend into the second half. And geopolitical uncertainty, of course, will also be dollar positive.

Michael Zezas: So bottom line then. Elections clearly have consequences for markets but in the run-up to an election, there might not be a reliable pattern.

Serena Tang: Exactly.

Michael Zezas: Great. Well Serena, thanks for taking the time to talk.

Serena Tang: Great speaking with you, Mike.

Michael Zezas: And as a reminder, if you enjoy the podcast, please take a moment to rate and review us wherever you listen to podcasts and share Thoughts on the Market with a friend or colleague today.

Record-high prices remain a key concern for buyers in the U.S. housing market. Our Co-Heads of Securitized Product Research dig into the data, explaining why they still believe a deceleration in home price growth will come.

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Jay Bacow: Welcome to Thoughts on the Market. I'm Jay Bacow, co-head of Securitized Products Research at Morgan Stanley.

James Egan: And I'm Jim Egan, the other co-head of Securitized Products Research at Morgan Stanley. It's Tuesday, July 9th, at 1pm in New York.

Jay Bacow: Jim, housing headlines just keep coming. Home prices are at record highs. What does that mean? How should we be thinking about that?

James Egan: So, that has been a fun headline, and according to several measures of home prices, we are at record highs. But, let's put that into context. We've actually set a new record high for home prices every month for the past ten months. In fact, prior to a 12-month hiatus from July of ’22 to June of ’23, home prices had actually hit a new record high every month for 68 consecutive months.

Jay Bacow: Alright, so if we're just talking about levels, it's important. But given that I'm a physicist by training, so are rates of change; and for that matter, changes to the rate of change, or acceleration, if you will. If there's something different about the current record of US home prices that is worth discussing, that would be interesting.

James Egan: We think there is. Actually two months ago, home prices set a new record high. But it was also the first time in ten months that the pace of year-over-year home price appreciation did not accelerate. This month the pace of appreciation actually started to decelerate.

As listeners of this podcast might remember, we've been calling for the pace of year-over-year home price appreciation to slow from above 6.5 per cent to just two percent by December. We are still above six percent today, but this could be the beginning of that deceleration.

Jay Bacow: Right. And if there's going to be deceleration, Newton would say there needs to be some force that causes it. And my understanding is you thought that that force that causes it would be sale inventories increasing. Has that been the case?

James Egan: Indeed, it has been actually. Total for sale inventory has increased for six consecutive months. And the pace of that growth is accelerating. Now, we do want to highlight that overall supply remains very tight. That part of the housing narrative hasn't changed. If we take a step back and look at the whole market, total months of supply are at just 4.5 per cent. Anything below six is really considered a seller's market there.

On the other hand, this is the highest level that the market has experienced since the first half of 2020, which is another argument in our minds for the pace of home price appreciation to decelerate. But once we remove these pandemic era lows, four and a half months is close to the lowest level of the past 30 plus years.

Jay Bacow: Alright, now sticking on the level context. Home prices weren't just the only thing that set a record level these days. Pending home sales just set a new record low in May.

James Egan: Right, that's also the case. Now, we do want to put the record into context here. The pending home sales index that we're referring to only goes back to 2001. But over that 23 plus years, the May print was the lowest number that we've seen.

Jay Bacow: Alright, so given all of that, how are you thinking about demand for housing amidst increasing supply?

James Egan: Right. So this is a pretty important question. When it comes to demand at these levels, affordability remains very challenged.

One of the primary questions for the US housing market moving forward is going to be the interplay between the absolute level of affordability and the direction and rate of change. Now, we are far from being able to declare a winner here. Sales volumes have increased off of 12 year lows from the fourth quarter of 2023; but at the same time, there are several demand indicators that are having trouble achieving liftoff, if you will.

Pending home sales, for instance. They're not falling as fast as they have been, over the past two plus years; but they're also having a hard time achieving some sort of escape velocity as they continue to fall on a year-over year-basis. Mortgage applications for purchase -- another one of our leading indicators -- they're experiencing a similar dynamic.

The first half of 2024 has been a noticeable second derivative improvement versus 2023, but that improvement has slowed and applications are still falling on a year-over-year basis. Now, part of this is going to be a function of mortgage rates going forward. Jay, what are we thinking there?

Jay Bacow: Now, the biggest driver of mortgage rates is going to be the level of treasury rates. And our rate strategists are forecasting treasury rates to fall over the end of this year and into the middle of next year. If that happens, we would expect mortgage rates to get towards 6.25 to 6.5 per cent by next summer -- clearly materially lower than they are right now. But once again, the biggest driver of this is treasury rates. Not what's going on with the mortgage market.

James Egan: And we continue to expect with that decrease affordability to improve, and that to drive year-over-year growth and sales in the second half of 2024 versus 2023. But it doesn't have to be a straight line to that outcome. And how are you thinking Jay, from a mortgage market perspective about sales volumes?

Jay Bacow: So, the mortgage market is in a pretty interesting spot because there's almost two sides of it. There's the existing mortgage market, which is mostly made up of homeowners that have very low mortgage rates, and thus the coupon to the investor is relatively low; and they're trading at a discount.

If turnover is low, then those bonds are outstanding for longer, which is bad for those investors. But, if that turnover is low, that means the supply to the market in the new higher coupon mortgages is relatively low, which is good for those investors in the new higher coupon mortgages.

In effect, if turnover is lower, it's good for higher coupon mortgages, not so good for lower coupon mortgages.

James Egan: And that's why all of this is so critical. If I were to, to summarize, we're paying attention to increasing inventory volumes in the housing market. We're paying attention to some of these demand statistics that are coming in a little softer than at least consensus estimates expected them to. We do think that home price growth is going to decelerate as a result. We also think it will remain positive. There continues to be very little overall supply in the US housing market.

Jay, it was nice speaking with you.

Jay Bacow: Jim, nice talking physics in the housing market with you.

James Egan: Thanks for listening. And if you enjoyed this podcast, please leave us a review wherever you listen, and share Thoughts on the Market with a friend or colleague today.

Inflation continues to be a key issue for voters in elections around the world. Our CIO and Chief US Equity strategist explains its potential influence on the upcoming US presidential election, and how investors may react to potential outcomes of this race.

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Welcome to Thoughts on the Market. I'm Mike Wilson, Morgan Stanley’s CIO and Chief US Equity Strategist. Along with my colleagues bringing you a variety of perspectives, today I'll be talking about the consequences of elections on policy and markets. 

It's Monday, July 8th at 2:30pm in New York.  

So let’s get after it.  

Several important elections around the world have taken place with important implications for policy and markets. Most notably, elections in India, Mexico, the UK and France have all garnered the attention of investors.

While these elections are unique to each country, there does appear to be a growing focus on the issue of economic inequalities and immigration. While these inequalities have been building for decades, the COVID pandemic and policies implemented to deal with it have ushered in a higher focus on these disparities and a general level of uncertainty about the future on the part of many citizens.

Of all the changes affecting the average person most adversely, inflation stands out as the most challenging. While the rate of change on inflation has been steadily falling since 2022, the price level of a number of goods and services remains challenging for many. Prices for basic items like food, shelter, healthcare, insurance and utilities are 30 to 50 per cent higher than they were pre-pandemic. Offsetting some of this increase has been the rise in home equity and financial asset prices, but this only helps those who are asset owners. Fixed rate mortgages have also been a notable positive offset to rising prices and interest rates. For many, there is a natural arbitrage between these pre-existing, historically low mortgage rates and money market rates. Once again, such an arbitrage is only available to those who have large piles of cash.

In our view, these dynamics further the case that inflation is going to play a major role in this year's upcoming U.S. election much like it is having an impact globally.  

The recent US Presidential debate prompted inquiries from investors on what a potential Trump win or a potential Republican sweep could mean for markets. Based on initial market reactions and our conversations with clients, there is a consistent view that both growth and longer-term interest rates could move higher under this outcome. This has led to a greater appetite to rotate one’s equity portfolio toward value and cyclical stocks, which also worked leading into the 2016 election. Market expectations for fiscal expansion, reflation and less regulation under a Trump Presidency support such moves.   

However, we think there’s also a couple of important dynamics to consider. First, we would argue that the cycle is more mature today than it was in 2016 as evidenced by the two-and-a-half-year decline in the Conference Board Leading Economic Indicator and the nearly 2-year inversion of the yield curve. Given a later cycle environment is historically a backdrop where the market pays up for quality and liquidity, we advise staying up the quality curve and away from small cap cyclicals, which worked in 2016. In short, the state of the business cycle right now is more important than the election outcome. As such, we think investors should stay selective within cyclicals.   

Second, the market welcomed a reflationary playbook in 2016. Inflation was not a headwind to consumers in the way it is now, and the US economy was recovering from a global manufacturing recession, the recovery of which was aided by the prospects of a pro-fiscal/reflationary policy regime. Today, inflation is a notable headwind to consumers as discussed previously and fiscal sustainability dynamics remain top of mind for the bond market. 

Thanks for listening. If you enjoy the podcast, please leave us a review wherever you listen, and share Thoughts on the Market with a friend or colleague today.

Original release date April 15, 2024: Markets are suggesting that spirits consumption will return to historical growth levels post-pandemic, but our Head of European Consumer Staples Research disagrees.

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Welcome to Thoughts on the Market. I’m Sarah Simon, Head of the European Consumer Staples team. Along with my colleagues bringing you a variety of perspectives, today I'll talk about a surprising trend in the global spirits market.

It's Monday, April 15, at 2pm in London. 

We all remember vividly the COVID-19 period when we spent much more on goods than services, particularly on goods that could be delivered to our homes. Not surprisingly, spirits consumption experienced a super-cycle during the pandemic. But as the world returned to normal, the demand for spirits has dropped off. The market believes that after a period of normalization, the US spirits market will return to mid-single-digit growth in line with history; but we think that’s too optimistic.

Changes in demographics and consumer behavior make it much more likely that the US market will grow only modestly from here. There are several key challenges to the volume of US alcohol consumption in the coming years. Sobriety and moderation of alcohol intake are two rising trends. In addition, there’s the increased use of GLP-1 anti-obesity drugs, which appear to quell users' appetite for alcoholic beverages. And finally, there’s stiffer regulation, including the lowering of alcohol limits for driving.

A slew of recent survey data points to consumer intention to reduce alcohol intake. A February 2023 IWSR survey reported that 50 per cent of US drinkers are moderating their consumption. Meanwhile, a January 2024 NCSolutions survey reported that 41 per cent of respondents are trying to drink less, an increase of 7 percentage points from the prior year. And importantly, this intention was most concentrated among younger drinkers, with 61 per cent of Gen Z planning to drink less in 2024, up from 40 per cent in the prior year's survey. Meanwhile, 49 per cent of Millennials had a similar intention, up 26 per cent year on year.

Why is all this happening? And why now? Perhaps the increasingly vocal commentary by public bodies linking alcohol to cancer is really hitting home. Last November, the World Health Organization stated that "the higher the amount of alcohol consumed, the higher the risk of developing cancer" but also that "half of all alcohol-attributable cancers in the WHO European Region are caused by ‘light’ and ‘moderate’ alcohol consumption. A recent Gallup survey of Americans indicated that young adults are particularly concerned that moderate drinking is unhealthy, with 52 per cent holding this view, up from 34 per cent five years ago. 

Another explanation for the increased prevalence of non-drinking among the youngest group of drinkers may be demographic makeup: the proportion of non-White 18- to 34-year-olds has nearly doubled over the past two decades.

And equally, the cost of alcohol, which saw steep price increases in the last couple of years, seems to be a reason for increased moderation. Spending on alcohol stepped up materially over the COVID-19 period when there were more limited opportunities for spending. With life returning to normal post pandemic, consumers have other – more attractive or more pressing – opportunities for expenditure.

Thanks for listening. If you enjoy Thoughts on the Market, please take a moment to rate and review us wherever you listen to podcasts. It helps more people to find the show.

Central banks play a crucial role in monetary policy and moderating the business cycle. Our Head of Corporate Credit Research explains why, despite their power, these financial institutions can’t quickly steer through choppy economic waters.

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Welcome to Thoughts on the Market. I'm Andrew Sheets, head of Corporate Credit Research at Morgan Stanley. Along with my colleagues bringing you a variety of perspectives, today I'll be talking about why credit may start to get more concerned that the Fed will make the same mistake it often does.

It's Wednesday, July 3rd at 2pm in London.

Central banks are among the most powerful actors in financial markets, and investors everywhere hang on their every word, and potential next move. If possible, that seemed even more true recently, as central banks first intervened aggressively in bond markets during the height of COVID, and then raised interest rates at the fastest pace in over 40 years. 

Indeed, you could even take this a step further: many investors you speak to will argue central banks are the most important force in markets. All else comes second. 

But this view of Fed supremacy over the market and economy has an important caveat. For all of their power, the Federal Reserve did not prevent the recession of 1990. It did not prevent the dotcom bust or recession of 2001. It did not prevent the Great Financial Crisis or Great Recession of 2007-2009. These periods have represented the vast majority of credit losses over the last 35 years. And so, for all of the power of central banks, these recessions, and their associated default cycles in credit, have kept happening. 

The reasons for this are varied and debatable. But the central issue is that the economy is a bit like a supertanker; it’s hard to turn quickly. You need to make adjustments well in advance, and often well before the signs of danger are clear.

Currently, the Fed is still pressing the economic brakes. Interest rates from the Federal Reserve are well above so-called neutral; that is, where the Fed thinks interest rates neither boost, nor hold back, the economy. The justification for riding the break, so to speak, is that inflation earlier this year has still been higher than expected. 

But in the last two months, this inflation has rapidly cooled. Our economists think this trend will accelerate in the second half of the year, and ultimately allow the Fed to cut interest rates in September, November, and December. 

Still-high rates and cooling inflation isn’t a problem when the economic data is strong. But more recently, this data has cooled. If that weaker data continues, credit investors may worry that central banks are too focused on the high inflation that’s now behind us, and not focused enough on the potential slowing ahead. They’ll worry that once again, it may be too late to turn the proverbial economic ship. 

We’d stress that the risks of this scenario are still low; but late-reacting central banks have – historically, repeatedly – been credit’s biggest vulnerability. It makes it all the more important, that as we head into summer, that the data holds up. 

Thanks for listening. If you enjoy the show, please leave us a review wherever you listen and share Thoughts on the Market with a friend or colleague today. And for those in the US, a very happy Fourth of July.

Our Global Head of Fixed Income recaps the aftermath of the first U.S. presidential debate, and how markets may react if forthcoming poll data shows a meaningful shift in the race.

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Welcome to Thoughts on the Market. I'm Michael Zezas, Morgan Stanley's Global Head of Fixed Income and Thematic Research. Along with my colleagues bringing you a variety of perspectives, today I'll be talking about the US elections and its impact on markets.

It's Tuesday, July 2nd at 10:30am in New York. 

For months, investors have been asking us when markets will start paying attention to the US presidential election. Well, we think that time arrived with last week’s Presidential debate. 

The media coverage that followed revealed that many Democratic party officials became concerned about President Biden’s ability to win the November election. This understandably led many to ask if the race for the White House had meaningfully changed; If it was no longer a close one – and if so, what would that mean for markets that might have to start pricing in the impacts of a Trump Presidency. 

On the first question: While we think it's too early to conclude that the race is no longer a close one, we expect some data in the next week or two that could clarify this. The few polls that have been released following the debate show that voters are increasingly concerned about Biden’s ability to win; but they also show a level of support for Biden similar to what he enjoyed before the debates. 

What we haven’t seen yet is a set of high-quality polls gauging swing state voter preferences. And even modest deterioration in Biden’s support there could meaningfully boost Trump’s prospects. That’s because, going into the debate, polls showed former President Trump with a small but consistent lead in national and key swing state polls. 

Nothing outside the polling margin of error. But it still suggested that for President Biden to improve his odds of winning, he’d be served well by having a strong debate performance that moved the polls more in his favor.  

It doesn’t appear that this has happened, and if polls show movement in the other direction for Biden, it would be fair to think of Trump as something of a favorite. But only for the time being. There’d still be time and catalysts for the race to change – including another scheduled debate in September. 

If we do end up with a race where Former President Trump is a more clear favorite, even if just for a short time, there could be reflections in the market. As we’ve previously discussed, a Trump win increases the chances of more of the expiring tax cuts being extended. The benefits of those cuts most clearly accrue to key sectors like energy and telecom, so there’s potential outperformance there.  

In fixed-income – a steeper US Treasury yield curve is an outcome our macro strategy team is particularly attuned to. That’s because a Trump presidency brings greater uncertainty about future fiscal policy, which could be reflected in relatively higher yields for longer maturity bonds. But it also increases the chances of policy choices that create near term pressure on economic growth that could push shorter maturity yields lower. This includes higher tariffs and tighter immigration policies. 

So bottom line, the markets are paying attention. And the race is sure to have many more twists and turns. We’ll keep you updated on how we’re navigating it. 

Thanks for listening. If you enjoy the podcast, please leave us a review wherever you listen and share Thoughts on the Market with a friend or colleague today.

Rising rents and mortgage payments have been at the center of the inflation discussion. Our Global Chief Economist assesses whether monetary policy can effectively blunt those figures. 

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Seth Carpenter: Welcome to Thoughts on the Market. I'm Seth Carpenter, Morgan Stanley's Global Chief Economist. Along with my colleagues bringing you a variety of perspectives, today I'll be talking about the housing market, inflation, growth and monetary policy. 

It's Monday, July 1st, at 11am in New York. 

Housing is at the center of many macro debates from growth to inflation. And when you put those two together – monetary policy. House prices have continued to rise despite high interest rates, which gives the impression to some of stalled deflation and forces consumers at times to make some really difficult choices. And in some economies, there's a seeming lack of responsiveness of housing to higher interest rates. All of which tends to prompt questions about the efficacy of monetary policy. 

So where are we? We think monetary policy is still working through housing as it usually does, but supply shortages, or in some places just idiosyncratic factors like buildable lands or permitting, that's supported home prices. And as has been the case across several sectors in this business cycle, there really are some factors about housing that's just different in this cycle than in previous ones. For the U.S., a key part of the housing story has been the mortgage lock in for homeowners. Our strategists have noted that the gap between the current new mortgage rate and the average effective mortgage rate is at historical highs. And the share of 30 year fixed rate mortgages is at its highest in a decade. 

Consequently, the inventory of existing houses has remained low because homeowners who have those really low mortgages are reluctant to move unless they have to. The market has become thinner with less available supply; and then if we think more broadly for the economy, there's a risk of labor market frictions if that mortgage lock in also reduces labor mobility. 

Now, there will be a decline in mortgage rates if we get the modest easing cycle from the Fed that we expect. But that decline will be similarly modest so that gap in rates will not be fully closed even if it narrows. And so there might be some uplift to supply of housing, but it might not be huge. That decline in mortgage rates can also supply demand, so then we have to think about the net of this shift in demand and the shift in supply. And ultimately what we think is going to happen is that there'll be a moderation in home price appreciation, but not an outright decline in home prices.

First, the choice of housing for a lot of households is do you buy or do you rent? If you've got high home prices and high mortgages, buying is much less affordable and so it pushes people into renting, which could push up rents. That phenomenon is partly responsible for the surge in rents that we've seen over the past few years. 

In the longer run, there should be a sort of arbitrage condition between home prices and rents. And while rising home prices can impinge the spending power for first time homebuyers, rising house prices can actually boost sentiment and consumption for existing homeowners. 

And that mortgage lock in that I talked about before? Well, that can actually support aggregate consumption to some degree because now there's predictability of cash flows and the monthly payment is pretty low. 

So what do we do when we take all of this together? The housing market might be telling us that monetary policy is working a bit less effectively than historically, but not that monetary policy is not working. 

Home price appreciation is moderating. Housing starts have slowed, as usual, following those big rate increases. But that slowing? It's actually been a bit inconsistent because mortgage lock has meant that new supply is the only supply. Existing home sales, by contrast, are just plain weak. They're about as weak as they were around the financial crisis. 

We do not think the housing market overall is at risk of collapse, but monetary policy is restraining activity in a very familiar way. 

Thanks for listening, and if you enjoy this podcast, please leave us a review wherever you listen and share Thoughts on the Market with a friend or colleague today.

Our Head of Corporate Credit Research makes the case against the popular notion that solid economic data would be bad for markets, and instead offers a rationale for why now, more than ever, is the time for investors to root for positive economic developments. 

 ----- Transcript -----

Welcome to Thoughts on the Market. I'm Andrew Sheets, Head of Corporate Credit Research at Morgan Stanley. Along with my colleagues bringing you a variety of perspectives, today I'll be talking about why good data … is good.

It's Friday, June 28th at 2pm in London. 

One of the bigger investor debates of 2024 is whether stronger or weaker economic data is the preferred outcome for the market. This isn’t a trick question.  

Post-COVID, a large spike of inflation led to the fastest pace of interest rate hikes by central banks in over forty years. And so there’s been an idea that weaker economic data, which would reduce that inflationary pressure and make central banks more likely to cut interest rates, is actually the better outcome for the market. Those lower interest rates after all might be helpful for moving the market higher or tighter. And stronger economic data, in contrast, could lead to more inflationary pressure, and even more rate increases. And so by this logic, bad data is good … and good data, well, would be bad. 

This “bad is good” mindset was prominent in the Autumn of 2022 and again in September of 2023, as markets weakened on stronger data and fears that it could drive further rate hikes. We saw the idea return this year, amidst higher-than-expected inflation readings in the first quarter. 

But we currently think this logic is misplaced. For markets, and certainly for credit, we think those who are constructive, like ourselves, are very much rooting for solid economic data. For now, good is good. 

Our first argument here is general. Over a long swath of available data, the worst returns for credit have consistently overlapped with the worst economic growth. Hoping for weaker data is, historically speaking, playing with fire, raising the odds that such weakness isn’t just a blip, and opens the door for much worse outcomes for both the economy and credit. 

But our second reason is more specific to right now. Central to this idea that bad data would be better for the market is the assumption that central banks would look at any poor data, change their tune and come to the market’s aid by lowering interest rates quickly. I think recent events really challenge that sort of thinking. 

While the European central bank did lower interest rates earlier this month, it struck a pretty cautious tone about any further easing. And the Federal Reserve actually raised its expected level of inflation and projected rate path on the same day that consumer price inflation in the US came in much lower than expected. Both increased the risk that these central banks are being more backward looking, and will be slow to react to weaker economic data if it materialises. 

And so, we think, credit investors should be hoping for good data, which would avoid a scenario where backward-looking central banks are too slow to change their tune. I’d note that this is what Morgan Stanley’s economists are forecasting, with expectations that growth is a little over 2 percent this year in the US and a little over 1 percent in the Euro Area for this year. We expect the economic data to hold up, and for that to be the better scenario for credit. If the data turns down, we may need to change our tune. 

Thanks for listening. If you enjoy the show, please leave us a review wherever you listen and share Thoughts on the Market with a friend or colleague today.

If you're a listener to Thoughts on the Market you may be interested in Season 2 of our podcast: What Should I Do With My Money? 

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Money is emotional and that can make it difficult to know if we’re making the right decisions. This season, the stakes are high. From prenups to passing a legacy to their children, from affording a dream home to literally wanting to save the planet, our guests get to the heart of what matters to them most and you get answers to some of the questions you might have yourself. 

No matter where you are with your finances, you don’t have to navigate them alone. Our Financial Advisors show once again that a little guidance can go a long way. Join us to hear how a conversation can turn concern into confidence, hosted by Morgan Stanley Wealth Management’s Jamie Roô.

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FCS Portfolio Awards 2024 – Bronze

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Source: Shorty Impact Awards (May 2024) 2024 Annual Shorty Impact Awards. The Shorty Awards winners and honorees, including Finalists, Gold, Silver, and Bronze Honorees; are chosen by the Real Time Academy. The decision is made based on three main criteria: purpose/impact, creativity, strategy & execution, and engagement. Morgan Stanley Smith Barney LLC is not affiliated with the Shorty Impact Awards. For more information, see https://shortyawards.com/impact-awards/rules/. ©2024 Morgan Stanley Smith Barney LLC. Member SIPC.

Webby Award Nominee 2024

Source: 2024 Webby Awards (May 2024) The Webby Awards is the Internet’s most respected symbol of success. The 28th Annual Webby Awards received nearly 13,000 entries from all 50 states and over 70 countries worldwide. Podcasts: News & Politics, Best Host, Best Series, Best Live Podcast Recording & more. Associate Academy members are former Webby winners and nominees and other invited industry professionals who are leaders in their peer groups because of their creative and technical accomplishments. Associate members are invited to take part in Round 1 Judging, the initial phase of the Webby evaluation process. Morgan Stanley Smith Barney LLC is not affiliated with The Webby Awards. For more information, see https://www.webbyawards.com/. ©2024 Morgan Stanley Smith Barney LLC. Member SIPC.

© 2024 Morgan Stanley Smith Barney LLC. Member SIPC.

CRC# (3566982 05/2024)

As the infrastructure needs for artificial intelligence soar, so does the need for financing. Our Chief Fixed Income Strategist talks about the role credit markets can play in providing capital to power the sector.

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Welcome to Thoughts on the Market. I am Vishy Tirupattur, Morgan Stanley’s Chief Fixed Income Strategist. Along with my colleagues bringing you a variety of perspectives, today I'll be talking about the role of credit markets in the artificial intelligence (AI) revolution.  

It's Thursday, June 27th at 1 pm in New York. 

Technology diffusion driven by artificial intelligence has been a defining theme for investors over the last few years. Recent developments in generative AI, or GenAI powered by large language models, have the potential to bring transformational changes across the economy. Today, I want to talk about the role of credit markets in this AI revolution. 

The infrastructure requirements of AI – semi fabs, data centers and the energy resources to power the Gen AI models – are enormous. Our analysts estimate that GenAI power demand will rise rapidly, reaching 224 Trillion Watt hours by 2027 in their base case which is roughly close to Spain's total 2022 power consumption. 

So, it goes without saying that AI infrastructure will need substantial capex. Early on, much of the AI capex has been funded by a combination of venture capital and retained earnings from cash-rich technology companies; in other words funded by equity capital. As the focus shifts from early innovators and enablers of AI to adopters of AI, these needs are bound to grow and will require more efficient forms of capital. We think that credit markets in various forms – unsecured, secured, securitized and asset-backed – will have a major role to play in this transformation. 

So far, debt financing has played a relatively small part in funding technology companies, especially AI beneficiaries. The sector has significant capacity to add debt without a material deterioration in their credit metrics. This capacity is also complemented by an investor base with a significant dry powder to absorb incremental issuance, thereby avoiding a demand-supply mismatch. 

Of course, the story is not that simple. Cash-rich companies may not have a compelling need to access credit markets if the equity market continues to reward redirection of these free cash flows. But then the path of the interest rate markets will also matter, as monetary policy eases, the cost of debt becomes incrementally even more attractive. It’s clearly early innings, but credit markets holistically should play a bigger role as the cycle matures. 

In addition, as the capex cycle broadens out from enablers to adopters, we note that most sectors are nearly not as cash-rich as the technology sectors. For example, the median cash to debt ratio for the technology sector is over 50 percent, but then for the remaining sectors, it is just 15 percent. So as capital needs driven by these infrastructure needs increase, we expect the reliance on credit markets also to increase. 

In some ways, this has already begun to happen. The first data center asset backed security was issued in 2018. The market has now grown to over 20 billion outstanding and it is poised for a rapid growth. The bottom line is simply this: As AI driven technology diffusion takes center stage, credit markets, broadly defined, will likely play a growing role. As always, there will be winners and there will be losers. But AI as a theme for credit investors is here to stay. 

Thanks for listening. If you enjoy the podcast, please leave us a review wherever you listen and share Thoughts on the Market with a friend or colleague today.

Our Global Chief Economist explains why markets are concerned about uncertainty around the French and US elections, and how their outcomes may affect each economy’s debt load.

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Seth Carpenter: Welcome to Thoughts on the Market. I'm Seth Carpenter, Morgan Stanley's Global Chief Economist. Along with my colleagues bringing you a variety of perspectives, today I'll be talking about elections, and what they might mean for fiscal sustainability.

It's Wednesday, June 26th at 10am in New York.

Elections have unexpectedly become a key risk in an otherwise positive growth narrative for France this year. And there are a wide range of possible outcomes for the next government.

Fiscal sustainability is one key market narrative we have been flagging. And in France, the fiscal position is expected to deteriorate. Our strategists note that the 10-year OAT boon spreads have widened more than 20 basis points. And in their view, further discounts on OATs are likely due to the deficit trajectories in the different political scenarios and heightened political and economic uncertainty.

In recent work we've done on developed market government sustainability, we flagged that across DMs, even if fiscal deficits remain steady, interest expense on the debt will continue to rise, pushing up the debt to GDP ratios. Larger deficits would necessarily exacerbate the situation. Austerity is necessary to stabilize or lower the debt to GDP ratios.

For France in particular, the maturity profile and forward rates had meant there could be relatively more time for the repricing to happen; but the market reaction to the election has meant higher yields, effectively pulling forward that repricing. Relative to our analysis in the first quarter of 2024, the debt surfacing costs are already higher.

The election results have now led to expectations of higher deficits, implying faster rising debt to GDP ratios as well. This combination of higher rates and higher deficits is self-reinforcing. The market will pay close attention to specific policy proposals -- and the coalitions that result from the election.

For the US elections, debt sustainability has so far been lower on the list of topics that clients bring up. The elections are expected to be close. In a recent joint note with our US public policy colleagues, we noted four basic scenarios: a Republican sweep; a Democratic sweep; or divided governments with either a Republican or a Democratic president.

Our public policy colleagues see very different outcomes across a 10-year time horizon for the deficit, ranging from an increase of [$]1.6 trillion under the Republican sweep scenario to an increase of about $600 billion in the Democratic sweep scenario, and the split government scenario is somewhere in between.

Of course, fiscal policy is not the only consideration for debt sustainability. Tariffs could generate some higher revenues, but the adverse hit to GDP means that the denominator of the debt to GDP ratio will fall and push the ratio higher.

Our policy colleagues have also flagged a big range of possible immigration policy outcomes. The current positive supply shock to the labor force has allowed for faster GDP growth and consequently, higher revenues. Under the strictest immigration policies, the so-called break-even monthly payrolls flow could fall from a baseline now of just over 200,000 per month to as low as 45,000 per month.

Such an outcome would imply lower revenues and lower GDP, meaning both the numerator and the denominator of the debt to GDP ratio would be pushing upward.

Thanks for listening. And if you enjoy this podcast, please leave us a review wherever you listen and share Thoughts on the Market with a friend or colleague today.

Our CIO and Chief US Equity Strategist explains how to make sense of the equity market’s narrow performance, and why stock picking takes on greater importance for investors.

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Welcome to Thoughts on the Market. I'm Mike Wilson, Morgan Stanley’s CIO and Chief US Equity Strategist. Along with my colleagues bringing you a variety of perspectives, today I'll be talking about the narrowness in breadth and why that supports our preference for high quality and defensive stocks.

It's Tuesday, June 25th at 11:30am in New York.

So let’s get after it. 

I am fond of the saying that the economy is not the stock market, and the stock market is not the economy. Often, a strong economy is not good for stocks, while a soft one can lead to higher equity prices. This latter case is the classic late cycle period in which we find ourselves. More specifically, when the economy is slowing from previous tightening by the Federal Reserve, the equity market starts to get excited about the Fed reversing course, and it looks forward to loosening policy and valuations rise in anticipation. With price/earnings multiples and other valuation metrics now in the top decile, the question is when will valuations matter and begin to fall faster than earnings growth and lead to a meaningful correction?

At the stock level, this is already happening as illustrated by the weakest breadth since 1965. In other words, most stocks are seeing valuations fall more than earnings are rising. This is exactly why stock picking has become so important for equity investors to outperform the S&P 500. While this creates a great long and short opportunity, the list of longs has become harder to find and why the momentum in a few stocks continues unabated. This also syncs with our view for the past year that large cap quality is likely to continue to outperform until something material changes in the macro environment. I see three potential candidates to change this seemingly very stable and benign outcome for equity markets.

First, inflation and growth reaccelerate in a way that forces the Fed to reconsider rate hikes. Right now, that does not appear likely and why there is virtually no risk of such an outcome priced into either bond or stock markets. Such an outcome would likely lead to a broadening out of the equity rally to areas that have lagged persistently over the past 2 years—areas like small caps, lower quality consumer cyclicals, regional banks and transports. The S&P 500 would likely trade poorly under this scenario as higher rates would potentially weigh on valuations for the big winners. 

Second, the liquidity picture deteriorates and money flows out of equities. A key risk in this regard relates to the funding of the extraordinary government deficit. A good way to monitor this risk is the term premium in the bond market which remains near zero. Should this change and the term premium rise like last fall, the decline in equities would likely be broad with few stocks doing well. This does not appear to be a concern at the moment given the liquidity provisions still in place.

The third possible risk is a growth scare that is substantial enough to turn bad economic data into bad news for equity multiples across the board. This is the most likely risk to upset the apple cart in our view. Under this outcome, large cap quality should continue to do ok on a relative basis, but defensives are likely to do better. 

The economic growth surprises have been trending lower all year. So far, the S&P 500 has taken these weaker data in stride assuming bad economic data is still good for large cap quality stocks as the market looks forward to rate cuts from the Fed. Meanwhile, weaker indices and stocks have broken down with many now down on the year. 

The bottom line is that the ongoing policy mix of heavy fiscal spending and tight interest rate policy is crowding out many companies and consumers in a waythat is unsustainable in our view. Investors have correctly recognized this outcome by bidding up the few stocks of the companies that are doing well in this environment. Until the bond market pushes back via higher term premium or growth slows down in a more meaningful way, we expect this narrow market performance to persist. As such, we continue to recommend a barbell of large cap quality growth with defensives while fading cyclicals and avoiding the temptation to play for a true broadening out until the macro regime makes a meaningful shift.

Thanks for listening. If you enjoy Thoughts on the Market, please leave us a review wherever you listen and share the podcast with a friend or colleague today.

Halfway through a historic year for elections around the world, Morgan Stanley’s chief economists assess the impact of recent results on the global economy, and weigh potential effects from key elections to come.

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Seth Carpenter: Welcome to Thoughts on the Market, and welcome back to the second part of a special two-part episode of the podcast. We've been covering Morgan Stanley's global economic outlook as we look into the third quarter of 2024. In the first part, we covered the twin themes of inflation in central banks. In this part, we're going to look at elections, with my colleagues Ellen Zentner, our Chief US Economist, Jens Eisenschmidt, our Chief Europe Economist, and Chetan Ahya, who is our Chief Asia Economist.

It's Monday, June 24th at 10 am in New York.

It is astounding if we look around the world just how many elections there have already been this year and how many more there are going to be. We will get to the US, but before we do, Chetan, in Asia, India is one of the most important economies; and in India they recently had elections. Can you just let our listeners know basically what happened and what do you think are the implications for that election for the Indian economy?

Chetan Ahya: Yeah Seth. So Definitely there was a big change in India in terms of the political outcome. So the ruling party did not get the full majority and they have had to form a government under a coalition structure. There is a question though, as a result of that, whether the policy shift will happen in India and the government will go back to redistribution instead of focusing on boosting investment and jobs. 

Well, we think that, you know, there is no change. There is policy continuity. We think that this government is very much aligned in thinking that they want to keep inflation in check and current account deficit in check, i.e. macro stability should be in control. And they still believe that job creation is the way to ensure that the general masses and the bottom 20 per cent see the benefit and then vote for them back again.

So, for us, we are not changing our view that this is India's decade. We are still maintaining our growth forecast that India will be achieving 6.5 per cent until 2030, and at the same time as India continues to build this growth rates on a high base, India will be at $8 trillion by 2032. Back to you, Seth.

Seth Carpenter: Thanks, Chetan. super interesting. And EM elections have had a lot of surprises. We had South Africa. We had a surprise -- in terms of the margin in the opposite direction of what you said for India -- when it comes to the case of Mexico, where Scheinbaum won, but the majority was even bigger than I think most people were expected.

But there are other elections that had some big surprises. Jens, let me come to you. In Europe, we had the European elections, and there were some big surprises there, to say the very least. First, can you just walk us through, what do the European level elections mean, in terms of our outlook? And then, part of the fallout from those surprises was that President Macron in France called for snap elections. What do you think we need to take away from that fact?

Jens Eisenschmidt: We have had a look at the manifestos, what is known so far from those that are competing for government in France, say, and I think one of our key takeaways is that might be more fiscal spending. And of course, short run this might get you more growth. But of course, the question is always, what's the price for us to pay? There might be higher interest rates and that in the longer term may be detrimental. So, I think overall we have to wait until we see really and observe the full election outcome.

Now, more generally, we had the European elections and we get a lot of questions by clients -- what the implications are here. Now, if you, sort of just look again from very high up, far away, then we see that the coalition that has last time, voted and elected, Ursula von der Leyen, the currently sitting, President of the European Commission. That coalition still stands or commands a majority in the European Parliament post the elections. Just that that majority, of course, is a little bit smaller than before.

It's very likely that von der Leyen will have to reach out to either the Greens that were not in the past part of her coalition, voting for her; or the bloc around the Italian Prime Minister Meloni. The implication of it is that we have to see which side the reach out is for – for the consequences for the commission priorities. But I would say from today's perspective, and again giving that there is some logic of averaging here, it's very unlikely to be dramatic changes that we are going to see at the European level.

Seth Carpenter: Staying on, on your side of the Atlantic, of course the UK is going to have elections as well. And notably on July 4th, the anniversary of the US independence from Great Britain. I love that timing. What's the story with the UK elections and are they going to change at all, your team's outlook for what goes on in the UK?

Jens Eisenschmidt: So on current polls, they were remarkably stable. There seems to be a change in government in the making, say. The Tories, the Conservative Party in the UK, it's very likely to have to give away power to a new labor government. That's essentially what polls currently suggest.

Now, we've had a look at both manifestos, and there are differences here and there. Typically, you would think, there's a bit more fiscal spending coming out of one government and the other. But, you know, if you really sort of compare notes and if you also see the constraints that both contenders -- conservative or labor -- would have to work with, it's hard to see a material difference, at least for the growth outlook, from their policies.

Again, it's early days. We will have to see what exactly then will be implemented after July 4th. But from today's perspective, it's hardly a game changer.

Seth Carpenter: Okay, great, thanks. I want to bring it back to this side of the Atlantic, back to the United States. Ellen, Morgan Stanley Research put out a big piece last week about the US election scenarios. Can you just run us through the key points there, because I will say, everyone around the world looks at the US election and has to take some notice.

Ellen Zentner: Ah yes. I love elections. I thought you'd never ask. So, in the US it's not just about Biden versus Trump. The outcome for the Congress matters critically for fiscal outcomes as well. So, broadly for deficits, we see a rank ordering of a Republican sweep leading to the biggest deficit expansion. Then a smaller deficit with a split government because there will not be unity to get things done. And then the smallest deficit comes with a Dem sweep because we do think that tax increases could be meaningful.

Seth Carpenter: Okay, whoa. Let me stop you there because it sounds like if we've got this rank ordering of how much the deficit expands, can we just take that and then translate it into a forecast for economic growth? So bigger deficit, more fiscal boost; smaller deficit, less fiscal boost; smallest deficit, sort of weakest growth. Is that the way we should think about this fiscal plan translates into projections of growth?

Ellen Zentner: Okay, I wish it were that easy and I know you're asking that because it would definitely poke me a bit. So, there are other policies that are going to matter. So tariffs, for example, and they're likely to differ substantially. So, you know, former President Trump has talked about 60 per cent tariffs on Chinese imports and 10 per cent tariffs broadly on global imports. And there are specifics that are hard to forecast now. Some of the broader plans might require congressional action; but what we learned from 2018 is that there is some inflationary impulse. But you can have a meaningful adverse hit to the economy from tariffs, and then that tends to have a pull on inflation thereafter. So, you can't just take the fiscal deficit, as a direction for growth.

And as I noted earlier, immigration has been a key part of the macro story in the US for the past year. I promised I would come back to that. You know, you've got, wildly different scenarios for immigration, depending on the congressional makeup and depending on who's president, as well. So, if I just take you to the most extreme example. So if you could see, immigration scenario under former president Trump, where he's talked about shutting down the border, and also deporting unauthorized immigrants that are already here. You know, you could damage the potential growth rate of the economy that would be slower.

To put it into numbers, the extreme version we published would result in a break even for non-farm payrolls going to 45, 000 from our current estimate of around 250, 000. So that would be a big shift. And I think immigration, rather than just the size of the deficit, is probably going to be one of the bigger things to watch out of the election.

Seth Carpenter: So as the saying goes, elections have consequences, not just in the United States, but around the world.

All right. Ellen, Chetan, Jens, thank you so much for joining today. And to our listeners, thank you for listening.

If you enjoy the show, please leave a review wherever you listen to podcasts and share Thoughts on the Market with a friend or colleague today.

Morgan Stanley’s chief economists examine the varied responses of global central banks to noisy inflation data in their quarterly roundtable discussion.

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Seth Carpenter: Welcome to Thoughts on the Market. I'm Seth Carpenter, Morgan Stanley's global chief economist. We have a special two-part episode of the podcast where we'll cover Morgan Stanley's global economic outlook as we look into the third quarter of 2024.

It's Friday, June 21st at 10am in New York.

Jens Eisenschmidt: And 4pm in Frankfurt.

Chetan Ahya: And 10pm in Hong Kong.

Seth Carpenter: Alright, so a lot's happened since our last economics roundtable on this podcast back in March and since we published our mid-year outlook in May. My travels have taken me to many corners of the globe, including Tokyo, Sao Paulo, Sydney, Washington D. C., Chicago.

Two themes have dominated every one of my meetings. Inflation in central banks on the one hand, and then on the other hand, elections.

In the first part of this special episode, I wanted to discuss these key topics with the leaders of Morgan Stanley Economics in key regions. Ellen Zentner is our Chief US Economist, Jens Eisenschmidt is our Chief Europe Economist, and Chetan Ahya is our Chief Asia Economist.

Ellen, I'm going to start with you. You've also been traveling. You were in London recently, for example. In your conversations with folks, what are you explaining to people? Where do things stand now for the Fed and inflation in the US?

Ellen Zentner: Thanks, Seth. So, we told people that the inflation boost that we saw in the first quarter was really noise, not signal, and it would be temporary; and certainly, the past three months of data have supported that view. But the Fed got spooked by that re-acceleration in inflation, and it was quite volatile. And so, they did shift their dot plot from a median of three cuts to a median of just one cut this year. Now, we're not moved by the dot plot. And Chair Powell told everyone to take the projections with a grain of salt. And we still see three cuts starting in September.

Jens Eisenschmidt: If you don't mind me jumping in here, on this side of the Atlantic, inflation has also been noisy and the key driver behind repricing in rate expectations. The ECB delivered its cut in June as expected, but it didn't commit to much more than that. And we had, in fact, anticipated that cautious outcome simply because we have seen surprises to the upside in the April, and in particular in the May numbers. And here, again, the upside surprise was all in services inflation.

If you look at inflation and compare between the US experience and euro area experience, what stands out at that on both sides of the Atlantic, services inflation appears to be the sticky part. So, the upside surprises in May in particular probably have left the feeling in the governing council that the process -- by which they got more and more confidence in their ability to forecast inflation developments and hence put more weight on their forecast and on their medium-term projections – that confidence and that ability has suffered a slight setback. Which means there is more focus now for the next month on current inflation and how it basically compares to their forecast.

So, by implication, we think upside surprises or continued upside surprises relative to the ECB's path, which coincides in the short term with our path, will be a problem; will mean that the September rate cut is put into question.

For now, our baseline is a cut in September and another one in December. So, two more this year. And another four next year.

Seth Carpenter: Okay, I get it. So, from my perspective, then, listening to you, Jens, listening to Ellen, we're in similar areas; the timing of it a little bit different with the upside surprise to inflation, but downward trend in inflation in both places. ECB already cutting once. Fed set to start cutting in September, so it feels similar.

Chetan, the Bank of Japan is going in exactly the opposite direction. So, our view on the reflation in Japan, from my conversations with clients, is now becoming more or less consensus. Can you just walk us through where things stand? What do you expect coming out of Japan for the rest of this year?

Chetan Ahya: Thanks, Seth. So, Japan's reflation story is very much on track. We think a generational shift from low-flation to new equilibrium of sustainable moderate inflation is taking hold. And we see two key factors sustaining this story going forward. First is, we expect Japan's policymakers to continue to keep macro policies accommodative. And second, we think a virtuous cycle of higher prices and wages is underway.

The strong spring wage negotiation results this year will mean wage growth will rise to 3 percent by third quarter and crucially the pass through of wages to prices is now much stronger than in the past -- and will keep inflation sustainably higher at 1.5 to 2 per cent. This is why we expect BOJ to hike by 15 basis points in July and then again in January of next year by 25 basis points, bringing policy rates to 0.5 per cent.

We don't expect further rate hikes beyond that, as we don't see inflation overshooting the 2 percent target sustainably. We think Governor Ueda would want to keep monetary policy accommodative in order for reflation to become embedded. The main risk to our outlook is if inflation surprises to the downside. This could materialize if the wage to price pass through turns out to be weaker than our estimates.

Seth Carpenter: All of that was a great place to start. Inflation, central banking, like I said before, literally every single meeting I've had with clients has had a start there. Equity clients want to know if interest rates are coming down. Rates clients want to know where interest rates are going and what's going on with inflation.

But we can't forget about the overall economy: economic activity, economic growth. I will say, as a house, collectively for the whole globe, we've got a pretty benign outlook on growth, with global growth running about the same pace this year as last year. But that top level view masks some heterogeneity across the globe.

And Chetan I'm going to come right back to you, staying with topics in Asia. Because as far as I can remember, every conversation about global economic activity has to have China as part of it. China's been a key part of the global story. What's our current thinking there in China? What's going on this year and into next year?

Chetan Ahya: So, Seth, in China, cyclically improving exports trend has helped to stabilize growth, but the structural challenges are still persisting. The biggest structural challenge that China faces is deflation. The key source of deflationary pressure is the housing sector. While there is policy action being taken to address this issue, we are of the view that housing will still be a drag on aggregate demand. To contextualize, the inventory of new homes is around 20 million units, as compared to the sales of about 7 to 8 million units annually. Moreover, there is another 23 million units of existing home inventory.

So, we think it would take multiple years for this huge inventory overhang to

be digested to a more reasonable level. And as downturn in the property sector is resulting in downward pressures on aggregate demand, policy makers are supporting growth by boosting supply.

Consider the shifts in flow of credit. Over the past few years, new loans to property sector have declined by about $700 billion, but this has been more than offset by a rise of about $500 billion in new loans for industrial sector, i.e. manufacturing investment, and $200 billion loans for infrastructure. This supply -centric policy response has led to a buildup of excess capacities in a number of key manufacturing sectors, and that is keeping deflationary pressures alive for longer. Indeed, we continue to see the diversions of real GDP growth and normal GDP growth outcomes. While real GDP growth will stabilize at 4.8 per cent this year, normal GDP growth will still be somewhat subdued at 4.5 per cent.

Seth Carpenter: Thanks, Chetan. That's super helpful.

Jens, let's think about the euro area, where there had, been a lot of slower growth relative to the US. I will say, when I'm in Europe, I get that question, why is the US outperforming Europe? You know, I think, my read on it, and you should tell me if I'm right or not -- recent data suggests that things, in terms of growth at least have bottomed out in Europe and might be starting to look up. So, what are you thinking about the outlook for European growth for the rest of the year? Should we expect just a real bounce back in Europe or what's it going to look like?

Jens Eisenschmidt: Indeed, growth has bottomed. In fact, we are emerging from a period of stagnation last year; and as expected in our NTIA Outlook in November we had outlined the script -- that based on a recovery in consumption, which in turn is based on real wage gains. And fading restrictiveness of monetary policy, we would get a growth rebound this year. And the signs are there that we are exactly getting this, as expected.

So, we had a very strong first quarter, which actually led us to upgrade still our growth that we had before at 0.5 to 0.7. And we have the PMIs, the survey indicators indicating indeed that the growth rebound is set to continue. And we have also upgraded the growth outlook for 2025 from 1 to 1.2 per cent here on the back of stronger external demand assumptions. So, all in all, the picture looks pretty consistent with that rebound.

At the same time, one word of caution is that it won't get very fast. We will see growth very likely peaking below the levels that were previous peaks simply because potential growth is lower; we think is lower than it has been before the pandemic. So just as a measure, we think, for instance, that potential growth in Europe could be here lie between one, maybe one, 1 per cent, whereas before it would be rather 1.5 per cent.

Seth Carpenter: Okay, that makes a lot of sense. So, some acceleration, maybe not booming, maybe not catching the US, but getting a little bit of convergence. So, Ellen, bring it back to the US for us. What are you thinking about growth for the US? Are we going to slump and slow down and start to look like Europe? Are things going to take off from here?

Things have been pretty good. What do you think is going to happen for the rest of this year and into next year?

Ellen Zentner: Yes, I think for the year overall, you know, growth is still going to be solid in the US, but it has been slowing compared with last year. And if I put a ‘the big picture view’ around it, you've got a fiscal impulse, where it's fading, right? So, we had big fiscal stimulus around COVID, which continues to fade. You had big infrastructure packages around the CHIPS Act and the IRA, where the bulk of that spending has been absorbed. And so that fiscal impulse is fading. But you've still got the monetary policy drag, which continues to build.

Now, within that, the immigration story is a very big offset. What does it mean, you know, for the mid-year outlook? We had upgraded growth for this year and next quite meaningfully. And we completely changed how we were thinking about sort of the normal run rate of job growth that would keep the unemployment rate steady.

So, whereas just six months ago, we thought it was around 100,000 to 120,000 a month, now we think that we can grow the labor market at about 250,000 a month, without being inflationary. And so that allows for that bigger but not tighter economy, which has been a big theme of ours since the mid-year outlook.

And so, I'm throwing in the importance of immigration in here because I know you want to talk about elections later on. So, I want to flag that as not just a positive for the economy, but a risk to the outlook as well.

Now, finally, key upcoming data is going to inform our view for this year. So, I'm looking for: Do households slow their spending because labor income growth is slowing? Does inflation continue to come down? And do job gains hold up?

Seth Carpenter: Alright, thanks Ellen. That helps a lot, and it puts things into perspective. And you're right, I do want to move on to elections, but that will be for the second part of this special episode. Catch that in your podcast feeds on Monday.

For now, thank you for listening. And if you enjoy the podcast, please leave a review wherever you listen and share Thoughts On the Market with a friend or colleague today.

Our head of corporate credit research dives into the question of correlation and market volatility, and explains why stock indices can remain stable despite a certain level of turmoil, as we have seen recently in Europe.

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Welcome to Thoughts on the Market. I'm Andrew Sheets, head of Corporate Credit Research at Morgan Stanley. Along with my colleagues bringing you a variety of perspectives, today I'll be talking about correlations, and why they are currently so important to markets being calmer than they would otherwise be. 

It’s Thursday, June 20th at 2pm in London.

Imagine you’re on a boat, maybe looking for sea life. People are milling around the deck, watching the vessel ripple through the waves. Suddenly someone spotsa whale, and everybody runs to port. The whale swims under the boat, and everybody now runs to starboard. The boat rocks significantly. 

But imagine the same scenario where marine life is popping up on both sides of the vessel. You and your fellow passengers are all now running past each other in both directions. The movements balance out. The boat is pretty stable. 

Believe it or not, this is how the volatility in the stock indices work. The individual passengers can be thought of as individual stocks, and how much they’re each moving around can be thought of as each stock’s volatility. The boat is the overall index – say, the S&P 500, the EuroStoxx 50, or an index of corporate bonds. 

When everybody on the boat moves together, what we’d call a high correlation environment, you’d get a lot of rocking, or volatility, at the index level. But when people are moving in opposite directions, moving past each other; you can still have a lot of running, or individual vol – but the market, or the boat, will appear much more calm. 

That is exactly what’s been happening, especially last week. Stocks within the S&P 500 are moving with unusual independence from each other, running to opposite sides of the boat, with the lowest such correlation in almost 20 years. That is a big reason why, despite all the volatile headlines out of Europe, and more stocks falling than rising in the US, the overall market has been surprisingly calm – and going up. 

Even in Europe, this phenomenon of low correlation has really helped. That volatility I mentioned relates to upcoming elections in France, which led the difference between French and German bond yields to jump to their highest level in more than a decade. 

But because this spread of France to Germany moved in the opposite direction as overall French yields, the overall result for French government bonds was not much. Last week, despite all the apparent ruckus, the yield on French government bonds was basically unchanged. Markets have been calmer than you would usually expect them to be. 

These correlations are a big reason why. 

We think they suggest a still healthy dynamic where markets are differentiating between different types of risks. To go back to our original analogy, there is still plenty of sea life out there for the market to look at. But these correlations are also worth watching, were they to rise significantly. If one thing were to dominate the focus and lead everybody to run to the same side of the boat, overall market volatility could rise surprisingly fast. 

It's something, you could say, that we're on the lookout for. 

Thanks for listening. If you enjoy the podcast, please leave us a review, wherever you listen, and share Thoughts on the Market with a friend or colleague today.

Investors watching for market reactions would do well to stick to their existing plans in an environment where the economic impacts of any particular US election outcome remains unclear. Our Global Head of Fixed Income and Thematic Research explains.

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Welcome to Thoughts on the Market. I'm Michael Zezas, Morgan Stanley's Global Head of Fixed Income and Thematic Research. Along with my colleagues bringing you a variety of perspectives, today I'll be talking about the US elections and its impacts on markets.

It's Tuesday, June 18th at 10:30am in New York. 

We first started covering the 2024 US election in December of last year. With about five months to go until the event, it’s a good time to take stock of what we’ve learned that might be useful for investors. In short, there’s a lot of noise around this election, and recognizing that noise is a first step toward not making mistakes around the event. 

First, don’t make the mistake of confidently predicting an outcome. All indicators suggest it’s very unlikely that we’ll have a good sense about which candidate will win the election in the run up to the Election Day, and perhaps even in the days that follow. Neither candidate has a lead beyond a polling margin of error in sufficient states to suggest that if the election were held today that they would win the electoral college.

Prediction markets and polling models also point to a race that’s a toss-up. It all suggests a tight race going into Election Day. And with the sustained popularity of voting by mail, vote counts could move slowly, as they did in 2020; meaning we may have to dig in for another election week.

Second, don’t make the mistake of making big strategic changes in your portfolio just because it’s an election year. We recently studied this and there’s little pattern for how markets behave in the run up to an election, even when filtering for factors like similar outcomes and closeness of the race. Markets in the aggregate don’t seem to consistently price in US election outcomes ahead of time. There’s more evidence that they price in expected policy impacts once the outcome is known, which brings me to my third point.

Don’t make the mistake of overconfidence when it comes to how post-election policies will impact the economy. Sure, if we knew one outcome was bad for growth and the other good, it might be advisable to buy risk assets on the news of the latter outcome occurring. But especially in this election it’s not that simple.

For example, in scenarios where Republicans win the White House, you can expect greater tariffs, immigration curbs, and – if they also control congress – bigger deficits driven by tax cuts relative to alternative outcomes. According to our economists, these policies have different effects on growth, inflation and monetary policy depending on how they are constructed and timed; and so it defies simple conclusions of growth positive or growth negative, at least at this point.

So bottom line, don’t mistake noise for signal when it comes to the election. Stick to the plan, such as the cross-asset framework recently put forward in our mid-year outlook. And maybe focus on some equity sectors, such as industrials and defense, which are well placed currently but have upside in certain election scenarios.

Thanks for listening. If you enjoy the podcast, please leave us a review wherever you listen and share Thoughts on the Market with a friend or colleague today.

The AI revolution has helped fuel the tech IPO sector’s resurgence following a two-year lull. Our Co-Heads of Technology Equity Capital Markets join our Global Head of Fixed Income and Thematic Research to discuss the sustainability of this trend. 

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Michael Zezas: Welcome to Thoughts on the Market. I'm Michael Zezas, Global Head of Fixed Income and Thematic Research for Morgan Stanley.

Diana Doyle: I am Diana Doyle, Managing Director and Co-Head of Technology Equity Capital Markets in the Americas.

Lauren Garcia Belmonte: And I'm Lauren Garcia Belmonte, Managing Director, Co-Head of Technology Equity Capital Markets Americas.

Michael Zezas: And on this episode of the podcast, we'll dive into what's ahead for the tech IPO market this year.

It's Monday, June 17th, at 11 am in New York.

Diana Doyle: And 8 am in San Francisco.

Michael Zezas: Since 2023 only nine technology companies completed an initial public offering, which is one of the longest periods of reduced IPO activity in history. For context, compare that with the all-time record of 124 technology IPOs in 2021. But with the first quarter of 2024 behind us, we're starting to see that picture improve. With tech and AI in focus right now, on today's episode, I want to speak with Diana and Lauren from our global capital markets team to get their take on where the tech IPO environment might be headed and what investors may want to watch for.

Lauren, maybe to start -- what's contributing to this resurgence in IPO activity this year?

Lauren Garcia Belmonte: Well, the market backdrop has been constructive. We've had the SMP and NASDAQ trading up 10 -- 11 per cent this year and multiples have been stable for technology businesses. And against this backdrop, we've seen some IPO issuers recognize that this is a good environment in which to move forward with their IPO event. There are several benefits to becoming a public company, not just the opportunity to raise capital -- but to give liquidity to employees and to early investors in the business, and to set the company up to be a real industry leader as a public company.

So, issuers are seeing the opportunity; and meanwhile, the demand side from investors has been encouraging as well. Investors in the public equities recognize that there's limited opportunity, in some instances, to underwrite growth. Right now, 55 per cent of publicly traded technology businesses are growing top line 10 per cent or less. So, the IPO opportunity, where companies generally have an attractive growth profile, is a way for these investors to get access to an opportunity to underwrite exciting growth profiles -- even when that opportunity isn't so prevalent in the public markets right now.

Michael Zezas: And Diana, do you see the rebound in IPO activity as a durable trend? Maybe take us into 2025.

Diana Doyle: Well, 2024 is definitely going to be better than 2022 and 2023. Now, it'll be a long time before we get back to that 124 tech IPOs in 2021 that you mentioned, Michael. But in an average year, we have about 35 to 40 IPOs, and we expect 2025 to approach more of an average. So, as Lauren said, we're encouraged by the breadth of investor demand for IPOs that we've done this year, and investors’ appetite to take risk. And all that lays the foundation for a healthy IPO market in 12 to 18 months.

But it will be a slow build because IPOs are not a quick turnaround financing. It takes about six months on average to get through an IPO process. So, if you're not already underway, you're likely looking at 2025. In the meantime, we're seeing many late-stage private companies. They have plenty of cash. They're doing secondary raises to provide liquidity to employees and early investors, and they're waiting for growth rates to be more predictable -- for profitability to improve and to get more scale.

So, we're excited for 2025, and the IPO market is wide open for companies that have growth and scale, profitability and that offer investors something different than what's available in the public market today.

Michael Zezas: Got it. And what about macro conditions, Lauren? So perhaps the Fed's pivoting to cutting rates, the overall economic backdrop, geopolitical considerations. How do those things impact the tech IPO market?

Lauren Garcia Belmonte: Yeah, absolutely. The tech IPO market is influenced by these macro considerations -- and it's in a few different ways.

First, of course, and importantly, the valuation impact is real for technology businesses that have a lot of their growth on the come and a higher rate environment. Of course, that future growth needs to be discounted more significantly. The second key impact is around just how these management teams are able to manage, predict, and model out their business.

In a more uncertain environment, it can be more challenging to articulate and defend the forward model that is a part of all IPO processes where you're explaining to the research analysts and investors how your business will perform, as a public company. And, of course, management teams want to set their companies up for success as public companies -- and set up for a beat and raise cadence -- which can be difficult to do when you're dealing with an uncertain macro backdrop.

I think one encouraging signal -- as much as we haven't seen the Fed cut as much as people had anticipated as would have happened at the start of this year -- is that the rate of change has slowed.

So, the rate increase environment was one of the quickest that we've seen; and although we haven't seen the cuts as people had anticipated, I think it's encouraging that that rate of change has adjusted and that will allow for, hopefully, more predictability in businesses going forward

Michael Zezas: Got it. That connection between predictability and rates makes a lot of sense. And it seems that the market's particularly hungry for AI names. Diana, what AI related trends are you seeing?

Diana Doyle: Well, AI is this black hole right now that's drawing all the energy and attention in the private markets. There's this huge enthusiasm because the technology is improving so quickly, and there's an uncertainty how long that rapid pace of advancement will continue. This cycle, in fact, is an exaggerated version of what we've seen in prior cycles, where the monetization typically accrues first to the semiconductors and hardware, then eventually to software. So right now, a lot of the investment is going into the semiconductors and hardware, the picks and shovels, and the fundamental model of research.

But in software, there's still a lot to play out in private companies to create the type of profitable, proven business models that public market investors are looking for. There are big unknowns in how enterprises are going to reallocate spend in a world of AI, what happens with all the efficiency these new tools create, how a lower barrier to entry for software creation impacts margins.

Michael Zezas: And aside from AI, Lauren, what other areas within tech are seeing more activity?

Lauren Garcia Belmonte: I would say that these businesses aren't in a particular spot within the tech landscape, but rather have certain characteristics in that they share -- namely that they are in attractive markets.

Additionally, being a market leader is of critical importance today. No longer do people want to back the third, fourth, fifth player in a market. I think people are really focused on market leadership. So that one or two spot is going to be really important. And investors are looking for businesses that are already scaled. That market leadership typically comes along with a certain scale qualifier. But that is absolutely going to be an important feature of the businesses that are successful transitioning from the private to public markets.

These companies are in the software space and the internet side. So, there's a diversity of companies that have this in common, and that could be great IPO candidates on that timeline that Diana was mentioning.

Michael Zezas: And finally, I'm curious how the political election cycle might have an impact on IPO activity during the rest of this year. Diana, what's your read?

Diana Doyle: Well, we do expect to see some volatility in the pre-election window in the fall, like we do in every presidential election cycle. But what's different this time is that we have a pretty good sense, not only of who the candidates will be -- but also what their presidency is likely to look like and what policies they're likely to prioritize.

So that de-risks the election as a market event materially versus prior cycles. And for the IPO market, any company that's been looking at an IPO in the second half of 2024 has already evaluated pulling it forward to hit the September-October time frame and get ahead of that likely market event.

But there's a narrow window for anyone who hasn't yet pulled the trigger to accelerate. Before the holidays, post-election -- where some IPOs will be able to squeeze in. In practice, most of the companies that aren't already in the pipeline now -- have their eye on 2025.

Michael Zezas: Okay, so, putting it all together, seems you're both pretty confident that there's going to be a durable pickup in IPO activity.

Lauren Garcia Belmonte: That's right.

Diana Doyle: Yes.

Michael Zezas: Okay, great. So, our audience should stay tuned. Well, Diana, Lauren, thanks for taking the time to talk.

Diana Doyle: Great speaking with you, Michael.

Lauren Garcia Belmonte: Yes. Thank you for having us.

Michael Zezas: And thanks for listening. If you enjoy Thoughts on the Market, please leave us a review wherever you listen, and share the podcast with a friend or colleague today.

Our Head of India Research and Chief India Equity Strategist lays out his bullish post-election view on India, explaining why the market is likely to drive a fifth of global growth in the coming decade.

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Welcome to Thoughts on the Market. I’m Ridham Desai, Morgan Stanley’s Head of India Research and Chief India Equity Strategist. Along with my colleagues bringing you a variety of perspectives, today I’ll discuss our take on India’s election results and why we still believe this is India’s decade.  

It’s Friday, June 14th, at 2pm in Mumbai.

India’s general election results are in, and the world is paying close attention. The most important aspect of the BJP led NDA retaining its majority is policy predictability – something equities tend to thrive on. We believe the market can look forward to further structural reforms. This gives us more confidence in our forecast of a 20 per cent annual earnings growth over the next five years. Macro stability with rising GDP growth relative to real rates should extend India's outperformance over Emerging Market equities. 

We’ve been bullish on India since April 2020, and we still believe that India is likely to drive a fifth of global growth in the coming decade. This will be underpinned by increased offshoring of both services and manufacturing, as well as the energy transition and the country's advanced digital infrastructure. India's stock market has been making new highs. The big investor debate now is what could take the India market even higher from here. 

We believe share prices have yet to bake in a number of positives, such as India's newfound macro stability, a likely fall in its primary deficit moving into a primary balance, and a fast-evolving deep tech sector, to name just a few.

We expect critical reforms to be made in Modi’s third term. Here are three more important ones. 

Number one, further consolidation of India’s fiscal deficit. From a market perspective this lends itself to sustained credit growth, which we think is going to be good for India’s private banks. 

Number two, a continuing buildout of both physical and social infrastructure. The physical infrastructure will likely focus on railways. Social infrastructure may include more low-income housing as well as water and electricity security. These reforms make us bullish on industrial stocks. 

Number three, further growth in India’s manufacturing prowess. The government will likely focus on improving competitiveness via fiscal incentives and by building infrastructure within such industries as defense, electronics, aerospace, food processing and renewables. We expect India’s energy consumption to rise by around 50 per cent over the next five years with increasing contribution from renewables. 

From an equities perspective, we think consumer stocks are well-positioned as nearly 100 million families could move into the middle-income bracket in the next decade. At the top end of the income pyramid, India’s affluent households could quintuple to 25 million over the coming decade, which should support a surge in luxury consumption. 

Of course, there are plenty of risks, even with the elections behind us – from various capacity constraints to geopolitics, the impact of AI and climate change. But even with all these in mind, we still believe this is set to be India's longest and strongest bull market ever. Stay invested. 

Thanks for listening. If you enjoy the show, please leave us a review wherever you listen and share Thoughts on the Market with a friend or colleague today.

A strong economy and global stock market surge may suggest market euphoria. However, our Head of Corporate Credit Research explains why the corporate sector caution is, in fact, a good sign.

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Welcome to Thoughts on the Market. I'm Andrew Sheets, head of Corporate Credit Research at Morgan Stanley. Along with my colleagues bringing you a variety of perspectives, today I'll be talking about the surprising lack of confidence in corporate boardrooms, and why it could extend the cycle.

It's Thursday, June 13th at 2pm in London.

“Buy low, sell high.” That age-old advice is rooted in the idea that investors should try to buy when others are fearful and sell when others are euphoric. The high in prices, after all, should occur when people are as positive, and things are as good as they can possibly be.

At the moment, there is plenty of focus on this idea that the market pendulum may have swung too far towards excessive positivity. The economy is strong, with US growth tracking above 2 per cent, inflation moderating and the unemployment rate still near a 60 year low. US and global stock markets are near all-time highs. And many quantitative measures of investor optimism are elevated, whether it's the low levels of expected volatility, polls of investor outlooks or ownership of equity futures.

But we think there is one missing piece of this story, with relevance for credit and beyond. While investors are optimistic, corporate boardrooms remain much more restrained. And that caution could help extend the cycle.

One way to measure corporate optimism is whether or not companies are adding debt; a company is more likely to borrow when it feels better about the future. Well, as of the first quarter of 2024, the growth in US non-financial corporate borrowing was at a 10-year low. And among lower rated borrowers, the issuance of high yield bonds and loans remains dominated by borrowing to repay or refinance existing debt – the most conservative type of issuance that you can get.

Another way to measure corporate optimism is Mergers & Acquisitions, or M&A, as it really takes confidence in the future to acquire another company. Well, global M&A volumes in 2023 were the lowest, adjusted for the size of the economy in over 30 years. While this has picked up a bit, and we do think M&A recovers significantly over the next two years, it’s currently still very low.

On the surface, there are plenty of signs that investors are entering the summer optimistic. But the corporate sector remains surprisingly restrained, especially given that solid economic data, record profits and record highs in the stock market. We’d further note that the Tech sector, where there is more optimism and much more investment spending, generally isn’t borrowing to fund this, and also enjoys unusually strong balance sheets.

All of this matters because it’s been high levels of corporate optimism that have often been very bad for credit, as it’s excessive optimism that often leads to excessive risk taking, hubris, and an eventual payback that is bad for lenders. The lack of optimism, at the moment, is a good sign, and one of several reasons why we think spreads can remain tight, and the credit cycle has further to run.

Thanks for listening. If you enjoy the show, please leave us a review wherever you listen and share Thoughts on the Market with a friend or colleague today.

Our US Thematic Strategist explains the premium that consumers will pay for convenience, and what that means for sectors including online retail, dining and package delivery.

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Welcome to Thoughts on the Market. I’m Michelle Weaver, Morgan Stanley’s US Thematic Strategist. Along with my colleagues bringing you a variety of perspectives, today I’ll talk about convenience and why it’s such an important factor for a number of industries.  

It’s Wednesday, June 12, at 11am in New York. 

The consumer has been weakening around the edges, and this is flowing through to companies' bottom line. Our Consumer Economist thinks that consumption is likely to continue to slow this year and even into 2025 as the labor market cools and that weighs on real disposable income, elevated rates continue to pressure debt service costs, and tighter lending standards limit credit availability.   

And given this setup, companies have been focusing on their value offerings, and we saw a lot of commentary around this during first quarter earnings calls. Mentions of just the word value itself were elevated. But value isn't the whole story, and consumers aren’t always just choosing the cheapest option.  

You and I are consumers. We are all consumers. Think about the last time you bought something. Did you pick one retailer over another because buying the item was easier? Did the company have a better website or a better mobile app? Did they offer faster shipping options or free shipping? Would the product itself save you time? And how much more were you willing to pay to make the more convenient choice?  

Convenience is a valuable product and a key factor in consumer choice. In fact, our survey shows that 77 percent of US consumers rate it as important and base purchasing decisions on it. 

Our work suggests three key conclusions. On average, consumers would be willing to pay about a 5 percent price premium for convenience. And there are two groups that place a particular emphasis on it - those who are younger and those who are more affluent. 

Second, consumers are willing to choose one company's product or service over another's because of convenience. Staples products and food away from home are the industries where consumers are especially likely to pick one option over another. 

And third, shipping features like free shipping or fast shipping are the most important convenience-related criteria when shopping online. 

Several industries stand to benefit from providing convenience. And convenience has been a long-term, persistent driver of eCommerce. Consumers love the combination of an ever-expanding assortment of goods and services and shrinking delivery times – and this is convenience really at its best. Convenience is easier to deliver for categories with standardized, durable products with lower purchase frequency that are easier to deliver like electronics or travel. But even within an already winning industry there is still a lot of opportunity, especially within the least penetrated categories, grocery and household and personal care. 

In Restaurants, fast casual is likely to continue to take share given the combination of quality and convenience. Restaurants that have led digital access -- like mobile and online orders as well as online reservations – have posted impressive growth over time. Some fast-food chains have also invested in a digital approach and will likely to continue to build on this in the future. 

Now unlike internet and restaurants, the parcels industry is facing a large threat from convenience, specifically fast and free shipping and easy returns. Their networks were not built to handle the quick delivery required of ecommerce volumes today, and the business-to-consumer shipping that is offered by the largest online vendors. 

We think convenience is an important factor for companies and one they can use to differentiate themselves in customers minds. 

Thanks for listening. If you enjoy the show, please leave us a review wherever you listen and share Thoughts on the Market with a friend or colleague today.

Our Global Chief Economist takes stock of recent elections in India, Mexico and South Africa -- and what they suggest about the market implications of the upcoming UK and US elections.

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Carpenter: Welcome to Thoughts on the Market. I'm Seth Carpenter, Morgan Stanley's Global Chief Economist. Along with my colleagues bringing you a variety of perspectives, today I'll be talking about recent elections and upcoming elections and what they mean for the economy.

It's Tuesday, June 11th at 10am in New York.

Markets usually prefer simple narratives, but this week it's shown us that simplicity can be elusive. In particular, for elections, legislative outcomes can be more complicated but are consequential. Here in the US, clients often ask about the economic implications of a Trump vs. Biden presidency -- but we immediately have to flag that the congressional outcome has to be a big part of the conversation.

Indeed, three important elections in the past weeks have emphasized the importance of a legislative focus. But the surprise was not in who won -- rather, in how big the legislative decisions were. 

In India, Prime Minister Modi was re-elected, but his BJP party lost its outright majority. Exit polls on June 1st had predicted a resounding victory for the BJP, prompting a rally in the lead up to the final results.

The results surprised markets and caused a reversal. Markets have since recovered to roughly where they were before the exit polls,

We expect policy predictability with the continued focus on macro stability. This focus implies moderate inflation, smaller primary deficits, along with support for domestic manufacturing and infrastructure in upcoming years. Those have been the core of our view that the Indian economy is set for continued expansion.

The Mexican election was almost the reverse, where the winning candidate's party won far more votes than was expected. In response to the news, equity markets sold off and the Mexican peso depreciated. Scheinbaum was largely expected to win after the endorsement of Obrador; but by winning a supermajority, the market focus turned to Mexican fiscal discipline based on a view that there may be less restraint on government spending.

Fiscal policy has been in focus for us because for the first time in recent years the government there ran a fiscal deficit. While the party has sought to reassure markets, concern has mounted regarding the risks of fiscal slippage without a more balanced legislature.

Compared to India and Mexico, The South African market reaction to the election was modest, though not for a lack of surprise in the legislature. The ANC lost more of its majority than polls had predicted, which narrows the options for a coalition. The market now expects a more reform-oriented coalition to take power and support a continued improvement in the economy. For example, frequent power outages had impeded the economy for a long time, but the energy sector now appears to be more stable, and those sorts of reforms can help catalyze an improved economic outlook.

Examples of India, Mexico, and South Africa have reinforced why we've remained focused on the upcoming general elections in the UK, and also the congressional outcomes in the US. In the UK, a change in government is predicted by the polls, and fiscal considerations will be in focus.

So back here in the US, the fiscal outcome will largely be determined by the congressional results. To meaningfully change federal tax or spending requires legislation. And our colleagues in public policy research have flagged that under a Republican sweep, they expect lower taxes and higher spending; contrasted with a Democratic sweep that might bring somewhat higher spending, but also higher taxes leading to a narrower deficit.

A split government, where the party in the White House not the same as the party controlling each of the Houses of Congress, however, probably implies more muted outcomes. While we should focus on the legislative outcomes, there are important authorities, of course, that the President can exercise independently of the Congress.

So, when we highlight the importance of the legislative outcomes, we are not denying the criticality of the presidency.

Thanks for listening. If you enjoy the show, please leave us a review wherever you listen to podcasts and share Thoughts on the Market with a friend or colleague.

Our CIO and Chief U.S. Equity Strategist explains why economic fluctuations have made it more difficult to project a possible soft or no landing outcome, and how investors can navigate this continuing market volatility.

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Welcome to Thoughts on the Market. I'm Mike Wilson, Morgan Stanley’s CIO and Chief U.S. Equity Strategist. Along with my colleagues bringing you a variety of perspectives, today I'll be talking about the continued uncertainty in economic data and its impact on markets.  

It's Monday, June 10th at 11:30am in New York.  

So let’s get after it.  

Over the past few months, the economic growth data has surprised to the downside with more data releases coming in below expectations than usual. Meanwhile, inflation surprises have skewed more to the upside. This is a challenging combination because it means the Fed can't cut rates yet even though it may make sense to keep the economic expansion going.  

As we have been discussing for months, aggressive fiscal spending is keeping the headline economy looking good on the surface. The bad news is that inflation remains too high for the Fed which has to keep interest rate policy too tight for many economic participants. Some may disagree with that statement, but we think it's hard to argue with the yield curve which remains significantly inverted and a valid indicator of interest rate policy. When combined with high price levels for many goods and services, the end result is a crowding out of many parts of the economy and consumers. From our perspective, this is most evident in the persistent underperformance of small cap stocks. In fact, this past week, small cap equities relative performance fell to new cycle lows. 

Even more concerning is that while small caps are showing greater interest rate sensitivity than large caps, it’s also asymmetric. While higher rates are an obvious headwind for small caps, we're skeptical that lower rates offer a comparable benefit. Last week was a good example of this dynamic when small caps underperformed early in the week when rates rose and later in the week when rates fell.   

All of this argues for what we have been recommending — in an uncertain macro world, we think investors should stay up the quality curve with a barbell of both growth and cyclicals to participate in both the soft and no landing outcomes. We also think it makes sense to have some defensive exposure as a hedge against the above average risk of a recession that still looms. Given the more negative skew in the economic surprise data as noted, we think the defensive part of the portfolio should outweigh cyclicals at this point. We favor staples and utilities specifically in this regard.  

With markets sensitive to unpredictable inflation and labor data, it's very difficult to have an edge going into these releases, particularly on the labor front where the data itself has been subject to significant and ongoing revisions. While many market participants focus on the non-farm payroll data, these data have been subject to some of the larger revisions we’ve seen in recent history. Meanwhile, the household survey has been weaker than the non-farm payroll data and job openings have fallen persistently over the last 18 months. These diverging labor dynamics are classic late cycle phenomena based on our experience. For investors, it's just another reason to stay up the quality curve and to avoid positioning for a broadening out to lower quality areas. In our view, such a broadening is unlikely in any kind of sustainable way until the Fed cuts meaningfully — and by that we mean several hundred basis points rather than the one-to-two cuts that are now priced into the markets for this year. 

Thanks for listening. If you enjoy Thoughts on the Market, please leave us a review wherever you listen and share the podcast with a friend or colleague today. 

Our Global Head of Emerging Markets Sovereign Credit reviews key insights and strategies for investors following the recent elections in Mexico, South Africa and India.

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Welcome to Thoughts on the Market. I’m Simon Waever, Morgan Stanley’s Global Head of EM Sovereign Credit and Latin America Fixed Income Strategy. Along with my colleagues bringing you a variety of perspectives, today I’ll discuss the far-reaching impact of emerging market elections on global markets. 

It’s Friday, June 7, at 10am in New York.

Elections in 2024 will impact roughly 4 billion people around the globe – that’s the most in history. And within emerging markets, elections this year will impact nearly half the market cap of both hard and local currency debt indices and 60 percent of equities. With a dozen elections in the emerging markets sovereign credit universe already behind us, there are still almost another twenty more to go.

We find that elections in emerging markets matter for both credit spreads and fiscal balances. And a frequent investor question is how to trade positive and negative election outcomes. This can be defined in many ways, of course, but we focus on whether credit spreads widen – which is a negative – or tighten – which is a positive – in the week post-elections. And history suggests that buying into negative election surprises has been a profitable strategy. But on the other hand, positive elections, they’re priced in beforehand and should not be chased post-outcome.

So why is that, exactly? Well, for positive elections, markets tend to rally nearly continuously into the elections; but after the initial week of tightening, spreads then revert and end up trading only slightly tight to the levels prior to the elections. 

And then for negative elections, there’s actually no real trend ahead of the elections, with spreads largely flat. But then, after the initial sell-off, credit spreads end up reversing the initial move wider, and three months out the spreads are tighter than immediately post-elections. 

So, with this in mind, let’s consider the three most recent election outcomes in Mexico, India, and South Africa. And actually, all three had an element of surprise.

In Mexico, they elected their first female president, Claudia Sheinbaum. That was expected – but the surprise was that she got a much larger majority than polls suggested, which means that it becomes easier to push through constitutional changes. So, I think it’s fair to say that uncertainty has increased, and markets are now in a wait-and-see mode looking for what policy she will prioritize.

And from my side, I’m paying particularly close attention to the many reforms submitted by the executive to the Congress back in February, and then any signs of fiscal consolidation, which is needed.

South Africa saw the ANC fall below 50 per cent for the first time, and they now need to form a coalition or at least agree on a confidence and supply model. Well, I would say that at this point, markets are already pricing a lot of that uncertainty.

Finally, in India, the BJP led New Democratic Alliance is set to form a government for the third term, and we think the most important aspect of this is policy predictability. And in particular we see a number of critical structural reforms made in this third term; and then importantly for fixed income, we see a reduction in the primary budget deficit.

We will continue to monitor closely the remaining emerging markets elections in this landmark election year, and we’ll come back with more investment updates.

Thanks for listening. If you enjoy the show, please leave us a review wherever you listen and share Thoughts on the Market with a friend or colleague today.

Our four-person panel explains Japan’s economic boom, from growing GDP to corporate sector vibrancy, and which upward trends will sustain.

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Chetan Ahya: Welcome to Thoughts on the Market. I'm Chetan Ahya, Morgan Stanley's Chief Asia Economist.

Japan is undergoing a once in a generation transformation. A country once associated with its lost decades is now seeing multi-decade highs for nominal GDP growth and equity indices.

On this special episode of the podcast, we will discuss why we are so optimistic on Japan's trajectory from here. I'm joined by our Chief Japan Economist Takeshi Yamaguchi, our Chief Asia and EM Strategist Jonathan Garner, and our Japan Equity Strategist Sho Nakazawa.

This episode was recorded last Friday, May 31st at 9 am in Hong Kong.

Jonathan Garner: And 9 am in Singapore. 

Takeshi Yamaguchi: And 10 am in Tokyo. 

Chetan Ahya: Japan's nominal GDP growth reached a 32 year high in 2023. Equity markets have reached multi decade highs, and ROE and productivity growth have been on an improving trend. Corporate sector vibrancy is returning, and animal spirits are reviving. A new, stronger equilibrium is one of robust nominal GDP growth and a sustainable moderate inflation.

This new equilibrium of stronger normal GDP growth and low real interest rates will also be supportive of Japan's capex trends. With that backdrop, let me now turn to Yamaguchi san. 

Yamaguchi-san, what makes us confident that this virtuous cycle of rising wages and prices will continue to play out?

Takeshi Yamaguchi: We think Japan's social norm of no price hike, no wage hike is changing, and a good feedback loop between wages and prices is emerging. Workers demand higher wages with higher inflation expectations and the corporate management accept their demand, as they also expect higher inflation. Japan's labor market remains structurally tight and aggregated corporate profits are now at a record high level. In addition to the pass-through from prices to wages, we are beginning to see the pass-through in the other direction from wages to prices, especially in service prices. 

The average wage hike in these spring wage negotiations was the highest in the last 33 years. So, we expect to see a gradual rise in service inflation going ahead with a rise in wages. 

Chetan Ahya: Could you elaborate a bit on the details of the capex outlook? 

Takeshi Yamaguchi: Yes. We expect Japan's private capex to exceed its previous 1991 peak this year. In the previous deflationary period, domestic nominal GDP remained in a flat range, and Japanese firms mainly invested abroad. That said, the trend of Japanese nominal GDP growth has shifted up, which will likely positively affect Japanese firms’ decision to increase domestic investment.

Also, there are various other factors supporting domestic capex, such as real interest rates remaining low, the weak yen, the government's new industrial policy supporting onshoring and semiconductor investment, and the need for digitalization and labor-saving investment on the back of structural labor shortage driven by demographic shifts.

Chetan Ahya: Thank you, Yamaguchi-san. And, you know, I can't let you go without answering this question, which is much of the focus of the markets right now. If yen depreciates to 160 again, how much upside risk to your rate path do you see?

Takeshi Yamaguchi: Our FX team expects the yen to gradually appreciate to 146 by the end of 2024, and under the assumption, we expect one hike this year in July and another one in January next year. However, if sustained yen depreciation raises domestic underlying inflation trend, we think the BOJ will respond by raising the policy rate further to 0.75 per cent in 2025.

Chetan Ahya: Thank you, Yamaguchi-san. Jonathan, let me come over to you now. You have led the debate on Japan's ROE improvement and have been bullish since 2018. How are we thinking about Japan equities from a broader Asia market allocation perspective now?

Jonathan Garner: Back in 2018, we highlighted Japan equities as what we called the most underappreciated turnaround story in global equities. And at the heart of our thesis was the idea that monetary and fiscal policy dials were now set to exit deflation, driving an improved top-down environment for corporations from an asset utilization perspective.

It's worth recalling that during the deflation era, Japan listed equities ROE averaged just 4.2 per cent for two decades, by far the lowest in global markets. That's now reached almost 10 per cent, and we're confident that by the end of next year we can be approaching 12 per cent, which would put Japan back in the middle of the pack in global equity markets.

And we think further re-rating in line with the improved ROE is likely, over the medium term.

Chetan Ahya: And how much upside do we see from here?

Jonathan Garner: Well, in terms of the target price that we published in our midyear outlook, that now stands at 3,200 for June 2025 for TOPIX. And the way that we derive that is through an earnings forecast for TOPIX, which is around 5 per cent above current consensus levels.

And in addition, a forward PE multiple assumption of 15 times, which is close to where the market is currently trading, and around about a 4 PE point discount to our target multiple for the S&P 500. So that gives us around 16 per cent upside versus current spot levels.

Chetan Ahya: Thank you, Jonathan. And you mentioned about corporate governance changes helping Japan equity markets. Sho, let me bring you in here. How will corporate governance changes drive further improvement in Japan's ROE?

Sho Nakazawa: I would say corporate governance reform, which is Tokyo Stock Exchange initiative will help fuel OE gains going forward. From the last year below 1x P/B has been a buzz word in the market, growing sense of shame and peer pressure to enhance capital efficiency for the corporate executives. And this is not just a psychological change. If we look at cumulative share buybacks amount, last fiscal year it hit a record high of ¥10 trillion, and we are seeing further record growth into this fiscal year as well.

Chetan Ahya: And what are the key alpha generation themes still to pay for within Japan equities space?

Sho Nakazawa: In terms of alpha generation, we explored three key themes within the Japanese equity landscape. So one, identifying companies with labor productivity and pricing power that can pay and absorb higher real wages; and two, finding the next cohort of corporate reform beneficiaries. Three, assessing the impact of NISA, Nippon Individual Saving Account, inflows.

I think this will drive large cap, high-liquidity value and high dividend stock. Still plenty to play for in Japan.

Chetan Ahya: Yamaguchi-san, Jonathan, Nakazawa-san, thank you all for taking the time to talk. And thanks for listening. If you enjoy the podcast, please leave us a review wherever you listen and share Thoughts on the Market with a friend or a colleague today.

Original release date April 29, 2024: Our analysts find that despite the obvious differences between retail fashion and airlines, struggling brands in both industries can use a similar playbook for a turnaround.

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Ravi Shanker: Welcome to Thoughts on the Market. I'm Ravi Shanker, Morgan Stanley's North American Freight Transportation and Airlines Analyst.

Alex Straton: And I'm Alex Straton, Morgan Stanley's North America Softlines, Retail and Brands Analyst.

Ravi Shanker: On this episode of the podcast, we'll discuss some really surprising parallels between fashion, retail, and airlines.

It's Monday, April 29th at 10am in New York.

Now, you're probably wondering why we're talking about airlines and fashion retail in the same sentence. And that's because even though they may seem worlds apart, they actually have a lot in common. They're both highly cyclical industries driven by consumer spending, inventory pressure, and brand attrition over time.

And so, we would argue that what applies to one industry actually has relevance to the other industry as well. So, Alex, you've been observing some remarkable turnaround stories in your space recently. Can you paint a picture of what some fashion retail businesses have done to engineer a successful turnaround? Maybe go over some of the fundamentals first?

Alex Straton: What I'll lead with here is that in my North America apparel retail coverage, turnarounds are incredibly hard to come by, to the point where I'd argue I'm skeptical when any business tries to architect one. And part of that difficulty directly pertains to your question, Ravi -- the fundamental backdrop of the industry.

So, what are we working with here? Apparel is a low single digit growing category here in North America, where the average retailer operates at a mid single digit plus margin level. This is super meager compared to other more profitable industries that Ravi and I don't necessarily have the joy of covering. But part of why my industry is characterized by such low operating performance is the fact that there are incredibly low barriers to entry in the space. And you can really see that in two dynamics.

The first being how fragmented the competitive landscape is. That means that there are many players as opposed to consolidation across a select few. Just think of how many options you have out there as you shop for clothing and then how much that has changed over time. And then second, and somewhat due to that fragmentation, the category has historically been deflationary, meaning prices have actually fallen over time as retailers compete mostly on price to garner consumer attention and market share.

So put differently, historically, retailers’ key tool for drawing in the consumer and driving sales has been based on being price competitive, often through promotions and discounting, which, along with other structural headwinds, like declining mall traffic, e-commerce growth and then rising wages, rent and product input costs has actually meant the average retailers’ margin was in a steady and unfortunately structural decline prior to the pandemic.

So, this reliance on promotions and discounting in tandem with those other pressures I just mentioned, not only hurt many retailers’ earnings power but in many cases also degraded consumer brand perception, creating a super tough cycle to break out of and thus turnarounds very tough to come by -- bringing it full circle.

So, in a nutshell, what you should hear is apparel is a low barrier to entry, fragmented market with subsequently thin margins and little to no precedent for successful turnarounds. That's not to say a retail turnaround isn't possible, though, Ravi.

Ravi Shanker: Got it. So that's great background. And you've identified some very specific key levers that these fashion retail companies can pull in order to boost their profitability. What are some of these levers?

Alex Straton: We do have a recent example in the space of a company that was able to break free of that rather vicious cycle I just went through, and it actually lifted its sales growth and profitability levels above industry average. From our standpoint, this super rare retail turnaround relied on five key levers, and the first was targeting a different customer demographic. Think going from a teens focused customer with limited brand loyalty to an older, wealthier and less fickle shopper; more reliable, but differently.

Second, you know, evolving the product assortment. So, think mixing the assortment into higher priced, less seasonal items that come with better margins. To bring this to life, imagine a jeans and tees business widening its offering to include things like tailored pants and dresses that are often higher margin.

Third, we saw that changing the pricing strategy was also key. You can retrain or reposition a brand as not only higher priced through the two levers I just mentioned, but also try and be less promotional overall. This is arguably, from my experience, one of the hardest things for a retailer to execute over time. So, this is the thing I would typically, you know, red flag if you hear it.

Fourth, and this is very, very key, reducing the store footprint, re-examining your costs. So, as I mentioned in my coverage, cost inflation across the P&L (profit and loss) historically, consumers moving online over time, and what it means is retailers are sitting on a cost base that might not necessarily be right for the new demand or the new structure of the business. So, finding cost savings on that front can really do wonders for the margins.

Fifth, and I list this last because it's a little bit more of a qualitative type of lever -- is that you can focus on digital. That really matters in this modern era. What we saw was a retailer use digital driven data to inform decision making across the business, aligning consumer experience across channels and doing this in a profitable way, which is no easy feat, to say the least.

So, look, we identified five broad enablers of a turnaround. But there were, of course, little changes along the way that were also done.

Ravi Shanker: Right.

Alex Straton: So, Ravi, given what we've discussed, how do you think this turnaround model from fashion retail can apply to airlines?

Ravi Shanker: Look, I mean, as we discussed, at the top here, we think there are significant similarities between the world of fashion retail and airlines; even though it may not seem obvious, at first glance. I mean, they're both very consumer discretionary type, demand environments. The vicious circle that you described, the price deflation, the competition, the brand attrition, all of that applies to retail and to airlines as well.

And so, I think when you look at the five enablers of the turnaround or levers that you pull to make it happen, I think those can apply from retail to airlines as well. For instance, you target a different customer, one that likes to travel, one that is a premium customer and, and wants to sit in the front of the plane and spend more money.

Second, you have a different product out there. Kind of you make your product better, and it's a better experience in the sky, and you give the customer an opportunity to subscribe to credit cards and loyalty program and have a full-service experience when they travel.

Third, you change your distribution method. You kind of go more digital, as you said. We don't have inventory here, so it'd be more of -- you don't fly everywhere all the time and be everything to everyone. You are a more focused airline and give your customer a better experience. So, all of those things can drive better outcomes and better financial performance, both in the world of fashion retail as well as in the world of airlines.

Alex Straton: So, Ravi, we've definitely identified some pretty startling similarities between fashion retail and airlines. Definitely more so than I appreciated when you called me a couple months ago to explore this topic. So, with that in mind, what are some of the differences and challenges to applying to airlines, a playbook taken from the world of fashion retail?

Ravi Shanker: Right, so, look, I mean, they are obviously very different industries, right? For instance, clothing is a basic human staple; air travel and going on vacations is not. It's a lot more discretionary. The industry is a lot more consolidated in the airline space compared to the world of retail. Air travel is also a lot more premium compared to the entire retail industry. But when you look at premium retail and what some of those brands have done where brands really make a difference, the product really makes a difference. I think there are a lot more similarities than differences between those premium retail brands on the airline industry.

So, Alex, going back to you, given the success of the turnaround model that you've discussed, do you think more retail businesses will adopt it? And are there any risks if that becomes a norm?

Alex Straton: The reality is Ravi, I breezed through those five key enablers in a super clear manner. But, first, you know, the enablers of a turnaround in my view are only super clear in hindsight. And then secondly, one thing I want to just re-emphasize again is that a turnaround of the nature I described isn't something that happens overnight. Shifting something like your consumer base or changing investor perception of discounting activity is a multi year, incredibly difficult task; meaning turnarounds are also often multi year affairs, if ever successful at all.

So, looking ahead, given how rare retail turnarounds have proven to be historically, I think while many businesses in my coverage area are super intrigued by some of this recent success; at the same time, I think they're eyes wide open that it's much easier said than done, with execution far from certain in any given turnaround.

Ravi Shanker: Got it. I think the good news from my perspective is that hindsight and time both the best teachers, especially when put together. And so, I think the learnings of some of the success stories in your sector can not only be lessons for other companies in your space; they can also be lessons in my space. And like I said, I think some airlines have already started embarking on this turnaround, others are looking to see what they can do here. And I'm sure again, best practices and lessons can be shared from one sector to another. So, Alex, thanks so much for taking the time to talk to us today.

Alex Straton: It was great to speak with you, Ravi.

Ravi Shanker: And thanks for listening. If you enjoy Thoughts on the Market, please leave us a review wherever you listen to the show and share the podcast with a friend or colleague today.

Our Chief Fixed Income Strategist takes listeners behind the curtain on Morgan Stanley’s expectations for markets over the next 12 months.

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Welcome to Thoughts on the Market. I am Vishy Tirupathur, Morgan Stanley's Chief Fixed Income Strategist. Along with my colleagues bringing you a variety of perspectives, today I'll be talking about the key debates we engaged in during the mid-year outlook process.

It's Tuesday, June 4th at 1pm in New York.

Over the last few episodes, you've been hearing a lot about Morgan Stanley's midyear outlook, where our economists have forecasted a sunny macro environment of decelerating growth and inflation, and policy easing in most developed market economies, leading to a positive backdrop for risk assets in the base case, especially in the second half of the year.

But beyond the year end, many uncertainties -- uncertainties of outcomes and uncertainties of the consequences of those outcomes -- point to a wider range of outcomes, driving a wider than normal bull versus bear skew in our expectations for markets over the next 12 months.

As always, these outlooks are the culmination of a process involving much deliberation and spirited debate among economists and strategists across all the regions and asset classes we cover. I thought it might be useful to detail some of these debates that we've had during the process to shed a better light on the forecast in our outlook.

First, given the many changes to market pricing of Fed's rate cuts year to date, driven by higher-than-expected inflation, the path ahead for US inflation was heavily debated. Our economists argued that the acceleration in goods and financial services prices, which explains a substantial portion of the upside in the first quarter inflation data should decelerate from here. And also that leading indicators point to a weaker shelter inflation ahead. Their analysis also showed that residual seasonality contributed to the unexpected strength in first quarter [20]24 inflation data, suggesting a payback has to happen in the second half of 2024.

The outlook for China economy and our cautious stance on the market was another point of debate, mainly because China's growth has surprised to the upside relative to our 2024 year ahead outlook. Our economists argued that while there are a few policy positives on housing and green products mitigating the debt deflation spiral, growth remains unbalanced and subpar. So, we discussed our cautious stance on China equity markets against this backdrop and concluded that the equity market recovery is still very challenging in China.

Third, given the combination of favorable technicals, solid fundamentals, and a relatively benign economic outlook, we debated whether corporate credit, on which we are constructive, should we be even more constructive in our forecasts. After all, the setup for corporate credit has many elements similar to those during the mid 1990s, when, for example, US IG index spreads were about 30 basis points tighter versus the current spread targets. 

Our strategist highlighted the significant differences in the market structure, the composition of the index, and the duration of the underlying bonds that make up this index today, versus 1990s -- all of which put a higher floor on spreads, which explains our spread targets.

The debates notwithstanding, we cannot argue with the benign macro backdrop and what that means for the second half of 2024. We turn overweight in global equities and overweight in a range of spread products within fixed income, most notably agency MBS, EM Sovereign credit, leveraged loans, securitized credit, especially CLO equity tranches.

Thanks for listening. If you enjoyed the podcast, please leave us a review wherever you listen and share Thoughts on the Market with a friend or colleague today.

Our Chief Cross-Asset Strategist explains why the high correlation between stocks and bonds could work in investors’ favor throughout the second half of this year.

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Welcome to Thoughts on the Market. I’m Serena Tang, Morgan Stanley’s Chief Cross-Asset Strategist. Along with my colleagues bringing you a variety of perspectives, today I’ll discuss why we believe bonds and equities can both rally this year, with the still-elevated correlations between the two assets a boon rather than a bane to investors.

It’s Monday, June 3rd at 10am in New York.

In our mid-year outlook two weeks ago, we expressed our bullish view on both global equities and parts of fixed income space like agency mortgage-backed securities and leveraged loans, on the back of the benign economic backdrop our economists are forecasting for in the second half of 2024.

Now, this may be surprising to some. Received wisdom is that in an environment of rate cuts and falling yields, equities can't perform well because the former usually maps to growth slowdowns. When equities see double-digit upside – which is what we’re projecting for European equities – it’s unusual for bonds to also see strong and positive returns, which is what we’re projecting for German government bonds.

And I want to push back on this received wisdom that we can’t have an ‘everything rally’. When we look at the annual performance of global stocks and 10-year US Treasuries every year going back to 1988, in the 13 times when the Fed cut rates over the course of the year, bond yields were lower and equities were up 43 per cent of the time. And in those periods, stock returns averaged 18 per cent while yields fell over 1 percentage points. ‘Everything rallies’ happen often in this very macro backdrop of benign growth and Fed cuts we’re expecting, And when they do happen, everything indeed rallies – strongly.

Or to frame it another way – our expectations for both global equities and fixed income to see strong total returns this year is the flipside of what markets had experienced in 2022. Now back then, unlike in most other prior cycles, stock-bond return correlations were high because inflation was elevated even as growth was sluggish, meaning that bonds sold off on higher rates expectations, and equities on bad earnings. Today, with our view that global growth can be robust while disinflation continues, the opposite will likely be true; bonds should rally on lower rates expectations, and equities on strong earnings revisions. Stock-bond return correlations are still elevated, but it should work in an investor’s favor this year.

Lean into it. Good macro, fair fundamentals, pockets of attractive valuations all make for a strong environment for risk assets, a reason for us to get more bullish on European and Japanese equities, but also in fixed income products like leveraged loans and Collateralized Loan Obligations.

Thanks for listening. If you enjoy the show, please leave us a review wherever you listen and share Thoughts on the Market with a friend or colleague today.

In a generally positive environment for corporate credit, the recent performance of high-yield bonds in the telecom, media and technology (TMT) sector offers a market contrast. Our Lead Analyst for High-Yield TMT joins our Head of Corporate Credit Research to explain the divergence.

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Andrew Sheets: Welcome to Thoughts on the Market. I'm Andrew Sheets, Head of Corporate Credit Research for Morgan Stanley.

David Hamburger: And I'm David Hamburger, Head of US Sector Corporate Credit Research and Lead Analyst for the high yield telecom, media, and technology sectors.

Andrew Sheets: And today on the podcast we'll be discussing the contrast between strong overall markets in credit and a whole lot of volatility in the high yield TMT space.

It's Friday, May 31st at 10am in New York.

So, David, it's great to talk to you. You know, listeners have probably been hearing about our views on overall markets and credit markets for the 12 months ahead.

We have US growth at 2 percent. We have inflation coming down. We had the Fed lowering interest rates. But there’s needless to say; there's some pretty notable contrast between that sort of backdrop and the backdrop we've had for credit year to date, which has been pretty calm, pretty strong -- and what's been going on in your sector.

So maybe before we get into the why -- let's talk about the what and bring people up to speed on the saga that's been high yield TMT year.

David Hamburger: Yeah. I'm here today to disavow you of any notion that everything is fine and dandy in the market today. So, if you look at the high yield communications sector, it's trading about 325 basis points wide of the overall high yield index. And just to give you that magnitude of that -- the high yield index trading around 300 basis points -- we're talking about 625 basis points over. Now, the high yield communication sector as well is trading about 275 basis points, wider than the next widest sector in the index.

And so, it's pretty astounding today, given the market backdrop, how much underperformance we've seen in this sector.

Andrew Sheets: What's been causing this just large divergence between high yield TMT and what seems like a lot of other things?

David Hamburger: Yeah, I think there are two forces at work here. One's kind of a broader set of issues that I can outline for you. Really, I think it's a combination of one, the maturation of the communications marketplace. Coming out of COVID, we certainly had accelerated adoption of broadband and wireless services. That in and of itself has created a lot of intense competition.

And as such, we've seen a lot of technological advances that have created some secular pressures on the space. As well, when you pair that up with elevated financial leverage, all coming together at a time when the marginal cost of capital for companies has increased due to higher interest rates. Those are really some of the underlying forces at work that have driven underperformance in this sector.

But some companies have managed to navigate this environment. And I would say by and large, it's those with really strong balance sheets. But that has really cast a shadow on this sector -- is the fundamental and financing issues.

When you think about the bloated balance sheets that some of the other companies have had, they've been exploring a whole new set of transactions and, evaluating different options for their balance sheets. And that's probably the more sinister thing that we've seen in the market of late.

Andrew Sheets: So, so tell me a little bit more about this. You know, what are some of the types of things that companies can do that often leave the bond holder unhappy?

David Hamburger:  We all became all too aware of what private equity sponsors might do back in the heyday of LBOs, and we still live in that world today, and it's really fairly well known.

You know, I've been in the credit markets for more than 20 years, but I can't recall a time we've seen so many management teams and controlling shareholders now that are at odds with their creditors because of elevated leverage and the business risks they face. So really, the prospect of real and expected liability management has created a lot of dislocation across companies’ capital structures.

So, what have they done? We look and see companies that have been exploring liability manage, taking advantage of weak protections in certain credit documentation in their structure at the expense of other creditors in the same capital structure. So, we have one company where you see this dislocation in their term loans. They have the same pool of collateral between two different term loans with two different maturities. The later dated maturity is trading higher than the nearer dated maturity, strictly or solely because of the better protections in that documentation. And the premise being, you can negotiate with that class of creditors, give them an advantaged position in the capital structure at the expense of other creditors -- in order to somehow manage the balance sheet and manage those liabilities.

Andrew Sheets: And David, is it fair to say that this is a direct outcrop of, you know -- a term some people might have heard of -- of covenant light debt, where, you know, usually debt has certain legal protections that mean that the bondholder is more assured of getting paid back or not being made a less well off than other lenders. But you know, we did see some of that change during different, stronger market conditions. Is that a partial explanation of what's going on?

David Hamburger: That's exactly right, Andrew. We are seeing the result, if I might say, the hangover from some of these covenant light deals that came to market over the last few years; almost to the point of speak to some clients and they will just want to know what is the vintage of that secured debt issue that you're talking about because there were certain years where they were far more flexible documentation and protections. And now, given where the equity markets are trading and the financing environment, you see a lot of those securities trading at severe discounts to par, which is unusual because, again, in my 20-year career, I've not often seen companies with billion-dollar equity market caps and bonds trading in the 20, 30, or 40 cents on the dollar.

You would think that if a company had a substantial market cap, that their bonds would be trading closer to par and would have value. But what really the market's, I think, pricing in is this transference of value from creditors to shareholders; and the opportunity cost associated with these shareholders; or controlling shareholders or management teams looking to capture those discounts that they now see in their bonds; or in their loans to the benefit of equity shareholders -- really puts all constituents in the company's balance sheet, if you will, at odds with one another.

Andrew Sheets: So, David, this is so interesting because again, I think, you know, for a lot of listeners, you can read the newspaper, you see the headlines, the market looks very strong and stable. And yet, there's definitely a tempest that's been brewing, you know, in your sector. For people who are investing in high yield TMT, what are you think the most important things that you're looking out for in your credit coverage?

David Hamburger: Well, look, we're forced to really dig in and scrutinize these credit docs and really understand what protections are there, understanding how companies might navigate through those protections in order to prolong or preserve their equity value or the equity options in their companies.

It's not like we're trying to be alarmists in saying this is a canary in the coal mine, but it is certainly a cautionary tale for any high yield investor to be well versed in those credit documentation, understanding the protections in those debt securities.

And we have seen bondholders and creditors, largely even in loans, you know, get together in co-op agreements to push back on some of these aggressive liability management transactions. And that, I think, is really important in an environment where yields have come back in and, you know, where people look at opportunities and maybe we could, once again, see two things. One, a reach for yield, where you're looking at sectors that have underperformed. And secondly, should we get back into an environment of covenant light docks once again? So, I don't want to be talking about this again in a few years’ time. And it's not something that the market has helped resolve rather than just perpetuate.

Andrew Sheets: David, it's fascinating as always. Thanks for taking the time to talk.

David Hamburger: Thank you Andrew. Glad to be here.

Andrew Sheets: And thanks for listening. If you enjoy the show, please leave us a review wherever you get your podcast and share Thoughts on the Market with a friend or colleague today.

Our Chief Europe Economist explains why the region’s outlook over the next year is trending upward, including how higher growth will lead to lower interest rates this cycle.

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Welcome to Thoughts on the Market. I’m Jens Eisenschmidt, Morgan Stanley’s Chief Europe Economist. Along with my colleagues bringing you a variety of perspectives, today I will discuss our outlook for Europe’s economy in the second half of 2024 and into next year. 

It’s Thursday, May 30 at 10am in Frankfurt.

So, over the last year, we have had a relatively downbeat outlook for Europe's economy, but as we head into the second half of this year our view is decidedly more optimistic. After bottoming last year, euro area growth should reach 0.7 per cent annualized terms in 2024 and 1.2 per cent in 2025 on the back of stronger consumption and exports. Inflation is on its way to the European Central Bank’s target, paving the way for the ECB to start cutting rates in June with three cuts in 2024, for a total of 75 basis points, and four more cuts in 2025, for a total of 100 basis points.

What’s particularly notable, though, is the set-up of this growth rebound is highly unusual for several reasons.

Let's start with inflation. In a normal environment, higher growth leads to higher inflation and vice versa. This time is different. The euro area needs to grow faster to get inflation down. The reason is that faster growth should lead to better resource utilization in sectors characterized by labor hoarding or keeping a surplus of employees. This should keep unit labor costs – or how much a business pays its workers to produce one unit of output – in check. We’re expecting further wage increases, mostly driven by the catch-up with past inflation, and so higher productivity is a way to cushion the pass-through to prices.

So again, just to repeat, we are in a cycle where we need higher growth to get inflation down and not as usual, we have higher growth and that gets us more inflation. Of course, there is a limit to that. If we get too much growth, that would be an issue potentially for the ECB. And if you get too little growth, that is another issue because then we won't get the productivity rebound.

In some sense, you could think of the growth we need as a landing strip and we need to come in at that landing strip precisely; and so far, the signs are there that is exactly the picture we are getting in 2024 and 2025 in Europe.

Now the monetary and fiscal policy mix is another area where this cycle stands out. So normally, monetary policy would tighten into an upswing and ease into a downturn, while fiscal policy would be expansionary in a downturn and contractionary in an upswing. Euro area monetary policy is currently restrictive – but it’s set to get less restrictive over time. The likelihood of rates coming down is hardly bad news for growth. But policymakers will need to take care to not reignite inflation in the process. 

So all of that gives rise to the gradualism that the European Central Bank has been signaling it will use in its policy easing approach. And again, think about the landing strip metaphor. If we are not gradual enough and we reignite a growth too much, and with it inflation, we might be exiting the landing strip in one way or the other.

Thanks for listening. If you enjoy the show, please leave us a review wherever you listen and share Thoughts on the Market with a friend or colleague today.

Our Global Head of Fixed Income and Thematic Research reflects on Japanese investors’ interest in the outcome of the upcoming presidential vote in the US.

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Welcome to Thoughts on the Market. I'm Michael Zezas, Morgan Stanley's Global Head of Fixed Income and Thematic Research. Along with my colleagues bringing you a variety of perspectives, today I'll be talking about the upcoming US elections.

It's Wednesday, May 29th at 10:30am in New York.

I recently returned from Tokyo, having attended and presented at Morgan Stanley's inaugural Japan summit. And while I was asked to present on topics ranging from our fixed income markets outlook to the role of Japan in an increasingly multipolar world, my one-on-one conversations always tracked back to the same client question: who will win the US election.

Of course this is a matter of great importance globally. But the investor in Japan is particularly interested in whether possible election outcomes could disrupt their rosy economic outlook – either through new tariffs or increased geopolitical tensions between the US and China, and also North Korea. To that end, many were focused on polls showing former President Trump with sufficient support to win the election, asking how predictive this would be of the ultimate outcome. 

Here our view remains, for all investors, that polls aren't giving a reliable signal yet. The election is still several months away. And Trump doesn't have leads beyond a normal polling error in sufficient states to win the presidency. 

So, investors still need to consider the potential impacts of a variety of US electoral outcomes. That's perhaps not the most settling answer for investors, who strive to limit uncertainties. But we think it's the most honest one. And as we've been doing in this space all year, we'll continue to walk you through the outcomes, policy impacts, and resulting market effects you need to be aware of. 

Thanks for listening. If you enjoy the podcast, please leave us a review wherever you listen and share Thoughts on the Market with a friend or colleague today.

Our Chief Europe Equity Strategist explains why she is forecasting a 23 percent total return for European equities over the next year.

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Welcome to Thoughts on the Market. I’m Marina Zavolock, Morgan Stanley’s Chief European Equity Strategist. Along with my colleagues bringing you a variety of perspectives, today I’ll discuss why our mid-year outlook extends our bullish view on European equities.

It’s Tuesday, May 28, at 10am in London.

We have recently updated our outlook for the year ahead, maintaining our bullish view on European equities as we fully incorporate and roll forward our mid-1990s “soft landing” playbook. Like today, the mid-1990's was a period where markets focused on rates, inflation, and related data above anything else. The US and Europe saw soft and “softish” landings, the Fed’s cutting cycle was slower than investors initially expected, and there was an undercurrent of technological innovation. European equities, in particular, are following the mid-1990s path closely, and that means both a mid-cycle extension and a strong market set-up.

We have high conviction in our constructive European equities view and have recently raised our one year forward MSCI Europe Index target to 2,500 – 18 percent potential upside. This brings potential total return upside – if we incorporate dividends and buybacks – to 23 percent.

So why do we remain bullish? Over the second half of this year in particular we anticipate European equities ongoing re-rating is likely to combine with an emerging European equities earnings recovery. We’ve just come out of one of the strongest earnings seasons Europe has had in several quarters and we anticipate this is only the beginning. Our earnings model projects 7.5 percent earnings growth by year end for MSCI Europe, which is almost double consensus estimates. On top of this, we think the market underappreciates a number of significant thematic tailwinds that benefit European equities. These include rising corporate confidence, an M&A cycle recovery that is leading the global trend, an imminent start to rate cuts, high and rising capital distributions including buybacks, and underappreciated AI diffusion.

In terms of our sector preferences, structurally, we continue to prefer Europe’s quality growth sectors. These include Software, Aerospace & Defense, Pharma, and Semiconductors, along with the Banks sector.

Shorter-term, we also believe a recovery in bond yield-sensitive stocks has begun, which is expected at this stage in our mid-1990s playbook. We expect this rally to be tactical and bumpy but ultimately more powerful than a similar rotation that occurred around the Fed pivot late last year. We recently upgraded Building & Construction to overweight to play this rotation.

Although we believe European equities are in the sweet spot over the second half of 2024, we expect the bar for continued performance to become tougher by the time we get into first half of 2025. Also, our bear case incorporates rising geopolitical risks and lower-than-expected economic growth – the latter in line with our economists' bear case. A US election scenario that would bring a change in the status quo is also a risk for European equities, albeit it’s far more idiosyncratic than broad-based according to our in-depth analysis.

Thanks for listening. If you enjoy the show, please leave us a review wherever you listen and share Thoughts on the Market with a friend or colleague today.

Our Head of Corporate Credit Research explains why moderate economic growth offers opportunities in credit markets – if investors choose carefully.

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Welcome to Thoughts on the Market. I'm Andrew Sheets, Head of Corporate Credit Research at Morgan Stanley, along with my colleagues, bring you a variety of perspectives Today, I'll be talking about our outlook for credit markets over the next 12 months.

It's Friday, May 24th, at 9 a. m. in New York. Morgan Stanley's global economic and strategy teams have recently published our mid year outlook. Twice a year, all of us get together to take a step back, debating what we think the outlook could look like over the 12 months ahead. For credit, we think that backdrop still looks pretty good.

Corporate credit, in representing lending to companies, is an asset class that loves moderation and hates extremes. An economy that's too weak raises the risk that companies fail, and has been consistently bad for returns. But an economy that's too strong also causes challenges, as companies take more risks, the rewards of which often go to stockholders, not their lenders.

The good news for credit is that Morgan Stanley's latest economic forecasts are absolutely full of moderation for economic growth. We see the U.S. growing at about 2 percent this year and next and Europe growing at about 1%. Right in that temperate zone, the credit usually finds optimal.

We see inflation falling, with core inflation back to 2 percent in the U. S. and Europe over the next 12 months. And monetary policy should also moderate, with the Federal Reserve, European Central Bank, and the Bank of England All lowering interest rates as this inflation comes down.

For credit, forecasts that expect moderate growth, moderating inflation, and moderating interest rates are exactly that down the fairway outcome that we think markets generally like. The challenge, of course, is that spreads have narrowed and lower risk premiums are discounting a lot of good news. So how do investors navigate richer valuations within what we think is still a very supportive economic backdrop?

One thing we continue to like is leveraged loans, where yields and spreads we think are more attractive. In the U. S., yields on loans are still north of 9%. We like short dated investment grade bonds, which we think offer a good mix of income and stability, and also happen to correspond to the maturity range that our interest rate colleagues expect yields to see the largest decline.

That should help total returns. And in Europe, we don't think spreads are particularly tight. And that should be further supported by relatively upbeat views on the European stock market from our equity strategies. Morgan Stanley's macroeconomic backdrop, which is full of moderation, is supportive for credit.

Tighter valuations are a challenge, but given this moderate backdrop, we think they can stay expensive. We still think there are good opportunities within credit, but investors will have to pick their spots. Thanks for listening. If you enjoy the show, please leave us a review wherever you listen, and share thoughts on the market with a friend or colleague today.

With cooling inflation and an expected drop for mortgage rates, will more affordable housing lead to a big spike in sales? Our Co-Heads of Securitized Product Research take stock of the US housing market. 

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Jay Bacow: Welcome to Thoughts on the Market. I'm Jay Bacow, co-head of Securitized Products Research at Morgan Stanley.

James Egan: And I'm Jim Egan, the other co-head of Securitized Products Research at Morgan Stanley.

Jay Bacow: And on this episode of the podcast, we'll discuss our outlook for mortgage rates and the housing market over the next 12 months.

It's Thursday, May 23rd, at 1pm in New York.

James Egan: Jay, I want to talk about mortgage rates. From November through January, mortgage rates decreased over 120 basis points. But then from February to May, they've given back more than half of that decline. Where are mortgage rates headed from here?

Jay Bacow: So, day to day, week to week, it's hard to have a lot of conviction, a lot of things can happen. But, over the next 12 months, we think mortgage rates are coming down. We estimate that by summer 2025, the 30-year fixed rate mortgage will be roughly 6.25 per cent.

James Egan: Alright, that is a significant amount lower than about 7 per cent where we are right now. And that's good news for affordability in the US housing market. What gets us there?

Jay Bacow: We think inflation is going to cool, and our economists are forecasting that the Fed is going to cut their policy rate by 75 basis points this year and 100 basis points next year. In fact, our economists are forecasting eight of the G10 central banks to cut rates next year.

Now, mortgage rates are 30 year fixed rate products, so they're based more on where the longer end of the treasury curve is than the front end. But our rate strategists think ten year notes are going to rally to 375 by next summer.

When you combine all of that with our expectation for secondary mortgage rates to tighten versus treasuries, that's how we end up with that forecast for the primary rate to rally.

James Egan: All right, I want to dig in there. I really like how you highlighted the secondary mortgage rates tightening versus treasuries. One thing I know that we've both gotten a lot of questions on over the course of the past year plus is how wide mortgages are trading versus treasuries right now. So, what do you think drives that tightening basis?

Jay Bacow: There’s a lot of factors -- but in end, two of them that are always going to drive things are supply and demand. One of the interesting things is that while housing activity has picked up, we're near the decade high in the percentage of homes that are bought with all cash, which means that the supply of mortgages to the market is actually not that high.

On the demand front, we think you're going to get demand from a broad spread of investors. We think there's been some money manager supported inflows into the mortgage market. We think that as the Fed cuts rates and you get the Basel III endgame resolution, domestic banks are going to come back to the market as they get more regulatory clarity.

And then also as the Fed cuts rates, that means that FX (foreign exchange) hedging costs for overseas investors will be improved and so you think Japanese life insurance companies can go back to the market and we think there's going to be continued demand from Chinese commercial banks. But, if you get all of this support, then as mortgage rates come down, that should be good news on the affordability front in the housing market, right Jim?

James Egan: Exactly. When we combine that decrease in mortgage rates with what our US economics team is saying will be about mid-single digit growth in nominal incomes, we get an improvement in affordability over the next 12 months that we've only seen a handful of times over the past 30 years.

Jay Bacow: Now this six and a quarter forecast is certainly good news versus spot rates. It's almost two per cent below the peaks we saw last year, but I don't really think it solves the lock-in effect that we've discussed on this podcast previously.

Close to 80 per cent of homeowners have a mortgage rate below 5 per cent. So, they're still out of the money versus our expectations for our mortgage rates going next year.

James Egan: Right, and we think that's a very important point. You made the point earlier about thinking about supply and demand with respect to mortgage rates versus treasuries, and we're going to talk about it here in the housing market. We have to think about affordability improvement in terms of both that supply and demand piece.

If we look back towards the start of this year, I'd say that demand increased a little bit faster, a little bit stronger than we thought. Typically, when you see sharp improvements in affordability, it doesn't always lead to immediate increases in sales volumes. However, what we saw from November to January seemed to be a little bit quicker to stir animal spirits, perhaps because of how healthy this improvement in affordability was. Home prices were still climbing. Mortgage rates weren't even coming down because the Fed was cutting; it was because of market expectations for future fed cuts in a soft landing environment. But on the supply side, while we expect for sale listing volumes to increase as rates come down, they aren't going to race higher because of that lock-in dynamic that you just described.

Jay Bacow: So, Jim, you think more people will list their homes; but what will actually happen to sales volumes? Will people buy them?

James Egan: Right. So, I think we have to delineate between existing home sales and new home sales here. Yes, we think existing listings are going to increase on the margins. New home inventory has already increased.

Historically, new homes make up about 10 to 20 per cent of the for-sale inventory on a monthly basis. Right now, they're between 30 and 35 per cent, and that's been the case for a little while. So, when we think about our forecasts for sales volumes, we're confident that new home sales will increase more than existing home sales. And that that growth in new home sales will spur single unit starts to increase more than both of them. 

Our specific spot forecasts, 10 per cent growth in new home sales, 5 per cent growth in existing home sales, with single unit starts edging out a double digit return of about 15 per cent growth. 

Jay Bacow: Do you have specific spot forecasts for home prices as well? 

James Egan: We do. As supply increases, the pace of home price growth should slow from where it is right now. It's been accelerating for the past several months, but the absolute level of supply is still pretty tight. We're at 3.8 months of supply as we're recording this podcast. Any reading below 6 is really associated with home price growth, not just today, but at least over the course of the next 6 months -- and we're well below 6 months of inventory.

Right now, home prices are growing at about 6.5 per cent. We think they're growing to slow to about 2 per cent by the end of 2024, before accelerating to 3 per cent in 2025. So, while growing inventory leads to deceleration, tight inventory keeps home price appreciation positive.

Jay Bacow: Alright so, home sale activity is going to pick up. It's going to be led by starts, which we think will be up 15 percent and more new home sales than existing home sales. There’s new home sales up 10 per cent. Home prices we now think will end the year positive; up 2 per cent in 2024 and up 3 per cent in 2025.

Jim, always a pleasure talking.

James Egan: Great speaking with you, Jay.

Jay Bacow: And thank you for listening. If you enjoy Thoughts on the Market, please leave us a review wherever you listen and share the podcast with a friend or colleague today.

Why is the US economy poised for a strong second half of the year, despite slowing GDP growth? Our Chief US Economist points to population growth, housing demand and anticipated Fed rate cuts. 

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Ellen Zentner: Welcome to Thoughts on the Market. I'm Ellen Zentner, Morgan Stanley's Chief US Economist. Along with my colleagues bringing you a variety of perspectives, today I'll discuss our mid-year outlook for the US economy. 

As we near the midpoint of this year, we refresh our outlook for the second half of the year. In our base case, the US economy remains strong, but US GDP growth is slowing, and slowing from 3.1 percent on a fourth quarter over fourth quarter basis last year, to 2.1 percent this year and in 2025.

Okay, so what's behind the continued strength? Well, it's something we've been intensely following this year. Faster immigration and population growth will continue to expand the labor supply and support economic activity, and all without increasing inflationary pressures. So, whereas the mid-pandemic labor market was characterized by persistent shortage of labor, the supply of labor is now increasing, and we think will outstrip demand this year.

This will drive the unemployment rate higher, which we expect will end this year half a point above 2023 at 4.2 per cent and rise further to 4.5 per cent in 2025. And wage gains should moderate further as the unemployment rate rises. We think consumer activity will continue to slow this year and into 2025 as that cooling labor market weighs on growth in real disposable income and elevated interest rates keep borrowing costs high.

Tight lending standards also limit credit availability. That said, we do think lower rates are on the horizon, and this should spur a pickup in housing demand and goods spending around the middle of next year. In fact, after substantial reflation numbers in the first quarter of 2024, we expect lower inflation numbers ahead. We've already seen that in the April data, as rents, goods, and services prices decelerate. 

The Fed has held the policy rate steady at a range of 5.25 to 5.5 per cent since July 2023, and we expect it will deliver the first quarter point cut in September this year. In total, we expect three quarter point cuts this year, and four more by the middle of next year, which lowers the policy rate to around 4.5 per cent in the fourth quarter this year to about 3.5 per cent in the fourth quarter of 2025. But even before rate cuts, the Fed has announced it will start phasing out Quantitative Tightening, or QT, in June. We expect QT to end around March 2025, when the Fed's balance sheet is a little above 3 trillion.

Finally, let's talk about housing. We expect continued growth in residential investment through 2025, with a rapid rise in housing starts, solid new home sales, and a bit more turnover in existing home sales as mortgage rates fall. Home building and increased brokerage commissions should keep residential investment on the boil, posting a 4.6 per cent rise on a 4th quarter over 4th quarter basis this year and 3.2 per cent in 2025. Our residential investment forecasts are a good deal stronger than we expected in the year ahead outlook we published last November. Booming first quarter growth probably reflected a combination of the warm winter and the temporary downswing in mortgage rates. We don't expect the same outperformance later in the year. But at the same time, housing demand is greater than we had anticipated amid that faster population growth. 

Thanks for listening. If you enjoy the show, please leave us a review wherever you listen and share Thoughts on the Market with a friend or colleague today.

Our Global Cross-Asset Strategist and Global Chief Economist discuss the state of asset markets at the midway point of 2024, and why the current backdrop suggests positive directions for several key markets.

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Seth Carpenter: Welcome to Thoughts on the Market. I'm Seth Carpenter, Morgan Stanley's Global Chief Economist.

Serena Tang: And I'm Serena Tang, Morgan Stanley's Chief Global Cross Asset Strategist.

Seth Carpenter: And yesterday, Serena, you and I discussed Morgan Stanley's global economic mid-year outlook. And today, I'm going to turn the tables on you, and we'll talk about asset markets.

It's Tuesday, May 21st, at 10am in New York.

Okay, so yesterday we talked about all sorts of different parts of the macro environment. Disinflation, inflation, central bank policy, growth. But when you think about all of that -- that macro backdrop -- what does it mean to you for markets across the world?

Serena Tang: Right, I think the outlook laid out by your team of stable growth, disinflation, rate cuts. That is a great backdrop for risk assets, one of the reasons why we got overweight in global equities. Now, there will likely be low visibility and uncertainty beyond year end, and why we recommend investors should focus on the triple C's of cheap optionality, convexity, and carry.

That very benign backdrop suggests more bullish possibilities. Your team has noted several times now that the patterns we're seeing now and what we expect have parallels to what happened in the mid 1990s -- when the Fed cut in small increments, US growth was sustained at high levels, and the labor market was strong. And now I'm not suggesting that this is 1990s and we should party like it. But just that the last time we found ourselves in this kind of benign macro environment, risk assets -- actually most markets did really well.

Seth Carpenter: So, I will say the 1990s was a pretty good decade for me. However, you mentioned some uncertainty ahead, low visibility. We titled our macroeconomic outlook ‘Are we there yet?’ Because I agree, we do feel like we're on a path to something pretty good, but we're not out of the woods yet. So, when you say there's some low visibility about where asset markets are going, maybe beyond year end, what do you mean by that?

Serena Tang: I think there's less visibility going into 2025. And specifically, I'm talking about the US elections. When I think about the range of possible outcomes, all I can confidently say is that it's wide, which I think you can see reflected in our strategist's latest forecast. Most teams actually have relatively constructive forecast returns for their assets in the base case, but there's an unusually wide gap between their bull and bear cases for bond and equity markets.

Seth Carpenter: Let me narrow it down a little bit because equity markets have actually performed pretty well during the first half of the year. So what do you think is going to happen specifically with equities going forward? How should we be thinking about equity markets per se?

Serena Tang: Equities have rallied a lot, but we've actually gotten more bullish. I talked about the three Cs of cheap optionality, convexity, and carry earlier, and I think European and Japanese equities really tick these boxes. Both of these markets also have above average dividend yields, especially for a dollar-based FX hedge investor.

Serena Tang: Where we think there might be some underperformance is really in EM equities, but it's a bit nuanced. Our China equity strategy team thinks that consensus mid-teens earnings growth expectation for this year will still likely to disappoint given the Chinese growth forecast that you talked about yesterday.

Seth Carpenter: Alright, in that case. Let me flip over to fixed income. A lot of that is often driven by central banks. Around the world, you just mentioned EM equities may be struggling a little bit. A lot of EM central banks are either cutting a little bit ahead of the Fed, but being cautious, worrying about not getting too far ahead of the Fed. So, if that's what's going on with policy rates at the very front end of the curve, what's happening in fixed income more broadly?

Serena Tang: We generally see government bond yields lower over the forecast horizon for two reasons. On your team's forecast of central banks cutting rates and also in the US, an optical rise in the unemployment rate, our macro strategy team forecasts for the 10 year U.S. Treasury yields to fall to just above 4 per cent by the end of this year. And because government bond yields will be coming down, we also expect yields for spread products like agency MBS, investment grade, etc. to also come down. But I think for these spread products, returns can be positive beyond that duration piece.

Serena Tang: So, credit loves moderation, and I think the mild growth backdrop your team is forecasting for is exactly that. US fixed income more generally should also see renewed flows from Japanese investors as FX hedging costs come down over the next six months. All of this supports tighter than average spreads.

Seth Carpenter: Okay, so we talked about equities, we talked about fixed income. Big asset class that we haven't talked about yet are commodities. How bullish are you going into the summer? What do you think is going to go on and can that bullish view that you guys have last even longer?

Serena Tang: So for crude oil, our strategists see market tightness over the summer, which could drive Brent to about $90 per barrel. You have demand coming in stronger than expected, and of course OPEC has extended its production agreement.

But we also don't really expect prices to hold over the medium term. Non-OPEC supply should meet most of the global demand growth later this year and into 2025, which sort of leaves very little room for OPEC to unwind production cuts. We expect Brent to revert back steadily to its long-term anchor, which is probably somewhere around $80 per barrel.

Serena Tang: For copper, it’s actually our metal strategist's top pick right now, and it's very much driven by, I think, tightening supply and demand balance. You've had significant mine supply disruptions, but also better than expected demand and new drivers such as -- we've talked about AI a lot, data centers and increasing participation.

Serena Tang: And on gold, in our view, pricing is likely to remain pretty choppy as investors have to weigh inflation risk, incoming data, and the Fed path. But historically, that first rate cut tends to be a very positive catalyst for gold. And we see risks more skewed to our bull case at the moment.

Seth Carpenter: Okay, so talked about equities, talked about fixed income, talked about commodities. These are global markets, and often when investors are looking around the world and thinking about what it means for them, currencies come into it, and everybody's always going to be looking at the dollar. So why don't you run us through the Morgan Stanley view on where the US dollar is going to go over the rest of this year, and maybe over the next 12 months.

Serena Tang: The short answer is we see the dollar staying stronger for longer. Yes, we expect central banks to begin cutting this year. But the pace of cuts and ultimate destinations are likely to vary widely. Now another potential dollar tailwind is an increased risk premium being priced for the 2024 US elections. We think that investors may begin to price in material risks to dollar positive changes in US foreign and trade policy as the election approaches, which we assume will sort of begin ramping up in the third quarter.

Seth Carpenter: All right, let's step back from the details. I want you to bring us home now. Give me some strategy. So where should people lean in, where should we be looking for the best returns and where do we need to be super cautious?

Serena Tang: In our asset allocation recommendation, we recommend overweight in global equities, overweight in spread products, equal weight in commodities, and underweight in cash.

We really like European and Japanese equities on the back of pretty strong earnings revision, attractive relative valuations, and good carry for a dollar based investor. We like spread products. Not so much that our strategists are not expecting duration to do well. We are still expecting yields to come down.

Serena Tang: Where we are most cautious on, really, continues to be EM equities. From a very top down perspective, the outlook we have is constructive stable growth, continued disinflation, rate cuts. These make for a good environment for risk assets. But uncertainties beyond year end, that really argues for investors to look for assets which have those triple Cs, cheap optionality, convexity, and carry.

And we think Japanese and European equities and spread products within fixed income take those boxes.

Seth Carpenter: Alright, looking at the clock, I'm going to have to cut you off there. I could talk to you all day. Thank you for coming in and letting me turn the tables relative to yesterday when you were asking me all the questions.

Serena Tang: Great speaking with you, Seth. And yes, I know we can go on forever.

Seth Carpenter: And thank you for listening. If you enjoy Thoughts on the Market, please leave us a review wherever you get your podcasts. And share this episode with a friend or a colleague today.

Our Global Chief Economist and Global Cross-Asset Strategist discuss the state of the global economy at the midpoint of 2024, including how the U.S. and Europe are on growth trajectories despite volatile economic data.

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Serena Tang: Welcome to Thoughts on the Market. I'm Serena Tang, Morgan Stanley's chief global cross-asset strategist.

Seth Carpenter: And I’m Seth Carpenter. Morgan Stanley's global chief economist.

Serena Tang: And on this two-part episode of the podcast, we'll discuss Morgan Stanley's global mid-year outlook. Today we'll focus on economics, and tomorrow we'll turn our attention to strategy.

It's Monday, May 20th, at 10am in New York.

So, Seth, we've seen a lot of volatile economic data since you published your 2024 year ahead outlook last November. The US has gone through a few months of downside inflation and upside growth surprises, followed by renewed inflationary pressures; and in China, real growth surprise to the upside, but deflation deepened. In contrast, India and Japan, your two strongest conviction bullish views, have played out so far.

So, with all this in mind, Seth, what is your outlook for the global economy and its growth trajectory for the second half of this year and into 2025?

Seth Carpenter: So, we're pretty optimistic. We see some mild deceleration in the US relative to last year's particularly strong growth but not collapsing. And I think that part is really important. The euro area growth, all the signs that we've had since we wrote the outlook in November, updating now it says that growth is actually bottomed out there and we're starting to see the initial recovery. Now, don't get carried away. It's not that it's gonna be this massive rebound. But there should be now a bottoming out gradual growth as inflation keeps coming down. That means that real wage growth is actually going to get stronger, and we think consumption starts to lead the way.

China though, there we've surprised the upside but just an inflation adjusted growth because fiscal policy has been adding to capacity they're adding to the ability. And so, deflation has stayed. It's one of the longest and deepest deflationary episodes China has had. We think that's actually going to be exporting deflation to the rest of the world. But in terms of real growth, they're actually hanging in there around 5 per cent.

Serena Tang: I'm glad you kind of highlighted the difference between what we're expecting for the US and Europe and what we're expecting for China, because one of the themes that I think you touched on in this outlook is divergence that you see some slowing in the US -- even though it's very stable, while the rest of the world really is where growth starts to pick up. 

So, what is driving this divergence? How persistent do you think it will be? And what does it mean for central bank policy?

Seth Carpenter: Let me start with Europe and the US, the way you framed it. Like I said, European growth is probably bottom. They had more adverse shocks than the US did. So, the energy shock -- that was particularly damaging to German manufacturing, really slowed the European economy down. Whereas in the US, we had a lot of strong growth last year. Last year we had growth in the US at just over three per cent. Non-trivial amount of that growth was enabled by the surge of immigration, but we still see some residual impetus from fiscal policy.

And so, where are we now? Inflation in the euro area is continuing to fall. In fact, it's clearer signal down than it has been, at least for the fourth quarter this year in the US. Growth is picking up, but not so much that it's going to re-spark inflation. So, we think the ECB is going to start to cut rates as soon as next month, as soon as the June meeting. Whereas for the US, we still have strong growth. Inflation sort of gave us that head fake in the first quarter, so the Fed's going to have to wait, we think probably until September.

Serena Tang: And on the point of inflation, can you actually give us a snapshot of where we are right now and what your projections from here will be? You know, you talked about disinflation in the US. What's gonna be driving that?

Seth Carpenter: I think the first thing to keep in mind is that just globally we see further disinflation and so the run up in inflation that was, by and large, a global phenomenon, we do see as abating. For the US specifically, though, I think there are a few parts that are really important and always the conversation has to deal with housing. 

There, in the United States, we measure housing inflation through rents, and we know various things. One recent readings on rents in the market right now have actually been moving roughly sideways. The statistical agency, the Bureau of Labor Statistics, that creates the CPI, takes those market-based rents and then spreads it through an algorithm. And the official statistics reflect what's going on now over the next couple of quarters. So, for that reason alone, we think rent inflation, which is 40 per cent of core CPI, we think that keeps trending down over the rest of the year.

We see some deflation in consumer goods. That's especially in automobiles. The deflation that we see in China, that's probably being exported to the rest of the world, contributes a little bit more to that downward pressure. So, we feel pretty convicted that the high inflation that we saw in the first quarter was more noise than signal, and we get greater disinflation as the year goes on.

Serena Tang: So finally, I want to ask you about Japan specifically. It's the region where we're actually expecting rate hikes. Since it has gone through a structural shift recently, decades of deflation are now over, seems to be over. And so, what are your expectations there?

Seth Carpenter: I think it is a fundamental shift here. We did have decades of essentially zero nominal growth and that is now clearly, in the rear-view mirror. We see wage inflation; we see price inflation. When I talk to our colleagues in research in Tokyo who cover the consumer sector, the mindset has shifted, and consumers are willing to accept these higher inflation prints.

And so, in that regard, we do think very much we've shifted from that zero nominal growth, that sort of disinflationary-deflationary equilibrium, to one where inflation will be sustained above target. As a result, the Bank of Japan got rid of negative interest rate policy. And we think they're gonna hike into positive territory in July of this year. Probably again in the beginning of next year.

All, as long as we're right, that inflation is here to stay and that seems very much the case. Now, why only two rate hikes then as opposed to more if the world is fundamentally different? And this, I think, is critical. Governor Ueda, the BOJ, is committed to making sure that we have shifted to this reflationary environment. And so, I do think he's going to be cautious and only hike as much as he can be confident that inflation stays high for the foreseeable future.

Serena Tang: Seth, thanks so much for taking the time to talk.

Seth Carpenter: Serena, it's always great to talk to you.

Serena Tang: And thanks for listening. Please be sure to tune in for Part Two of this episode, where Seth and I will discuss our mid-year strategy outlook. If you enjoy Thoughts on the Market, please leave us a review wherever you listen, and share the podcast with a friend or colleague today.

Our Head of Corporate Credit Research explains why the debt of high-rated EM countries is a viable alternative for investors looking for high yields with longer duration.

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Welcome to Thoughts on the Market. I'm Andrew Sheets, head of Corporate Credit Research at Morgan Stanley. Along with my colleagues bringing you a variety of perspectives, today I'll be talking about why – for buyers of investment grade bonds – we see better value in Emerging Markets. 

It's Friday May 17th at 2pm in London.

This is a good backdrop for corporate credit. The asset class loves moderation and our forecasts at Morgan Stanley see a US soft landing with growth about 2 percent comfortably above recession, but also not so strong that we think we need further rate increases from the Federal Reserve. Corporate balance sheets are in good shape, especially in the financial sector and the demand for investment grade corporate bonds remains high – thanks to yields, which hover around five and a half percent.

For all these reasons, even though the additional yield that you currently get on corporate bonds, relative to say government bonds is low, we think that spread can remain around current levels, given this unusually favorable backdrop. But we're less confident about longer maturity bonds. Here, credit spreads are much more extreme, near their lowest levels than 20 years. So, what can investors do if they're looking to get some of the advantages of this macro backdrop but still access higher risk premiums.

For investors who are looking for high rated yield with longer duration, we see a better alternative: the debt of high rated countries in the Emerging Markets, or EM. Adjusting for rating, high grade Emerging Market debt currently trades at a discount to corporate bonds. That is for bonds of similar ratings, the spreads on EM debt are generally higher. And this is even more pronounced when we're looking at those longer dated borrowings; the bonds with the maturity over 10 years. In investment grade credit, you get paid relatively little incremental risk premium to lend to a company over 30 years, relative to lending it to 10. But that's not the case in Emerging Market sovereigns. There, these curves are steep. The incremental premium you get for lending at a longer maturity is much higher. 

So, what's driving this difference? Well one has been relatively different flows between these different but related asset classes. Corporate bonds have been very popular with investors, enjoying strong inflows year to date. But Emerging Market bond funds have not, and have seen money come out. Relatively weaker flows may help explain why risk premiums in the EM debt market are higher.

Another reason is that the same EM investors who are often seeing outflows have been asked to buy an unusually large amount of EM bonds. Issuance from Emerging Market sovereigns has been unusually high year to date and unusually focused on longer dated debt. We think this may help explain why Emerging Market risk premiums are even higher for longer dated bonds. 

The good news? Our EM strategy team thinks some of this issuance surge will moderate in the second half of the year. It's a good backdrop for high rated credit and this week's CPI number, which showed continued moderation. And inflation is further reinforcing the idea that the US can see a soft landing. The challenge is that – that good news has tightened spreads in the corporate market.

While we think those risk premiums can stay low, we currently see better relative value for investors, looking for yield and risk premium in high-rated EM sovereigns – especially for those looking at longer maturities. 

Thanks for listening. Subscribe to Thoughts on the Market wherever you get your podcasts and leave us a review. We'd love to hear from you. 

Our research shows travelers are willing to spend more this summer than last. U.S. Thematic Strategist Michelle Weaver explains how this will impact the airline, cruise and lodging industries. 

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Welcome to Thoughts on the Market. I’m Michelle Weaver, Morgan Stanley’s US Thematic Strategist. Along with my colleagues bringing you a variety of perspectives, today I’ll talk about the summer travel trends we’re expecting to see this year. 

It’s Thursday, May 16th at 10am in New York. 

With Memorial Day just around the corner, most of us are getting really excited about our summer vacation plans. We recently ran a survey, and our work shows that nearly 60 percent of US consumers are planning to travel this summer. This figure though skews significantly higher for upper income consumers. 75 percent of consumers making $75,000 to $150,000 are planning to travel and this figure rises to 78 percent for those who make more than $150,000. 

And travel remains a key spending priority for higher-income consumers. They place travel as one of their top priorities when compared to other discretionary purchases. This picture reverses though when you look at lower-income consumers making less than $50,000 a year. Travel tends to be among their lowest priorities when they are thinking about their discretionary purchases.

What really matters for companies though is if consumers are going to spend more this year than they did last year. And consumers who are planning a vacation are inclined to spend more this year, with 49 percent expecting to spend more and 16 percent intending to spend less. So that yields a net plus-32 percent increase in spending intentions for summer travel.

And what does this mean for key players in the travel industry? For starters, let’s look at airlines, where demand no longer seems to be a market debate within the space. It’s remained very resilient so far in 2024, contrary to what many had feared when we were going into this year. Our Transportation Analyst also has a positive view of US Airlines, especially Premium carriers. And the reason: This category caters to high-end consumers who are more likely to fly regardless of the state of the economy. Since the pandemic, Premium air travel has been one of the fastest growing and likely most resilient parts of the US Airlines industry, with premium cabin outperforming the main cabin consistently. 

And then what’s in store for cruise companies this summer? The outlook seems to be broadly positive, according to our analysts. The largest cruise operators source the majority of their guests from the US. And these companies provide leisure travel – as opposed to business travel – almost exclusively, so their revenues are closely tied to the health of the US consumer. Of the 60 percent of consumers who are planning to travel this summer, 6 percent are planning a cruise. That’s a little bit lower than pre-COVID, but cruise passengers tend to skew older and more affluent. So, they take more than one vacation frequently. This keeps the outlook broadly supportive for cruise companies. 

Finally, let’s think about Gaming and Lodging. These are your hotels and casinos. Investor sentiment is generally cautious for this space, but our analyst believes the data is encouraging. Yes, there’s been a slowdown in demand, compounded by continued – but moderating – labor inflation. This has created margin pressure for companies with higher operating leverage but the data suggests that upscale and luxury operators are outpacing midscale and economy ones. In addition, the Las Vegas strip, which tends to skew higher end, has outpaced regional casinos. And even when you look within the Las Vegas strip, baccarat is outpacing slot demand and luxury properties are outpacing more affordable options.

So, all in all, the summer looks bright for travel operators, especially those who have more exposure to the high-end consumer. 

Thank you for listening. If you enjoy the show, please leave us a review wherever you listen and share Thoughts on the Market with a friend or colleague today.

Our Global Head of Fixed Income and Thematic Research explains that the Biden administration’s new tariffs on Chinese imports are narrower than those of 2018 and 2019, but still send a signal about the economic relationship between the US and China.

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Welcome to Thoughts on the Market. I'm Michael Zezas, Morgan Stanley's Global Head of Fixed Income and Thematic Research. Along with my colleagues bringing you a variety of perspectives, today I'll be talking about the impact of newly announced tariffs by the United States. 

It's Wednesday, May 15th at 10:30am in New York.

Yesterday, the Biden administration announced new tariffs on the import of certain goods from China. These include semiconductors, batteries, solar cells and critical minerals among other products. For investors, this might remind them of the tariff escalation in 2018 and 2019 that led to global economic concerns. But we’d caution investors not to arrive at similar conclusions from this latest action.

Consider that the scope of this action is far more muted than the tariffs actions from a few years ago. New tariffs will affect a projected $18 billion of imports, or only about 0.5 percent of all China’s exports. And as our chief Asia economist Chetan Ahya has explained in his recent work, the sectors in scope for this round are areas where China has substantial spare capacity. Said differently, the tariffs are narrowly scoped and appear to be targeted at areas where the US perceives specific risk of imbalanced trade and market conditions. That contrasts with tariffs on roughly $360 billion of imports from China in the 2018-2019 period – a much broader approach that was in part aimed at forcing broad trade concessions from China but carried greater economic consequences by crimping corporate’s capital spending globally as they re-evaluated their production strategies. 

There is some signal for investors here though. While the scope of the Biden administration's efforts here are more narrow, it does signal something we’ve known for a few years now. There’s continuity across presidential administrations and across political parties in the US on the topic of the economic relationship with China. While each party has different tactics, there’s clear overlap in their goals, in particular on the idea that the US must continue taking steps to protect critical and emerging technologies in order to preserve its economic and national security. 

This suggests that the laws of gravity won’t apply to US tariffs any time soon, regardless of the US election outcome. So, the rewiring of the global economy in the emerging multipolar world will continue, and investors can still focus on some key regional beneficiaries of this secular trend – namely Mexico, India, and Japan.

Thanks for listening. If you enjoy the show, please leave us a review wherever you listen and share Thoughts on the Market with a friend or colleague today.

Our Retail Analyst discusses the key strategies that have propelled a select few companies in U.S. consumer retail amid a challenging demand backdrop. 

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Welcome to Thoughts on the Market. I’m Simeon Gutman, Morgan Stanley’s Hardlines, Broadlines & Food Retail Analyst. Along with my colleagues bringing you a variety of perspectives, today I’ll discuss how some retail businesses are responding to daunting consumer challenges. 

It’s Tuesday, May 14th at 10am in New York.

There have been dramatic shifts within the consumer sector over the past three years. During the pandemic, we all had to redirect our spending away from services, such as travel and leisure, to various goods, which we were able to purchase online and have delivered at home. Consumer packaged goods, for example, experienced two years of outsized growth during the pandemic. But since 2022, consumption has been declining across the value chain. 

For some categories, this dynamic may not be a temporary, post-COVID phenomenon, but rather a continuation of a longer-standing secular trend that had started prior to the pandemic. For example, non-durable goods – such as clothing, footwear and food at home – were already losing wallet share pre-COVID. Grocery spend was losing to dining out, as consumers placed more value on convenience. And although some sectors experienced unprecedented pricing power between 2020 and 2023, they’re now seeing this pricing power decline as inflation moderates. 

Against this backdrop, Consumer Packaged Goods companies and retailers are attempting to find new growth levers in the face of stagnating – or even declining – sales and decreasing pricing power. A select few companies in US consumer retail, automotive, communication services and IT hardware have been able to navigate the current consumer environment of slowing growth. We believe there’s a powerful lesson in the combination of strategies these successful outliers have deployed to reposition themselves in the face of tepid demand. 

For example, these companies are shifting their value proposition by focusing on products in faster-growing markets. They are also exiting underperforming areas to optimize their core brand and product portfolios. They’re streamlining their internal operations by changing organizational structures, revamping their supply chains, and using AI to automate processes. All of this helps to reduce costs and enhance productivity. Successful retail companies are also looking to alternative revenue sources and profit pools to grow their businesses, focusing on higher growth areas within their industries. Discount retail is a prime example as it focuses on high margin digital media, which has the potential to lift operating profit margins for the entire sector. Furthermore, a shift to omni-channel has revolutionized Retail, by capturing greater consumer wallet share and reducing delivery costs. And finally, successful companies have prioritized free cash flow by divesting non-core assets in less profitable areas. 

Businesses that have been able to deploy these strategies have been rewarded by the market. They have seen their average 12-month price to earnings multiples expand more than 35 percent over the past five years, meaning that the market's outlook for these companies is considerably better than it was previously. Several of these strategies have also led to stronger top-line growth and margin expansion, which our US equity strategists identify as the two major drivers of shareholder value across consumer staples and consumer discretionary.

Thanks for listening. If you enjoy the show, please leave us a review wherever you listen and share Thoughts on the Market with a friend or colleague today.

Our experts highlight their biggest takeaways from the International Monetary Fund’s recent meetings, including which markets around the globe are on an upward trajectory.

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Simon Waever: Welcome to Thoughts on the Market. I'm Simon Waever, Morgan Stanley's Global Head of Emerging Markets, Sovereign Credit and Latin America Fixed income strategy. 

Neville Mandimika: And I'm Neville Mandimika from the Emerging Markets Credit Strategy team with a focus on Central and Eastern Europe, Middle East and Africa.

Simon Waever: And on this episode of Thoughts on the Market, we'll discuss what we believe investors should take away from the International Monetary Fund’s Spring Meetings in Washington, DC. 

It's Monday, May 13th at 10am in New York.

Neville Mandimika: And it's 3 pm in London.

To give some context, every year, the Spring Meetings of the International Monetary Fund (IMF) and the World Bank provide a forum for country officials, private sector market participants and academics to discuss critical global economic issues. This time around, the meetings were held against a backdrop, as you might imagine, of rising geopolitical tensions, monetary policy pivots, and limited fiscal space.

Simon, we were both at the event, and I wanted to discuss what we took away from our own meetings, as well as discussions with other market participants. How would you describe the mood this time around compared to the annual meetings in October last year?

Simon Waever: So, I would say sentiment was cautiously optimistic. Of course, it did happen in the backdrop of inflation; the first quarter not being as well behaved as everyone had hoped for. So that really put the focus on central banks being more cautious in their easing paths, which is actually a point the IMF also made back in October.

But away from that, growth has held up better than expected. In the US for sure, but also more globally. So, I would say it could have been a lot worse.

Neville Mandimika: Was it just me or there was a particular focus on fiscals this time around? What did you make of this?

Simon Waever: No, there was for sure and interestingly it was focused on both developed economies and developing economies, which isn't usually the case. And I think it's clear that not only the IMF but also the markets are worried that we're still some distance away from stabilizing debt in most countries. And not only that but that it's going to be hard to close that gap due to lower growth and spending pressures. So that meant that there was a lot of discussions on how much term premier there needs to be in government bond curves and whether they need to be steeper.

Neville Mandimika: It's often very difficult to talk about, you know, the global economic dynamics without talking about AI, which seems to be the catchphrase this year. How is the fund viewing this in light of the potential for the global economy?

Simon Waever: So, the issue is that the IMF has often had to revise down medium-term growth outlook; something that it pretty much had to do every year since 2010, actually. And today it stands at only 2.8 globally. If you look at the IMF's publications, they attribute the key reasons to this to misallocation of capital and labor.

But what they also did this time around was look at what could turn it around; and maybe unsurprisingly structural reforms that reduces that misallocation would be the larger potential factor that could boost this up again. They estimate about around 1.2 per cent of GDP. But then to your point the adoption of AI is seen as another new driver.

Of course, it's also a lot more uncertain because there needs to be a lot of a lot more work done around it. But they think it could add nearly one percentage point to global growth in a positive scenario. 

But Neville, with that, let's dig deeper into the issues of developing countries which, after all, is the focus of the meetings. The cost of debt is rising, which has led to some countries experience debt distress. But from our side, we've also frequently pushed back against the idea that there is a growing debt crisis. So, coming back from the meetings, what kind of debt restructuring progress has been made? And how do you see it playing out for the remainder of the year? 

Neville Mandimika: Yeah, interestingly, there was still plenty of talk in the meetings about EM (emerging market) debt crisis, but the backdrop to the conversation was significantly better this time around compared to October 2023.

Since last year, we've seen progress from Suriname, which is a small part of the Emerging Market Bond Index, close its restructuring, Zambia reaching a deal with private bondholders with the expectation that all of this could be buttoned up by June this year, multiple proposals in Sri Lanka and Ukraine making some progress.

This gives me some hope that the number of sovereigns in default will be lower by the end of this year. And I think more importantly, we don't expect any country, any new country, to get into default -- as countries like Pakistan and Tunisia have made some progress in avoiding restructuring its own debt.

The other important thing that came out from my vantage point is that the Global Sovereign Debt Roundtable seems to be making some progress, particularly on outlining the structure of EM debt crises, which is, you know, emphasizing parallel negotiations between official and private creditors and, of course, timely sharing of information between stakeholders.

Simon Waever: Then another focus has been that the IMF has been making some concessions to try to increase financing for countries that need it. Do you think there was progress on this front? 

Neville Mandimika: Yeah, it certainly seems so. You know, there seems to be some momentum on that front. You'd remember that last year, there was a resolution to increase the IMF's lending capacity by increasing country quotas by 50 per cent. Once this is buttoned up, heavy borrowers like Egypt and Argentina would greatly benefit, I think.

Until this is done, the fund extended its temporary higher access limits to allow countries to borrow more in the meantime. There was also increased dialogue on reducing surcharges, which is the additional interest payments the IMF imposes on borrowers. The reduction of these would greatly help the likes of Argentina and Ecuador. Unfortunately, not much concrete progress has been made on this front.

Simon Waever: And then finally, across all the meetings we held, which countries did you come away more positive on and which ones would still be of concern?

Neville Mandimika: Yeah, I certainly came out a lot more positive on Senegal, as fears of large policy changes like leaving the CFA franc were eased. Egypt was also another clear positive, given the commitment to reforms, despite large financing that was received earlier this year. Nigeria, there was also some momentum on this front as reforms is still very much front and center from the political authorities. And lastly, Turkey saw authorities affirming their commitment to fighting inflation and loosening the grip on the foreign exchange market.

And I'll throw the same question to you, Simon. Which countries are you positive on?

Simon Waever: Yeah, I mean, it was pretty hard to take away the excitement from Egypt, but I would say that Argentina is another country where people came away pretty positive. The imbalances are significant, but they're just making very good headway in unwinding them; and they have the support of the IMF to do so. Ecuador would be the other one where sentiment in general is positive. On the more cautious side, I would point towards those countries where fiscal deficits are heading in the wrong direction, which goes back to the worries about fiscals we spoke about earlier -- and Colombia is one such example.

But with that, let's wrap it up. Neville, thanks for taking the time to talk.

Neville Mandimika: Great speaking with you, Simon.

Simon Waever: And as a reminder, if you enjoy Thoughts on the Market, please take a moment to rate and review us wherever you listen to the podcast. It helps more people find the show.

Morgan Stanley’s Chief Latin America Strategist explains the importance of Mexico’s upcoming presidential election, laying out the possible investment implications of potential policy reforms.

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Welcome to Thoughts on the Market. I’m Nik Lippman, Morgan Stanley’s Chief Latin America Strategist. Along with my colleagues bringing you a variety of perspectives, today I'll talk about why Mexico’s upcoming election matters for markets. 

It's Friday, May 10, at 10am in Sao Paulo. 

Voters in Mexico will choose a new president in less than a month, on June 2. The two leading candidates – Claudia Sheinbaum and Xóchitl Gálvez – have presented strong campaigns amidst a tense political backdrop. And yet, asset prices have not yet begun to react to potential election outcomes. 

There’s significant policy differences between Sheinbaum and Galvez – thus an important investment debate around each of them. However, polls suggest a strong lead for Sheinbaum, who is the candidate from the ruling party Morena. In fact, it seems that the key debate that markets are focused on right now is not so much who wins, but rather what type of president Sheinbaum would be, if she does get elected.

If she does indeed win, the expectation is for policy continuity post-election—particularly as it relates to Mexico’s nearshoring – or moving industrial supply chains from Asia to North America. This trend has been a major driver of the country’s economy and major asset classes. 

And so the market seems to be focusing squarely on policy decisions that may be taken by the incoming administration. Mexico is in a strong position to benefit from its relationship with the United States and as well as the nearshoring opportunities. We see a positive skew for both equities and credit, and think the election can act as a catalyst for assets that have traded cheaply.

Yet, significant reforms are necessary to take full advantage of this setup. Indeed, we would argue that rapid and deep structural reforms would be crucial, especially when it comes to fiscals and the energy space. For example, we think there could be a need for stronger partnership between the public and the private sector and a rethink of parts of Mexico’s electricity model. If Mexico solves its electricity supply-side challenges, it can build on its favorable nearshoring position. But on the other hand, there’s no industrial revolution without electricity. 

However, the risk-reward for the Mexican peso is slightly different. It has already benefited from the rise in foreign investment - and the high interest rate differential between Mexico and the United States.

With all that said, there are risks from the elections, too. If any political party wins two-thirds majority, it opens the possibility for changes to the constitution. And current proposals by Mexico’s sitting president could open the door for larger fiscal deficits; and potentially some more unorthodox policies down the road. We will continue to keep you posted on Mexico’s election outcomes.

Thank you for listening. If you enjoy Thoughts on the Market, take a moment to rate and review us wherever you listen. It helps more people find the show.

Our Chief Fixed Income Strategist explains why the Federal Reserve’s most recent meeting was so consequential, and the likeliest path ahead for interest rates.

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Welcome to Thoughts on the Market. I am Vishy Tirupattur, Morgan Stanley’s Chief Fixed Income Strategist. Along with my colleagues bringing you a variety of perspectives, I'll be talking about last week’s FOMC meeting and its impact on fixed income markets.  

It's Thursday, May 9th at 1pm in New York.

Last week’s Fed meeting was consequential. It had a clear and unambiguous messaging about the path ahead for Fed’s monetary policy. Fed’s next move in policy rate is unlikely to be a hike. The Fed’s focus now is on how long the current target range for the fed funds rate will be maintained; and the next move, whenever it happens, is likely a cut. Importantly, the FOMC’s decision was unanimous and their statement maintained an overall easing bias.

In the aftermath of recent upside surprises to inflation and the reaction in the rates market, many market participants, yours truly included, were apprehensive that the FOMC’s tone might be overtly hawkish. Turns out, that was not the case. By setting a very high bar for the next move to be a hike, the Fed’s message has meaningfully narrowed the distribution of outcomes for policy rates, at least in 2024 As our economists led by Ellen Zentner note, the two likely policy outcomes now are keeping the rates on hold or cutting. 

Given the prospect that policy rates may remain in the current target range, the negative carry of an inverted yield curve keeps us from pounding the table to move to outright long in duration, although the direction of travel does suggest that. We would note that Guneet Dhingra, our head of US interest rate strategy, sees better risk/reward in duration longs through 3 month 10 year receivers than in the very crowded curve steepener trade. In general, spread products in fixed income – agency MBS, corporate credit and securitized credit – stand to benefit the most from this notably less hawkish messaging, in our view.

As Jay Bacow, our head of agency MBS strategy, observes, the backdrop in which tail risks of higher policy rates are much more remote than they were before the FOMC meeting is supportive for agency MBS. At current valuations, agency MBS offers an attractive expression for investors seeking to play for lower interest rates, lower interest rate volatility or both. 

Their high all-in yields have bolstered strong inflows and sustained demand for corporate credit across a wide range of investor types. If policy rates remain in the current range, we expect the demand for corporate credit to accelerate. If policy rates stay in the current range or go lower, pressures on interest coverage are unlikely to get worse going forward. Given their high single-digit all-in yields, we see an attractive risk/reward calculus favoring leveraged loans. We like expressing this view directly in loans as well as in securitized credit through CLO tranches.  

In sum, the message from the Fed was clear and unambiguous. The policy rate path ahead is for rates to remain in the current range or decline, and the bar for the next move to be a hike is very high. This bodes well for a wide range of instruments in fixed income.

Thanks for listening. If you enjoy the show, please leave us a review wherever you listen and share Thoughts on the Market with a friend or colleague today.

Our expert panel explains the U.S. dollar’s current status as the primary global reserve currency and whether the euro and renminbi, or even crypto currencies are positioned to take over that role.

Digital assets, sometimes known as cryptocurrency, are a digital representation of a value that function as a medium of exchange, a unit of account, or a store of value, but generally do not have legal tender status. Digital assets have no intrinsic value and there is no investment underlying digital assets. The value of digital assets is derived by market forces of supply and demand, and is therefore more volatile than traditional currencies’ value. Investing in digital assets is risky, and transacting in digital assets carries various risks, including but not limited to fraud, theft, market volatility, market manipulation, and cybersecurity failures—such as the risk of hacking, theft, programming bugs, and accidental loss. Additionally, there is no guarantee that any entity that currently accepts digital assets as payment will do so in the future. The volatility and unpredictability of the price of digital assets may lead to significant and immediate losses. It may not be possible to liquidate a digital assets position in a timely manner at a reasonable price.

Regulation of digital assets continues to develop globally and, as such, federal, state, or foreign governments may restrict the use and exchange of any or all digital assets, further contributing to their volatility. Digital assets stored online are not insured and do not have the same protections or safeguards of bank deposits in the US or other jurisdictions. Digital assets can be exchanged for US dollars or other currencies, but are not generally backed nor supported by any government or central bank.

Before purchasing, investors should note that risks applicable to one digital asset may not be the same risks applicable to other forms of digital assets. Markets and exchanges for digital assets are not currently regulated in the same manner and do not provide the customer protections available in equities, fixed income, options, futures, commodities or foreign exchange markets. 

Morgan Stanley and its affiliates do business that may relate to some of the digital assets or other related products discussed in Morgan Stanley Research. These could include market making, providing liquidity, fund management, commercial banking, extension of credit, investment services and investment banking.

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Michael Zezas: Welcome to Thoughts on the Market. I’m Michael Zezas, Morgan Stanley's Global Head of Fixed Income Research.

James Lord: I'm James Lord, Head of FX Strategy for Emerging Markets.

David Adams: And I'm Dave Adams, head of G10 FX Strategy.

Michael Zezas: And on this episode of Thoughts on the Market, we'll discuss whether the US status as the world's major reserve currency can be challenged, and how.

It's Wednesday, May 8th, at 3pm in London.

Last week, you both joined me to discuss the historic strength of the US dollar and its impact on the global economy. Today, I'd like us to dive into one aspect of the dollar's dominance, namely the fact that the dollar remains the primary global reserve asset.

James, let's start with the basics. What is a reserve currency and why should investors care about this?

James Lord: The most simplistic and straightforward definition of a reserve currency is simply that central banks around the world hold that currency as part of its foreign currency reserves. So, the set of reserve currencies in the world is defined by the revealed preferences of the world's central banks. They hold around 60 percent of those reserves in U.S. dollars, with the euro around 20 percent, and the rest divided up between the British pound, Japanese yen, Swiss franc, and more recently, the Chinese renminbi.

But the true essence of a global reserve currency is broader than this, and it really revolves around which currency is most commonly used for cross border transactions of various kinds internationally. That could be international trade, and the US dollar is the most commonly used currency for trade invoicing, including for commodity prices. It could also be in cross border lending or in the foreign currency debt issuance that global companies and emerging market governments issue. These all involve cross border transactions.

But for me, two of the most powerful indications of a currency's global status.

One, are third parties using it without the involvement of a home country? So, when Japan imports commodities from abroad, it probably pays for it in US dollars and the exporting country receives US dollars, even though the US is not involved in that transaction. And secondly, I think, which currency tends to strengthen when risk aversion rises in the global economy? That tends to be the US dollar because it remains the highly trusted asset and investors put a premium on safety.

So why should investors care? Well, which currency would you want to own when global stock markets start to fall, and the global economy tends to head into recession? You want to be positioning in US dollars because that has historically been the exchange rate reaction to those kinds of events.

Michael Zezas: And so, Dave, what's the dollar's current status as a reserve currency?

David Adams: The dollar is the most dominant currency and has been for almost a hundred years. We looked at a lot of different ways to measure currency dominance or reserve currency status, and the dollar really does reign supreme in all of them.

It is the highest share of global FX reserves, as James mentioned. It is the highest share of usage to invoice global trade. It's got the highest usage for cross border lending by banks. And when corporates or foreign governments borrow in foreign currency, it's usually in dollars. This dominant status has been pretty stable over recent decades and doesn't really show any major signs of abating at this point.

Michael Zezas: And the British pound was the first truly global reserve currency. How and when did it lose its position?

David Adams: It surprises investors how quick it really was. It only took about 10 years from 1913 to 1923 for the pound to begin losing its crown to king Dollar. But of course, such a quick change requires a shock with the enormity of the First World War.

It's worth remembering that the war fundamentally shifted the US' role in the global economy, bringing it from a large but regional second tier financial power to a global financial powerhouse. Shocks like that are pretty rare. But the lesson I really draw from this period is that a necessary condition for a currency like sterling to lose its dominant status is a credible alternative waiting in the wings.

In the absence of that credible alternative, changes in dominance are at most gradual and at least minimal.

Michael Zezas: This is helpful background about the British pound. Now let's talk about potential challengers to the dollar status as the world's major reserve currency. The currency most often discussed in this regard is the Chinese renminbi. James, what's your view on this?

James Lord: It seems unlikely to challenge the US dollar meaningfully any time soon. To do so, we think China would need to relax control of its currency and open the capital account. It doesn't seem likely that Beijing will want to do this any time soon. And global investors remain concerned about the outlook for the Chinese economy, and so are probably unwilling to hold substantial amounts of RNB denominated assets. China may make some progress in denominating more of its bilateral trade in US dollars, but the impact that that has on global metrics of currency dominance is likely to be incremental.

David Adams: It’s an interesting point, James, because when we talk to investors, there does seem to be an increasing concern about the end of dollar dominance driven by both a perceived unsustainable fiscal outlook and concerns about sanctions overreach.

Mike, what do you think about these in the context of dollar dominance?

Michael Zezas: So, I understand the concern, but for the foreseeable future, there's not much to it. Depending on the election outcome in the US, there's some fiscal expansion on the table, but it's not egregious in our view, and unless we think the Fed can't fight inflation -- and our economists definitely think they can -- then it's hard to see a channel toward the dollar becoming an unstable currency, which I believe is what you're saying is one of the very important things here.

But James, in your view, are there alternatives to the US led financial system?

James Lord: At present, no, not really. I think, as I mentioned in last week's episode, few economies and markets can really match the liquidity and the safety that the US financial system offers. The Eurozone is a possible contender, but that region offers a suboptimal currency union, given the lack of common fiscal policy; and its capital markets there are just simply not deep enough.

Michael Zezas: And Dave, could cryptocurrency serve as an alternative reserve currency?

David Adams: It's a question we get from time to time. I think a challenge crypto faces as an alternative dominant currency is its store of value function. One of the key functions of a dominant currency is its use for cross border transactions. It greases the wheels of foreign trade. Stability and value is important here. Now, usually when we talk to investors about value stability, they think in terms of downside. What's the risk I lose money holding this asset?

But when we think about currencies and trade, asset appreciation is important too. If I'm holding a crypto coin that rises, say, 10 per cent a month, I'm less likely to use that for trade and instead just hoard it in my wallet to benefit from its price appreciation. Now, reasonable people can disagree about whether cryptocurrencies are going to appreciate or depreciate, but I'd argue that the best outcome for a dominant currency is neither. Stability and value that allows it to function as a medium of exchange rather than as an asset.

Michael Zezas: So, James, Dave, bottom line, king dollar doesn't really have any challengers.

James Lord: Yeah, that pretty much sums it up.

Michael Zezas: Well, both of you, thanks for taking the time to talk.

David Adams: Thanks much for having us.

James Lord: Yeah, great speaking with you, Mike.

Michael Zezas: And as a reminder, if you enjoy Thoughts on the Market, please take a moment to rate and review us wherever you listen to podcasts and share Thoughts on the Market with a friend or colleague today.

As the U.S. economy continues to send mixed signals, our CIO and Chief US Equity Strategist explains how markets are likely to oscillate between “soft landing” and “no landing” outcomes. 

----- Transcript -----

Welcome to Thoughts on the Market. I'm Mike Wilson, Morgan Stanley’s CIO and Chief US Equity Strategist. Along with my colleagues bringing you a variety of perspectives, today I'll be talking about the higher-than-normal uncertainty in economic data and its impact on markets. 

It's Tuesday, May 7th at 1:30 pm in New York. 

So let’s get after it. 

In recent research, I’ve discussed how markets are likely to oscillate between the "soft landing" and “no landing" outcomes in today's late cycle environment. Continued mixed and unpredictable macro data should foster that back and forth, and last week was a microcosm in that respect. Tuesday's Employment Cost Index report came in stronger than expected, leading to a rise in the 10-year Treasury yield to nearly 4.7 per cent. Meanwhile, the Conference Board Consumer Confidence Index turned down, falling to its lowest level since July of 2022. 

On Friday, the equity market rose sharply as bond yields fell on the back of a weaker labor report, while the ISM Services headline series fell to its lowest level since December of 2022. 

In our view, this uncertain economic backdrop warrants an investment approach that can work as market pricing and sector/factor leadership bounces between these potential outcomes. As such, we recommend a barbell of quality cyclicals which should outperform in a "no landing" scenario and quality growth, the relative winner in a "soft landing.” One might even want to consider adding a bit of exposure to defensive sectors like Utilities and Staples in the event that growth slows further.  

Meanwhile, last week's Fed meeting materialized largely as expected. Chair Powell expressed somewhat lower confidence on the timing of the first cut given recent inflation data, but he pushed  back on the notion that the next move would be a hike which eased some concerns going into the  meeting. The April Consumer Price Index released on May 15th is the next key macro event informing the path of monetary policy and the market's pricing of that path. As usual, the price reaction on the back of this release may be more important than the data itself given how influential price action has been on investor sentiment amid an uncertain macro set up. 

On the rate front, our view remains consistent with our recent research—the relationship between the 6-month rate of change on the 10-year yield and the S&P 500 price earnings multiple implies that yields around current levels are about 10 per cent headwind to valuation through the end of June but a tailwind thereafter, all else equal.

Given the uncertainty and unpredictability of the economic data more recently, we think it's useful to look at the technicals for insight into what comes next. In early April, we highlighted that the breakdown in the S&P 500 from its well-defined uptrend was an important early warning sign that performance could become more challenged. 

Based on our analysis, this headwind to valuation is likely to remain with us through the end of June unless yields fall significantly in the near term. Assuming interest rates stay around current levels, stronger valuation support lies closer to 19 times earnings, which would also imply price support closer to the 200-day moving average or 4800.

Thanks for listening. If you enjoy Thoughts on the Market, please leave us a review wherever you listen and share the podcast with a friend or colleague today. 

Lisa Shalett is a member of Morgan Stanley’s Wealth Management Division and is not a member of Morgan Stanley’s Research Department. Unless otherwise indicated, her views are her own and may differ from the views of the Morgan Stanley Research Department and from the views of others within Morgan Stanley.

Our CIO for Wealth Management, Lisa Shalett, and our Head of Corporate Credit Research continue their discussion of the impact of interest rates on different asset classes, the high concentration of value in equity markets and more.

----- Transcript -----

Welcome to Thoughts on the Market, and to part two of a conversation with Lisa Shalett, chief investment officer for Morgan Stanley wealth management. 

I'm Andrew Sheets, head of corporate credit research at Morgan Stanley.

Today, we'll be continuing that conversation, focusing on how higher interest rates could impact asset classes, and also some recent work about the unusually high concentration of stocks within the equity market.

We begin with Lisa's very topical question about how higher interest rates might impact credit. 

Lisa Shalett: So, Andrew, let me ask you this. From your perspective as the Global Head of Corporate Credit Research, what happens if we're, in fact, in this new regime of rates being higher for longer? 

Andrew Sheets: Yeah, thanks, Lisa. It seems more topical by the day as we see yields continuing to march higher. So I think like a lot of things in the market, it kind of depends a little bit on what the fundamental backdrop is that's driving those interest rates higher. Because if I think about the modern era for credit, which I’ll define as maybe the last 40 years, the tightest that we've ever seen corporate credit spreads was not when the Fed or the European central bank was buying bonds. It was not when you had lots of leverage building up in the financial system prior to the financial crisis. 

It was in the mid 90s when the economy was pretty good. The Fed had hiked rates a lot in [19]94 and then it cut them a little. And, you know, the mid nineties, I think, are one of the poster children for, kind of, a higher for longer rate environment amidst a pretty strong economy. 

So, if that is what we're looking at, we're looking at rates being higher for longer because the economic output of the US and other regions is generally stronger. I think that's an environment where you can have the overall credit market performing still pretty well. You'll certainly have dispersion around that as not every balance sheet, not every capital structure was planned, was created with that sort of rate environment in mind.

Overall, if you had to say, is credit more afraid of a kind of higher for longer scenario or is it more afraid of, growth being a lot weaker than expected, but that would bring low rates. I actually think a lot of credit investors would much rather have a more stable growth environment, even if that brings somewhat fewer rate cuts and higher for longer rates.

Lisa Shalett: One other thing, I know that the Global Investment Committee has been debating is this idea between the haves and the have nots that's been somewhat unique to this business cycle where, there's been a portion of the mega cap and large cap universes who have demonstrated, quite frankly, total insensitivity to interest rates because of their cash balances. Or because of their lack of need for actual borrowing. And then there's smaller midsize companies, these smaller cap or unprofitable tech companies, some of the companies that may have been born in the venture capital boom of the early 2020s. 

How is this have, have not, debate playing out in the credit markets? Are there parts of the credit markets that are starting to worry that there's a tail?

Andrew Sheets: Yeah, I think that's just a fascinating question at the moment because we’ve lived in this very macro world where it seemed like big picture questions about central banks: Will we go into recession? What will commodity prices do is driving everything. And even this week, questions about interest rates are dominating the headlines on TV and on the news.

But I think if you peel things back a little bit, this is an incredibly micro market, you know, we're seeing some of the lowest correlations and co-movement between individual stocks in the US and Europe that we haven't in 15 years. If I think about the credit market, the credit market is not just sailing into this environment, happy go lucky, no risk on the horizon. It's showing some of the highest tiering that we've seen in a very long time between CCC rated issuers, which is the lowest rated, main part of performing credit and Single-B issuers, which are still below investment grade rated, but are somewhat better. Market is charging a very high price premium between those two, which suggests that it is exactly as you mentioned, differentiating based on business model strength and level of leverage and the likes.

So, this environment of differentiation -- where the overall market is kind of okay, but you have lots of churning below the surface -- I think it's a very accurate description of credit. I think it's a very accurate description of the broader market, and it's certainly something that we're seeing investors take advantage of we see it in the data.

Andrew Sheets: Lisa, you recently published a special report on the consequences of concentration, which focuses on some of these mega cap stocks and how they may present underappreciated risks for investors. What were the key takeaways from that that we should keep in mind when it comes to market concentration and how should we think about that?

Lisa Shalett: The fundamental point we were trying to make -- and it really has to do with some of the unintended risks potentially that passive investors may be embracing that they don't fully appreciate -- is really through the end of 2023, US equity indices became extraordinarily, concentrated; where the top 10 names were accounting for greater than, a third of the market capitalization. And history has shown that such high levels of concentration are rarely sustainable. But what was particularly unique about the era of the Magnificent Seven or these top 10 mega cap tech stocks is not only were they a huge portion of the whole index, but in many ways they had become correlated to one another, right? Both, in terms of their trading dynamics and their valuations, but in terms of their factor exposures, right? 

They were all momentum oriented. They were all tech stocks. They were all moving on an AI, narrative. In many cases, they had begun competing with each other; one another directly in businesses, like the cloud, like streaming services and media, et cetera.

Andrew Sheets: And Lisa, kind of further on that idea, I assume that one counterpoint that you get to this work is that some of these very large mega cap names are just great companies. They've got strong competitive positions; they've got opportunities for future growth. As an investor, how do you think about how much you are supposed to pay up for quality, so to speak? And, you know, maybe you could talk just a little bit more about how you see the valuations of some of these larger names in the market.

Lisa Shalett: What we always remind clients is, there is no doubt that, these are great companies and they have cash flows, footprints, dominant positions, and markets that are growing. But the question is twofold. When is that story fully discounted, right?

And when do great companies cease to be great stocks? And if you look back in history, history is littered with great companies who cease to be great stocks and very often, clients quote unquote never saw it coming because they hung their hat on this idea, but it's a great company.

Andrew Sheets: Any parting thoughts as we move closer to the midpoint for 2024?

Lisa Shalett: The line that I'm using most with clients is that, I fundamentally believe that uncertainty in terms of the economic scenarios that could play out from here. Whether we're talking about a no landing, we're talking about a hard landing, we talk about a stagflation. And the policy responses to that, whether it's the timing of the Fed, and what they do. And what's their mix between balance sheet and rates, and then what happens post the presidential elections in the US. And is there a policy change that shifts some of the growth drivers in the economy. 

I just think overall uncertainty is rising through the end of the year, and that continues to argue, for a position as we've noted, where clients and their advisors are particularly active towards risk management, and where the premium to diversification is above average. 

Andrew Sheets: Lisa, thanks for taking the time to talk. Hope we can have you back again soon.

Lisa Shalett: It's great to speak with you, as always, Andrew.

Andrew Sheets: As a reminder, if you enjoy Thoughts in the Market, please take a moment to rate and review us wherever you get your podcasts. It helps more people find the show.

Lisa Shalett, our CIO for Wealth Management, and our Head of Corporate Credit Research discuss how to forecast expected returns over the long term, and whether historic cycles can help make sense of the market environment today.

----- Transcript -----

Andrew Sheets: Welcome to Thoughts on the Market. I'm Andrew Sheets, Head of Corporate Credit Research at Morgan Stanley.

Lisa Shalett: And I'm Lisa Shalett, Chief Investment Officer for Morgan Stanley Wealth Management.

Andrew Sheets: And on part one of this special episode of the podcast, we'll be discussing long run expected returns across markets, how we think about cross asset correlations and portfolio construction, and what are the special considerations that investors might want to have in mind in the current environment.

It's Friday, May 3rd at 4pm in London.

Lisa Shalett: And it's 11am here in New York City.

Andrew Sheets: Lisa, you and I are both members of Morgan Stanley's Global Investment Committee, which brings together nine of our firm's market, economic, and portfolio management thought leaders to provide a strategic framework for advice that we give to clients.

Andrew Sheets: I wanted to touch on a unique aspect of that process because, you know, we're talking about estimating returns over different horizons for markets. And I think there's something that's kind of unique about that challenge. I mean, I think in most aspects of life, it's probably safe to say that the next decade is more uncertain than the next six months or next year. But when we're thinking about asset class returns, it's not quite as simple as that.

Lisa Shalett: Not at all. And very often this is where our understanding of history needs to play a big part. When we think about the future, what are the patterns that we think might be persistent? And therefore, encourage us to think about long run trends and mean reversion. And what dynamics might actually be disconnected, or one offs that are characteristic of maybe structural change in the economy or geopolitics or in policymaking stance.

Andrew Sheets: How have these latest capital market assumptions changed over the last year?

Lisa Shalett: I think one of the most profound changes has been our willingness to embrace the idea that, in fact, we are in a higher for longer inflation regime. And that has a couple of implications. The first has to do, of course, with nominal returns. A higher inflation environment suggests that nominal returns are actually likely to be higher. The second really has to do with where we are in the cycle and its implications for correlations. We've been through periods most recently, where stocks and bonds were, in fact, anti-correlated; or there was a diversifying property, if you will to the 60 40 portfolio. Most recently, as inflation and level of interest rates has had profound importance to both stock valuations and bond valuations, we have found that these correlations have turned positive. And that creates a imperative, really, for clients to have to look elsewhere beyond cash, bonds, and stocks to get appropriate diversification in their portfolios.

Andrew Sheets: Well, it's been less than a month since we updated our strategic recommendations. We've recently also published an update to our tactical asset allocation recommendations. So, Lisa, I guess I have two questions. One is, how do you think about these different horizons, the strategic versus the tactical? And can you also summarize what's changed?

Lisa Shalett: Sure. You know, we very often talk to clients about the tactical horizon as being in the 12 to 18-month time frame.

In our most recent adjustment, we moved from what had been roughly a, year old underweight in US large cap stocks, and we neutralized that, kind of quote unquote, back to benchmark. So, we added some exposure, and we funded that exposure by selling out of two other positions; one that we had had in both small cap value and small cap growth, as well as a position we had, that we had put on as a hedging oriented position and long duration treasuries.

Now, some might say well, given the move in interest rates, is now the right time to take that hedge off? Our decision was basically premised on the fact that we're just not seeing the value in holding duration today given the inversion of the yield curve, and we're not getting paid for the risk of duration. And so, you know, we thought redeploying into those large cap stocks was prudent. 

Now, the other rationale, really has to do with earnings achievability. A lot of our thoughts were premised early in the year on this idea of a soft landing -- and a soft landing that would include deceleration in top line growth. And so, we were skeptical that could produce what consensus was looking for, which was a 10 to 11 per cent bottom line in 2024. 

As it turns out, it looks like, nominal GDP in the US is going to continue to persist at levels above 5 per cent, and that kind of tailwind, suggested that our skepticism would prove too conservative; and that, in fact, in a, 10 per cent bottom line could be achievable -- especially if it were being driven by manufacturing oriented companies who are seeing a pick up from global growth.

Andrew Sheets: Lisa, maybe if I could just ask you kind of one more question related to some of these longer-term assumptions, you know, I imagine you get some skepticism to say, ‘Well, you know, is the market of today really comparable to, say, the stock market of 30 or 40 years ago? Can we really use metrics or mean reversion that's worked in the past when, you know, the world is different.’

Lisa Shalett: Yeah, no, that, that's a fantastic question. I mean, some of the bigger variables in the world that we look at have shown over very long periods of time tendencies to cycle, whether those are things around the business cycle, valuations, cost of capital. Those are the types of variables that over long periods of time tend to mean revert. Same thing volatility. There tend to be long term characteristics. And the history book is pretty convincing that even if sometimes mean reversion is delayed, it ultimately plays out. 

But we do think that there are elements that we need to continue to question, right. One of them is, you know, has monetary policy and central bank intervention fundamentally changed the rules of the game? Where central banks implicitly or explicitly are managing market liquidity as much as they are managing cost of capital; and as a result, the way markets interact with the central bank and the guidance -- is that different?

A second, factor has to do with market structure, right? And in a world where market prices were really being determined almost exclusively by fundamentals, right? There was this constant rotational shift between growth style and value style and where value could be determined in the market. As we've moved to a market that is increasingly driven by passive flows; there's a question that many market participants have raised about whether or not markets have gotten more inefficient because price discovery is actually, in the short run, not what's driving prices, but rather flows; passive flows are driving prices.

And so, you know, how do we account for these leads and lags in prices being actually remarked to fundamentals? So those are at least two of the things that I know we are constantly tossing around as we think about our methodologies and capital market assumptions.

Andrew Sheets: That was part one of my conversation with Lisa Shalett, Chief Investment Officer for Morgan Stanley Wealth Management.

Look out for part two of our conversation, where we'll be discussing the impact of higher interest rates on asset classes. And how investors should think about an unusually concentrated stock market. 

Andrew Sheets: As a reminder, if you enjoy Thoughts in the Market, please take a moment to rate and review us wherever you get your podcasts. It helps more people find the show.

Original release date April 8, 2024: Our Global Chief Economist explains why the rapid hikes, pause and pivot of the current interest rate cycle are reminiscent of the 1990s.

----- Transcript -----

Welcome to Thoughts on the Market. I'm Seth Carpenter, Morgan Stanley's Global Chief Economist. Along with my colleagues bringing you a variety of perspectives, today I'll be talking about the current interest rate cycle and the parallels we can draw from the 1990s.

It's Monday, April 8th, at 10am in New York.

Last year, we reiterated the view that the 1990s remain a useful cycle to consider for understanding the current cycle. Our European equity strategy colleagues shared our view, and they've used that episode to inform their ‘out of consensus, bullish initiation on European equities’ in January. No two cycles are identical, but as we move closer to a Fed cut, we reassess the key aspects of that comparison.

We had previously argued that the current interest rate cycle and the mid 90s cycle differ from the intervening cycles because the goal now is to bring inflation down, rather than preventing it from rising. Of course, inflation was already falling when the 1994 cycle started, in part, because of the recession in 1991.

This cycle -- because much of the inflation was driven by COVID-related shocks, like supply chains for consumer goods and shifts in housing for shelter inflation -- inflation started falling rapidly from its peak before the first hike could have possibly had any effect. In recent months, our economic growth forecasts have been regularly revised upward, even as we have largely hit our expected path for inflation.

A labor supply shock appears to be a contributing factor that accounts for some of that forecast deviation, although fiscal policy likely contributed to the real side's strength as well. Supply shocks to the labor market are an interesting point of comparison for the two cycles. In the 1990s, labor force growth was still benefiting from this multi-decade rise in labor force participation among females. The aggregate labor force participation rate did not reach its peak until 2000.

Now, as we've noted in several publications, the surge in immigration is providing a similar supply side boost, at least for a couple of years. But the key lesson for me for the policy cycle is that monetary policy is not on a pre-set, predetermined course merely rising, peaking and then falling. Cycles can be nuanced. In 1994, the Fed hiked the funds rate to 6 per cent, paused at that peak and then cut 75 basis points over 1995 and 1996. After that, the next policy move was actually a hike, not a cut.

Currently, we think the Fed starts cutting rates in June; and for now, we expect that cutting to continue into next year. But as our US team has noted, the supply side revisions mean that the path for policy next year is just highly uncertain and subject to review. From 1994 to 1996, job gains trended down, much like they have over the past two years.

That slowing was reflective of a broader slowing in the economy that prompted the Fed to stop hiking and partially reverse course. So, should we expect the same now, only a very partial reversal? Well, it's too soon to tell, and as we've argued, the faster labor supply growth expands both aggregate demand and aggregate supply -- so a somewhat tighter policy stance could be appropriate.

In 1996, inflation stopped falling, and subsequently rose into 1997, and it was that development that supported the Fed's decision to maintain their somewhat restrictive policy. But we can't forget, afterward, inflation resumed its downward trajectory, with core PCE inflation eventually falling below 1.5 per cent, suggesting that that need to stop cutting and resume hiking, well, probably needs to be re-examined.

So, no two cycles match, and the comparison may break down. To date, the rapid hikes, pause and pivot, along with a seeming soft landing, keeps that comparison alive. The labor supply shock parallel is notable, but it also points to what might be, just might be, another possible parallel.

In the late 1990s, there was a rise in labor productivity, and we've written here many times about the potential contributions that AI might bring to labor productivity in coming years.

Thanks for listening. If you enjoy the show, please leave us a review wherever you listen to podcasts and share Thoughts on the Market with a friend or colleague today.

Our experts discuss U.S. dollar strength and its far-reaching impact on the global economy and the world’s stock markets.

----- Transcript -----

Michael Zezas: Welcome to Thoughts on the Market. I'm Michael Zezas, Morgan Stanley's Global Head of Fixed Income Research.

James Lord: I'm James Lord, Head of FX Strategy for Emerging Markets.

David Adams: And I'm Dave Adams, Head of G10 FX Strategy.

Michael Zezas: And on this episode of Thoughts on the Market, we'll discuss one of the most debated topics in world markets right now, the strength of the US dollar.

It's Wednesday, May 1st, at 3 pm in London.

Michael Zezas: Currencies around the world are falling as a strong US dollar continues its reign. This is an unusual situation. So much so that the finance ministers of Japan, South Korea, and the United States released a joint statement last month to address the effects being felt in Asia. The US dollar's dominance can have vast implications for the global economy and the world stock markets.

So, I wanted to sit down with my colleagues, James and David, who are Morgan Stanley's currency strategy experts for emerging markets and developed markets. James, just how dominant is the US dollar right now and what's driving the strength?

James Lord: So, we should distinguish between the role the US dollar plays as the world's dominant reserve currency and its value, which can go up and down for other reasons.

Right now, the dollar remains just as dominant in the international monetary system as it has been over the past several decades, whilst it also happens to be very strong in terms of its value, as you mentioned. That strength in its value is really being driven by the continued outperformance of the US economy and the ongoing rise in US interest rates, while growth in the rest of the world is more subdued.

The dollar's international role remains dominant simply because no other economy or market can match the depth of the US capital markets and the liquidity that it provides, both as a means of raising capital, but also as a store of value for investment; while also offering the strong protection of property rights, strong sovereign credit ratings, the rule of law, and an open capital account. There simply isn't another market that can challenge the US in that respect.

Michael Zezas: And can you talk a bit more specifically about the various ways in which the dollar impacts the global economy?

James Lord: So, one of the strongest impacts is through the price of the dollar, and the price of dollar debt, which have an impact beyond the borders of the US economy. Because the majority of foreign currency denominated debt that corporates outside of the US issue is denominated in US dollars, the interest rate that's set by the US Federal Reserve has a big impact on the cost of borrowing. It's also the same for many emerging market sovereigns that also issue heavily in US dollars. The US dollar is also used heavily in international trade, cross border lending, because the majority of international trade is denominated in US dollars. So, when US interest rates rise, it also tightens monetary conditions for the rest of the world. That is why the US Federal Reserve is often referred to as the world's central bank, even though Fed only sets policy with respect to the US economy.

And the US dollar strengthens, as it has been over the past 10 years, it also makes it more challenging for countries that borrow in dollars to repay that debt, unless they have enough dollar assets.

Again, that's another tightening of financial conditions for the rest of the world. I think it was a US Treasury Secretary from several decades ago who said that the US dollar is our currency, but your problem. And that neatly sums up the global influence the US dollar has.

Michael Zezas: And David, nothing seems to typify the strength of the US dollar recently, like the currency moves we're seeing with the Japanese Yen. It looks very weak at the moment, and yet the Japanese stock market is very strong.

David Adams: Yeah, weak is an understatement for the Japanese yen. In nominal terms, the yen is at its weakest level versus the dollar since 1990. And if we look in real terms, it hasn't been this weak since the late 1960s. Why it's weak is pretty easy to explain, though. It's monetary policy divergence. Theory tells us that as long as capital is free to move, a country can't both control its interest rates and control the exchange rate at the same time.

G10 economies typically choose to control rates and leave their currencies to float, and the US and Japan are no exception. So, while the while the Fed's policy rate has risen to multi-decade highs, Japan's has been left basically unchanged, consistent with its economic fundamentals.

Now, you mentioned Japanese equities, which is also increasingly important to this story. As foreign investors have deployed more cash into the Japanese stock market, a lot of them have hedged their FX [foreign exchange] exposure, which means they're buying back dollars in the forward market. The more that Japanese equities rise, the more hedges they add, increasing dollar demand versus the yen.

So, put simply, the best outcome for dollar yen to keep rising is for US rates versus Japan and Japanese equities to both keep marching higher. And for a lot of investors, this seems increasingly like their base case.

Michael Zezas: That makes sense. And yet, despite the dollar's clear dominance at the moment, the consensus view on the dollar is that it's going to get weaker. Why is that the case and what's the market missing?

James Lord: Yeah, the consensus has been on the wrong side of the dollar call for quite a few years now, with a persistently bearish outlook, which has largely been incorrect. I think for the most part this is because the consensus has underestimated the strength of the US economy. It wasn't that long ago when the consensus was calling for a hard landing in the US economy and a pretty deep easing cycle from the Fed. And yet here we are with GDP growth north of 2 per cent and murmurings of another rate hike entering the narrative. I also wonder whether this debate about de-dollarization, whereby the dollar's global influence starts to wane, has impacted the sentiment of forecasters a bit as well.

We have seen over the past three to four years much more noise in the media on this topic, and there appears to be a correlation between the extent to which the consensus is expecting dollar weakness and the number of media articles that are discussing the dollar's status as the world's major reserve currency.

Maybe that's coincidence, but it's also consistent with our view that the market generally worries too much about this issue and the impact that it could have on the dollar's outlook.

Michael Zezas: Now there've been a few notable changes to Morgan Stanley's macro forecasts over the last few weeks. Our US economist, Ellen Zentner revised up her forecast for US growth and inflation. And she also pushed back our expectations for the first Fed cut. Along with this, our US rate strategy team also revised their 10-year treasury yield expectations higher. Do these updates to the macro-outlook impact your bullish view on the dollar, both near term and longer term?

David Adams: So, higher US rates are often helpful for the dollar, but we think some nuance is required. It's not that US rates are moving; it's why they're moving. And our four-regime dollar framework shows that increases or decreases in rates can give us very different dollar outcomes depending on the reason why rates are moving.

So far this year, rates have been moving higher in a pretty benign risk environment. And in a world where US real interest rates rise alongside equities; the dollar tends to go nowhere in the aggregate. It gains versus low yielding funders like the Japanese yen, the Swiss franc, and the euro, but it tends to weaken versus those higher beta currencies with positive carry, like the Mexican peso. It's why we've been neutral on the dollar overall since the start of the year, but we still emphasize dollar strength, especially versus the euro.

If rising rates were to start weighing on equities, that would lead the dollar to start rallying broadly, what we call Regime 3 of our framework. It's not our base case, but it's a risk we think markets are starting to get more nervous about. It suggests that the balance of risks are increasingly towards a higher dollar rather than a lower one.

Michael Zezas: And finally, Dave, I wanted to ask about potential risks to the US dollar's current strength.

David Adams: I'd say the clearest dollar negative risk for me is a rebound in European and Chinese growth. It's hard for investors to get excited about selling the dollar without a clear alternative to buy. A big rebound in rest of world growth could easily make those alternatives look more attractive, though how probable that outcome is remains debatable.

Michael Zezas: Got it. So, this discussion of risk to the strong dollar may be a good time to pause. There's so much more to talk about here. We've barely scratched the surface. So, let's continue the conversation in the near future when we can talk more about the dollar status as the world's dominant reserve currency and potential challenges to that position.

James Lord: This sounds like a great idea, Mike. Talk to you soon.

David Adams: Likewise. Thanks for having me on the show and look forward to our next conversation.

Michael Zezas: As a reminder, if you enjoy Thoughts on the Market, please take a moment to rate and review us wherever you listen to podcasts and share Thoughts on the Market with a friend or colleague today.

Our analysts survey the hurdles, opportunities and investment trends in energy renovation.

Please note that Laurel Durkay is not a member of Morgan Stanley’s Research department. Unless otherwise indicated, her views are her own and may differ from the views of the Morgan Stanley Research department and from the views of others within Morgan Stanley. We make no claim that Ms Durkay’s representations are accurate or complete.

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Cedar Ekblom: Welcome to Thoughts on the Market. I'm Cedar Ekblom, Equity Research Analyst, covering the European building and construction sector for Morgan Stanley Research.

Laurel Durkay: And I'm Laurel Durkay, head of the Global Listed Real Assets Team within Morgan Stanley Investment Management.

Cedar Ekblom: And on this special episode of Thoughts on the Market, we'll discuss the opportunities, risks, and latest investment trends when it comes to decarbonizing buildings.

It's Tuesday, April 30th, at 2pm in London.

Laurel Durkay: And 9am in New York.

Cedar Ekblom: So, let's take a step back. Picture the gleaming towers of New York, London, or Hong Kong. Now think about these buildings breathing out carbon dioxide. The built environment is responsible for about a third of all global energy consumption and CO2 emissions. And so, if we want to get to Net Zero by 2050, which means emitting as much CO2 into the atmosphere as we take out of it, decarbonizing the building stock is essential.

We've been doing a lot of work in Europe from the research side to try and understand how the investment trends are linked to this topic. But Laurel, I wanted to have you on the podcast because I wanted to understand how you're coming at it from the other side as a real estate investor and portfolio manager.

Laurel Durkay: Yeah, Cedar, so I've seen some of your notes and I actually wasn't too surprised by your conclusion that energy renovation is seeing rising investment momentum in Europe. And this is despite the high upfront costs which are driven by government regulation, build cost inflation and higher interest rates.

Cedar Ekblom: Yeah, we decided to do this work because we've had a lot of incoming from investors around what's happening from an investment perspective because we have seen a few government policy sidesteps or backtracks in the last 12 to 18 months around this topic. And so, we did some proprietary survey work in the residential, non-residential and providers of capital space. And we had some really interesting outcomes.

I think the most interesting was that despite the fact that government subsidies have been dialed back a little bit, and the cost of investment has gone up because of inflation, actually private investment is really robust. And I think it's because there is a clear economic incentive that both homeowners and non-residential building owners are actually talking to.

I mean, the first one is that homeowners are telling us that they see a 12 per cent increase in their home equity value if they green that property. And when we look at the non-residential space, what we're seeing is that renovation budgets are up 4 per cent year over year, even in a backdrop of higher interest rates.

We see a huge runway of investment to come through on this topic. It is multi-decade. It's not going to happen overnight.

You're talking about 2.8 trillion euros of investment by 2030 on our estimates, and that number extending to potentially 5 trillion euros by 2050. And that's just in Europe.

Laurel Durkay: So the scope and need for investment really is huge. What do you think are the hurdles to delivering this opportunity?

Cedar Ekblom: It's such an interesting question. I mean, there are so many. It's a little bit daunting at points when you think about it, but we're looking at really complicated projects. We're looking at skills bottlenecks. We're looking at upfront costs being really high. We're also looking at energy policy, not necessarily being aligned in every region in Europe.

So yes, it's going to cost you a lot, but basically the respondents to the surveys tend to suggest that the benefits are actually starting to outweigh those potential costs.

So, Laurel, I think that there's been some really interesting overlaps between what you and I cover, but from different angles. Let me pivot to you. How do you think about sustainability when it comes to real estate investment in your seat?

Laurel Durkay: Yeah, bottom line is that understanding and incorporating sustainability and real estate investing really is very important; and we need to be aware not only of the physical risks, but also those transition risks associated with buildings. Taking a step back, what I'm observing is that real estate is seeing the sustainability focus really play out from three different constituents, and that's from investors, from regulators, and from tenants.

So, from that investor perspective, we're seeing increasing demand for sustainable linked financing investing. Think green bonds. In some cases, you're actually seeing more favorable spreads for green financing versus traditional -- and ultimately that means better cash flows for companies.

We also have that coming from the government. What we see is a continued evolution on regulations, and there have been several real estate specific laws being adopted across the states.

All of these have the objective of providing greater transparency on carbon emissions with the ultimate goal of reducing such emissions. Now lastly, for tenants, we're seeing increasing demand for sustainable and best in class buildings.

There's actually a growing body of evidence that shows sustainability is impacting leasing decisions and resulting in rent premiums

Cedar Ekblom: So, how do we think about integrating ESG into your investment process?

Laurel Durkay: So, there's a number of different metrics that we're looking at. We've run a proprietary analysis really trying to identify the most financially material factors. And we've ultimately concluded that the most important factors to be looking at are the absolute level of emissions and then the progress towards reducing those emissions -- water and waste usage, green certified buildings -- among a number of other factors.

Ultimately, what we need to do is put together a framework that helps us assess the expenditures in order to really adhere to the regulatory requirements that I was just describing and ultimately allow the buildings to enjoy operational cost savings from implementing sustainability measures.

This is really about future proofing buildings and enhancing value.

Cedar Ekblom: So, it sounds like really a topic around trying to understand where they may or may not be stranded assets. We've spoken a lot about this topic in Europe, but maybe you could talk a little bit about what's happening from a sort of policy backdrop in the US.

Laurel Durkay: Yeah, so government really is driving a lot of this change, both at a federal and at a state level. So, from a federal perspective, it really is more of a carrot as opposed to a stick with regard to implementation and adoption, really rewarding those who embrace sustainability. Now, interestingly, from a state perspective, it's a bit more of a stick than a carrot.

Buildings not in compliance will be subject to fines and penalties. I should also mention that the SEC is getting really involved with the adoption of new climate related disclosure requirements.

Now this isn't real estate specific, but it is impactful, nonetheless. New requirements mandate companies to disclose material Scope 1 and Scope 2 greenhouse gas emissions.

Right now, less than 30 per cent of US companies even attempt to disclose Scope 3, and that's even less for real estate. Now Cedar, these scope three emissions are really where our worlds intersect most given the built environment.

So, for a typical property owner, Scope 1 emissions represent about 25 per cent. Scope 2 is about 55 per cent of their missions. And then the remainder is going to be this Scope 3. But if you look at a developer and an owner, that's where you see Scope 3 emissions range between 80 to 95 per cent of their total emissions.

Cedar Ekblom: So, if we look towards the future, what are you hearing from clients and colleagues about where sustainability investment trends go from here?

Laurel Durkay: I think the trends have to be towards reducing these Scope 3 emissions, or maybe I just I hope that's where the trend is. You really need for building developers and owners to focus on development processes, building products and materials, and you need to see innovation within that space.

Now, how about from your side, Cedar? What are you hearing from various companies you cover about the trends they foresee?

Cedar Ekblom: The building materials and products businesses are really bullish on the long-term investment horizon on this topic. And we can see that in some of the data in Europe. The new build environment is under a lot of pressure. Higher interest rates have impacted affordability, and we have some activity in new build down 20 to 30 per cent.

And yet when you look at the renovation and the refurbishment sector, we actually have a much more resilient backdrop.

So look, our companies are really bullish on this. We ultimately see this manifesting in a higher multiple for businesses linked to this theme over the medium term. In all honesty, we're really just at the beginning of this theme. We think there's a lot of runway of investment still to come and we're keeping an eye on it.

So, with that, Laurel, I'd like to say, thanks for taking the time to talk.

Laurel Durkay: It was great speaking with you, Cedar.

Cedar Ekblom: And as a reminder to our listeners, if you've enjoyed thoughts on the market, please take a moment to rate and review us wherever you listen to the podcast. It helps more people to find the show.

Our analysts find that despite the obvious differences between retail fashion and airlines, struggling brands in both industries can use a similar playbook for a turnaround.

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Ravi Shanker: Welcome to Thoughts on the Market. I'm Ravi Shanker, Morgan Stanley's North American Freight Transportation and Airlines Analyst.

Alex Straton: And I'm Alex Straton, Morgan Stanley's North America Softlines, Retail and Brands Analyst.

Ravi Shanker: On this episode of the podcast, we'll discuss some really surprising parallels between fashion, retail, and airlines.

It's Monday, April 29th at 10am in New York.

Now, you're probably wondering why we're talking about airlines and fashion retail in the same sentence. And that's because even though they may seem worlds apart, they actually have a lot in common. They're both highly cyclical industries driven by consumer spending, inventory pressure, and brand attrition over time.

And so, we would argue that what applies to one industry actually has relevance to the other industry as well. So, Alex, you've been observing some remarkable turnaround stories in your space recently. Can you paint a picture of what some fashion retail businesses have done to engineer a successful turnaround? Maybe go over some of the fundamentals first?

Alex Straton: What I'll lead with here is that in my North America apparel retail coverage, turnarounds are incredibly hard to come by, to the point where I'd argue I'm skeptical when any business tries to architect one. And part of that difficulty directly pertains to your question, Ravi -- the fundamental backdrop of the industry.

So, what are we working with here? Apparel is a low single digit growing category here in North America, where the average retailer operates at a mid single digit plus margin level. This is super meager compared to other more profitable industries that Ravi and I don't necessarily have the joy of covering. But part of why my industry is characterized by such low operating performance is the fact that there are incredibly low barriers to entry in the space. And you can really see that in two dynamics.

The first being how fragmented the competitive landscape is. That means that there are many players as opposed to consolidation across a select few. Just think of how many options you have out there as you shop for clothing and then how much that has changed over time. And then second, and somewhat due to that fragmentation, the category has historically been deflationary, meaning prices have actually fallen over time as retailers compete mostly on price to garner consumer attention and market share.

So put differently, historically, retailers’ key tool for drawing in the consumer and driving sales has been based on being price competitive, often through promotions and discounting, which, along with other structural headwinds, like declining mall traffic, e-commerce growth and then rising wages, rent and product input costs has actually meant the average retailers’ margin was in a steady and unfortunately structural decline prior to the pandemic.

So, this reliance on promotions and discounting in tandem with those other pressures I just mentioned, not only hurt many retailers’ earnings power but in many cases also degraded consumer brand perception, creating a super tough cycle to break out of and thus turnarounds very tough to come by -- bringing it full circle.

So, in a nutshell, what you should hear is apparel is a low barrier to entry, fragmented market with subsequently thin margins and little to no precedent for successful turnarounds. That's not to say a retail turnaround isn't possible, though, Ravi.

Ravi Shanker: Got it. So that's great background. And you've identified some very specific key levers that these fashion retail companies can pull in order to boost their profitability. What are some of these levers?

Alex Straton: We do have a recent example in the space of a company that was able to break free of that rather vicious cycle I just went through, and it actually lifted its sales growth and profitability levels above industry average. From our standpoint, this super rare retail turnaround relied on five key levers, and the first was targeting a different customer demographic. Think going from a teens focused customer with limited brand loyalty to an older, wealthier and less fickle shopper; more reliable, but differently.

Second, you know, evolving the product assortment. So, think mixing the assortment into higher priced, less seasonal items that come with better margins. To bring this to life, imagine a jeans and tees business widening its offering to include things like tailored pants and dresses that are often higher margin.

Third, we saw that changing the pricing strategy was also key. You can retrain or reposition a brand as not only higher priced through the two levers I just mentioned, but also try and be less promotional overall. This is arguably, from my experience, one of the hardest things for a retailer to execute over time. So, this is the thing I would typically, you know, red flag if you hear it.

Fourth, and this is very, very key, reducing the store footprint, re-examining your costs. So, as I mentioned in my coverage, cost inflation across the P&L (profit and loss) historically, consumers moving online over time, and what it means is retailers are sitting on a cost base that might not necessarily be right for the new demand or the new structure of the business. So, finding cost savings on that front can really do wonders for the margins.

Fifth, and I list this last because it's a little bit more of a qualitative type of lever -- is that you can focus on digital. That really matters in this modern era. What we saw was a retailer use digital driven data to inform decision making across the business, aligning consumer experience across channels and doing this in a profitable way, which is no easy feat, to say the least.

So, look, we identified five broad enablers of a turnaround. But there were, of course, little changes along the way that were also done.

Ravi Shanker: Right.

Alex Straton: So, Ravi, given what we've discussed, how do you think this turnaround model from fashion retail can apply to airlines?

Ravi Shanker: Look, I mean, as we discussed, at the top here, we think there are significant similarities between the world of fashion retail and airlines; even though it may not seem obvious, at first glance. I mean, they're both very consumer discretionary type, demand environments. The vicious circle that you described, the price deflation, the competition, the brand attrition, all of that applies to retail and to airlines as well.

And so, I think when you look at the five enablers of the turnaround or levers that you pull to make it happen, I think those can apply from retail to airlines as well. For instance, you target a different customer, one that likes to travel, one that is a premium customer and, and wants to sit in the front of the plane and spend more money.

Second, you have a different product out there. Kind of you make your product better, and it's a better experience in the sky, and you give the customer an opportunity to subscribe to credit cards and loyalty program and have a full-service experience when they travel.

Third, you change your distribution method. You kind of go more digital, as you said. We don't have inventory here, so it'd be more of -- you don't fly everywhere all the time and be everything to everyone. You are a more focused airline and give your customer a better experience. So, all of those things can drive better outcomes and better financial performance, both in the world of fashion retail as well as in the world of airlines.

Alex Straton: So, Ravi, we've definitely identified some pretty startling similarities between fashion retail and airlines. Definitely more so than I appreciated when you called me a couple months ago to explore this topic. So, with that in mind, what are some of the differences and challenges to applying to airlines, a playbook taken from the world of fashion retail?

Ravi Shanker: Right, so, look, I mean, they are obviously very different industries, right? For instance, clothing is a basic human staple; air travel and going on vacations is not. It's a lot more discretionary. The industry is a lot more consolidated in the airline space compared to the world of retail. Air travel is also a lot more premium compared to the entire retail industry. But when you look at premium retail and what some of those brands have done where brands really make a difference, the product really makes a difference. I think there are a lot more similarities than differences between those premium retail brands on the airline industry.

So, Alex, going back to you, given the success of the turnaround model that you've discussed, do you think more retail businesses will adopt it? And are there any risks if that becomes a norm?

Alex Straton: The reality is Ravi, I breezed through those five key enablers in a super clear manner. But, first, you know, the enablers of a turnaround in my view are only super clear in hindsight. And then secondly, one thing I want to just re-emphasize again is that a turnaround of the nature I described isn't something that happens overnight. Shifting something like your consumer base or changing investor perception of discounting activity is a multi year, incredibly difficult task; meaning turnarounds are also often multi year affairs, if ever successful at all.

So, looking ahead, given how rare retail turnarounds have proven to be historically, I think while many businesses in my coverage area are super intrigued by some of this recent success; at the same time, I think they're eyes wide open that it's much easier said than done, with execution far from certain in any given turnaround.

Ravi Shanker: Got it. I think the good news from my perspective is that hindsight and time both the best teachers, especially when put together. And so, I think the learnings of some of the success stories in your sector can not only be lessons for other companies in your space; they can also be lessons in my space. And like I said, I think some airlines have already started embarking on this turnaround, others are looking to see what they can do here. And I'm sure again, best practices and lessons can be shared from one sector to another. So, Alex, thanks so much for taking the time to talk to us today.

Alex Straton: It was great to speak with you, Ravi.

Ravi Shanker: And thanks for listening. If you enjoy Thoughts on the Market, please leave us a review wherever you listen to the show and share the podcast with a friend or colleague today.

Our Head of Europe Thematic Research discusses revolutionary “Longshot” technologies that can potentially alter the course of human ageing, and which of them look most investible to the market.

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Welcome to Thoughts on the Market. I’m Ed Stanley, Morgan Stanley’s Head of Thematic Research in London. Along with my colleagues bringing you a variety of perspectives, today I’ll discuss the promise of technology that might help us live longer and better lives.  

It’s Friday, the 26th of April, at 2pm in London.

You may have heard me discuss Moonshots and Earthshots on this podcast before. Moonshots are ambitious solutions to seemingly insurmountable problems using disruptive technology, predominantly software; while Earthshots, by contrast, are radical planet-focused technologies to accelerate decarbonization and mitigate global warming, predominantly hardware challenges.

But today I want to address a third group of revolutionary solutions that I call Longshots. These are the most promising Longevity technologies. And in terms of the three big secular themes that Morgan Stanley is focused on – which are Decarbonization, Tech Diffusion, and Longevity – Longshots straddle the latter two. 

Unlike software-based Moonshots or hardware-based Earthshots, these Longshots face some of the greatest challenges of all. First, we know remarkably little about the process of ageing. Second, these are both hardware and software problems. And third, the regulatory hurdles are far more stringent in healthcare, when compared to most other emerging technology fields.      

We believe the success of Longshots depends on a deep understanding of Longevity. And loosely speaking, you can think of that as a question of whether someone's phenotype can outweigh their genotype. In other words, can their lifestyle, choices, environment trump the genetics that are written into their DNA.

Modern medicine, by focusing almost exclusively on treating disease rather than preventing it, has succeeded in keeping us alive for longer – but also sicker for longer. Preventing disease increases our health spans and reduces morbidity, and its associated costs.

So, in this regard, can we learn anything from the centenarians - the people who live to a hundred and beyond? They number around 30 people in every 100,000 of the population. And many of them live healthy lives well into their eighties. And what makes them so rare is they are statistically better at avoiding what the medical industry calls the Four Horsemen: coronary disease, diabetes, cancer and Alzheimer’s. So, can Longshots help to replicate that successful healthy ageing story for a larger slice of the population?

We look to technology for ways to delay the onset of these chronic diseases by 10 to 30 years, giving healthy life extension for all. That’s not an outlandish goal in theory; but in practice we need a new approach to medical research. And we will be watching how the ten key Longshots we have identified play into this.

Two of these Longshots are already familiar to our listeners: Diabesity medication and Smart Chemotherapy treatments, with a combined addressable market – according to our analysts – of a quarter of a trillion dollars. The other eight Longshots include AI-enabled drug discovery, machine vision embryo selection dramatically increasing the odds of fertility via IVF, bioprinting of organs, brain-computer Interfaces, CRISPR, DNA synthesis, robotics and psychedelics. 

In assessing the maturity and investibility of these ten Longshots, we find that obesity medication, smart chemo, and AI-assisted drug discovery are better understood by the market and look more investible. Many of the others are seeing material outcome- and cost-improvements but they remain earlier-stage, more speculative, particularly for public market investors.

In contrast to Moonshots and Earthshots, where venture investors make up the lion's share of most of the early-stage capital, Longshots have substantially higher exposure to government agencies that make investments in early-stage healthcare projects. Governments are making hundreds of bets on Longshots in searches for solutions to reduce overall healthcare spending – or at the very least get a better return on that investment – which in 2023 amounted to $4.5 trillion in the US, and a whopping $10 trillion globally.

Clearly, the stakes are very high, and the market opportunity is vast, particularly as AI technologies advance in tandem. And so, we’ll keep you updated on the promise of these Longshots. 

Thanks for listening. If you enjoy the show, please leave a review and share Thoughts on the Market with a friend or a colleague today.

With interest in anti-obesity medications growing significantly, the head of our European Pharmaceuticals Team examines just how large that market could become.

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Welcome to Thoughts on the Market. I’m Mark Purcell, head of Morgan Stanley’s European Pharmaceuticals Team. Along with my colleagues bringing you a variety of perspectives, today I’ll talk about the enormous ripple effects of anti-obesity drugs across the global economy. 

It’s Thursday, April the 25th, and it’s 2pm in London. 

Obesity is one of the biggest health challenges of our time. More than a billion people are living with obesity worldwide today, with 54 per cent of adults expected to be either overweight or obese by 2035. Growing rates of obesity worldwide combined with rising longevity are putting a heavy burden on healthcare systems.

Our Global Pharma team has covered obesity extensively over the last 18 months. When we wrote our original report in the summer of 2022, the whole debate centered on establishing the patient-physician engagement. The historic precedent we looked at was the hypertension market in the 1980s when high blood pressure was considered a disease caused by stress rather than a chronic illness. And obesity was seen as the result of genetics or a lack of willpower.

But through the influence of social media and an increasingly weight-centric approach to treating diabetes, demand for anti-obesity medications skyrocketed. Back in July 2022, we saw obesity as a $55 billion market. And at that point the key question was if and when these drugs would be reimbursed. 

If you fast-forward to July 2023, what we saw was reimbursement kicking in the U.S. much more quickly than we anticipated. There were almost 40 million people who had access to these medicines, and 80 percent of them were paying less than $25 out of pocket. 

By the end of 2023 we had the first landmark obesity trial called SELECT, and that finally established that weight management saves lives in individuals not living with diabetes. These SELECT data supported the cardiac protection GLP-1 medicines have already established for individuals living with diabetes. We expect weight management with anti-obesity medicines will improve the outlook for more than 200 chronic diseases, or so-called co-morbidities, including heart failure and kidney disease, as well as complications like sleep apnea, osteoarthritis, and even potentially Alzheimer's disease.

Now the debate is no longer about demand for these medicines, but it’s about supply. The major pharma companies in the space are investing almost $60 billion of capital expenditure in order to establish a supply chain that can satisfy this vast demand. 

And beyond supply, the other side of the current debate is the ripple effects from anti-obesity drugs. How will they impact the broader healthcare sector, consumer goods, food, apparel? And how do lower obesity rates impact life expectancy? 

So, with all this in mind, our base case, we estimate the global obesity market will now reach $105 billion in 2030. Right now, supply is being primarily diverted to the U.S., but in the long term we think that the market opportunity will become bigger outside the US. 

Furthermore, the size of the obesity market will be determined by co-morbidities and improved supply. So, if all these factors play out, our bull scenario is a $144 billion total addressable market. However, if supply constraints continue, then we can see a market more restricted to $55 billion as of 2030. So, things are developing fast, and we will continue to keep you updated. 

Thanks for listening. If you enjoy the show, please leave us a review wherever you listen to podcasts and share Thoughts on the Market with a friend or colleague today.

As the U.S. presidential election remains closely contested, our experts discuss what a change in administration could mean for European equities in terms of trade, China relations and other key issues.

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Michael Zezas: Welcome to Thoughts on the Market. I'm Michael Zezas, Global Head of Fixed Income and Thematic Research.

Marina Zavolock: And I'm Marina Zavolock, Chief European Equity Strategist.

Michael Zezas: And on this episode of Thoughts on the Market, we'll discuss how the U.S. election could impact European markets.

It's Wednesday, April 24th at 10am in New York.

Marina Zavolock: And 3pm in London.

Michael Zezas: As the U.S. presidential election gets closer and the outcome remains highly uncertain, we're exploring the impact of a potential departure from the current status quo of President Biden in the White House. Today, my colleague Marina and I want to discuss just what that would mean for European equity markets.

Marina, how closely is Europe following the election, and why?

Marina Zavolock: So, European equities derive about 25 percent of their market cap weighted revenues from the U.S. And the U.S. is the largest export market for European firms outside of Europe. So, of course, interest in U.S. elections here is very high; and this is in terms of the exposures of European stocks, sectors, asset classes, and economics as a whole. European investors, I would say that their peak interest in U.S. elections was around the Republican primaries, and it's stayed elevated ever since.

And Mike, I know you want to dig in specifically on how European markets would react in a change in status quo scenario. But first let's talk about your outlook on some of the key policies that may change if Biden loses the election. What are your thoughts on trade policy and tariffs?

Michael Zezas: Trump's been clear about his view that countries levying higher tariffs on U.S. imports than the US levies on their imports is unfair, and he's willing to correct it with tariffs. And while in his term as president he focused more on China, he was interested in tariff escalation with Europe. But he reportedly was moved off that position by advisors and members of his own party who were wary of creating more noise in the transatlantic alliance. But this time around, the Republican party's views are much more aligned with Trump's. So, imports on European goods like autos could easily come into scope.

Marina, how are you thinking about the impact of potentially higher tariffs on the European market? What sectors might be most affected?

Marina Zavolock: The initial reaction to recent tariff related headlines we've been fielding from investors is around the risks to our bullish European equities view in particular. The general investor feedback we get is that European equities may continue to rally for now, but as we approach November and as we approach US elections, the downside risks from this event start to build.

What our in-depth analysis demonstrates, however, is that it's far more nuanced than that. As I mentioned, Europe derives about 25 per cent of its weighted revenues from the US. But, when we've dug into that number, most of these revenues are in the form of services or local to local goods, meaning goods produced locally in the US and sold in the US -- but by European companies. Only about 6 per cent of Europe's overall weighted revenue exposure is to goods exported into the US. So, we find the risk is far more idiosyncratic from a change in tariff policy than broad based. And in terms of individual sectors most exposed to tariff risks, these include a lot of healthcare sectors -- med tech, life sciences, pharma, biotech -- aerospace as well, metals and mining; of course, autos as you mentioned, and a number of others.

After tariffs, the Inflation Reduction Act (IRA) is the next most common policy area we get asked about in Europe, given relatively high exposures for European utilities, construction materials, and the capital goods sector.

Overall, we find European equities aggregate exposure to IRA is also low, is less than 2 percent of weighted revenues, so even lower than that of tariffs. But the stocks most exposed in Europe to IRA are underperforming the rest of the market. What are your scenarios around the IRA if Trump wins, Mike?

Michael Zezas: Well, we think the money appropriated in the IRA is here to stay. Many of that program's investments overlap with geographies represented by Republicans in Congress, which means repealing the IRA may be a better talking point than a political strategy -- similar to how Republicans in 2017 failed to repeal the Affordable Care Act despite campaigning on that as a priority. But Trump could certainly slow the spending of that money through regulatory means such as ratcheting up the rules about how much of the materials involved have to be sourced from within the US.

Now switching gears, Marina, you mentioned the performance of European stocks related to our election scenarios. Based on your recent work, you have very granular stock level data on relative exposure to potential administration policies. How are stocks with the greatest exposures behaving overall?

Marina Zavolock: Yeah, this was a very interesting conclusion from our work. We thought that it's still fairly early ahead of US elections for stocks to start to diverge on the basis of potential policy changes. But what we found when we surveyed our analysts and collected data for over 350 European stocks with material US exposure is that when we break out these exposures and we aggregate them, the stocks with the highest level of potential risk exposure to Trump administration policies are underperforming the overall market. And the stocks with the greatest potential positive exposure, to Trump administration policies are outperforming.

And then you have groups like moderate exposure that are in the middle, and these groups, no matter how we slice the data for different policies, are lining up. Exactly as you might expect, depending on their level of exposure as the market starts to price in some probability of either scenario coming through. We're also starting to see the volatility of the stocks most exposed start to rise. But this is a very early trend.

The other big area that we get asked about is China. So, Europe has about 8 per cent of its weighted revenues exposed to China. It's the highest of any major developed market region in the world. What are your expectations about China policy under a new Trump administration?

Michael Zezas: Well, it's bipartisan consensus now that China is a rival and that more protective barriers to trade are needed to protect the US' tech advantage in order to safeguard US national and economic security. But like with Europe, Trump appears more willing to use tariffs as a tool in this rivalry, which can create more rhetorical and fundamental noise in the economic relationship.

Marina, how do you think this would impact Europe?

Marina Zavolock: So, we've been talking about China as a risk factor for some time for a variety of reasons, and recently when I mentioned that European stocks are starting to react to potential change in administration policies. This hasn't so much been the case on China exposures. China exposures are behaving as they were before. We're not seeing any great divergences as we approach elections; though in our overall model, we do favor sectors with lower exposure to China.

Mike, and how are you thinking about Ukraine? We have a huge amount of interest in the defense sector, and it's one of the best performing sectors in Europe this year.

Michael Zezas: Yeah. So here Trump's been pretty clear that he'd like to push for a rapid reconciliation between Russia and Ukraine. What investors should pay attention to is that a Trump attempt at rapid reconciliation, perhaps in contrast with the European approach. And then when you couple that with potential tariffs on Europe from the US, it can send a signal to Europe that they have to shift their own defense and economic strategy. And one manifestation of that could be greater security spending, particularly defense spending in Europe and globally. It's a key reason why defense is a sector we favor in both the US and Europe.

So, Marina, what are some of the bottom-line conclusions for investors?

Marina Zavolock: I think there's two main conclusions from our work. First, the aggregate exposures in Europe to potential changes in policy from a Trump administration are pretty low and quite idiosyncratic by stock. We talked about a few of the greatest exposure areas, but in aggregate, if we take all the policy areas that we've analyzed, net exposure of Europe's revenues is about 7 per cent.

Second, the stocks that are most exposed, either positively or negatively, are already moving based on those relative exposures, and we think that will continue, and these groups of stocks will also have increased volatility as we get closer to November.

Michael Zezas: Marina, thanks for taking the time to talk.

Marina Zavolock: Great speaking with you, Mike.

Michael Zezas: As a reminder, if you enjoy Thoughts on the Market, please take a moment to rate and review us wherever you listen to podcasts; and share Thoughts on the Market with a friend or colleague today.

Important note regarding economic sanctions. This research references country/ies which are generally the subject of comprehensive or 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 and multi-national bodies. Any references in this report to entities, debt or equity instruments, projects or persons that may be covered by such sanctions are strictly informational, and should not be read as recommending or advising as to any investment activities in relation to such entities, instruments or projects. Users of this report are solely responsible for ensuring that their investment activities in relation to any sanctioned country/ies are carried out in compliance with applicable sanctions.

New data on both immigration and inflation defied predictions and may have shifted the Fed’s perspective. Our Chief U.S. Economist and Head of U.S. Rates Strategy share their updated outlooks.  

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Ellen Zentner: Welcome to Thoughts on the Market. I'm Ellen Zentner, Morgan Stanley's Chief US Economist.

Guneet Dhingra: And I'm Guneet Dhingra, Head of US Rates Strategy.

Ellen Zentner: And today on the podcast, we'll be discussing some significant changes to our US economic outlook and US rates outlook for the rest of this year.

It's Tuesday, April 23rd at 10am in New York.

Guneet Dhingra: So, Ellen, last week you put out an updated view on your outlook -- with some substantial forecast changes. Can you give us the headlines on GDP, inflation and the Fed forecast path? And what has really changed versus your last update?

Ellen Zentner: Sure Guneet. So, our last economic outlook update was in November last year. And since that time, really, the impetus for all of these changes came from immigration. So, we got new immigration data from the CBO, and just to give you a sense of the magnitude of upward revision, we thought we had an increase of 800,000 in 2023. It turns out it was 3.3 million. And so far, the flows of immigrants suggest that we're going to get about as many as last year, if not a little bit more. And so, what does that mean? Faster population growth, those are more mouths to feed. You've got a faster labor force growth. They can work. They are working. And data historically shows that their labor force participation rates are higher than native born Americans.

So, you've got to take all this into account. And it means that you've got this big positive supply side shock. And so, when the labor market has been about balance now between demand and supply, as Chair Powell's been noting, you're now going to have supply outrun demand this year.

And so, you basically got much more labor market slack. You've got -- and I'm going to steal Chair Powell's words here -- you've got a bigger economy, but not a tighter economy. So, it's faster GDP growth. We have taken out one Fed cut, and I know we're going to talk about that because inflation has surprised the upside recently. But you've got slower wage growth. More labor market slack. And so, we did not change our overall inflation numbers on the back of this better growth and better labor force growth.

Guneet Dhingra: That's very helpful. That's a very interesting read in the economy, Ellen. Do you think the Fed is reading the supply side story the same way as you are? And said differently, is the Fed on the same page as you? And if not, when do you think they could be?

Ellen Zentner: Yeah. So, you know, Chair Powell, if you go back to his speeches and the minutes from the Fed. They've been talking about immigration. I think we've known for a while that the numbers were bigger than previously thought. But how you interpret that into an outlook can be different. And it takes some time. It even took us some time -- about a month -- to finally digest all the numbers and figure out exactly what it meant for our outlook. So, here's the biggest, I think, change for them in terms of what it means. The break-even level for payrolls is just that much higher.

Now what does break even mean? It means it's the pace of job gains you need to generate each month in order to just keep the unemployment rate steady. And six months ago, we all thought it was 100, 000, including the Chair. And now we think it's 265,000. That is eye popping. And it means that when you see these big labor market numbers -- 250, 000; 300,000. That's normal. And that's not a labor market that's too tight.

And so, I think the easiest thing the Fed, has realized is that they don't need to worry about the labor market. There's a lot more slack there. There's going to be a lot more slack there this year. Wage growth has come down because of it. ECI, or Employment Cost Index, is going to come down for this year. The unemployment rate is going to be higher. They do still need to reflect that in their forecast. And that means that we could show, sort of, this flavor of bigger but not tighter economy when we get their forecast updates in June.

Guneet Dhingra: I think the medium-term thesis is very compelling, Ellen, but how do you fit the three back-to-back upside surprises in CPI here? How does that fit with the labor supply story?

Ellen Zentner: So, that is sort of disconnected from the bigger but not tighter economy, because we did have to take into account that inflation has surprised to the upside. I mean, these have been some real volatile prints in the last three months, and we're now tracking March core PCE at 0.25 per cent and we're going to get that number later this week. And so that's above the threshold that we think the Fed needs in order to gain confidence that that pace of deceleration we saw late last year, is not in danger of slowing down for them to gain further confidence.

Ellen Zentner: And so, the way I would characterizes this is that it's a bigger but not tighter economy. But we also had to take into account these inflation upside surprises, which is really what led us to push the June cut off to July.

So, after we get that March, core PCE print, let's see what that data holds, but we think a few prints around 0.2 per cent are needed to satisfy Chair Powell, and gain that consensus to cut. So, I want to stress to the listeners that, you know, our conviction that inflation will head toward target remains high.

And it was also helped last week by fresh data on new tenant rents. So that is a leading indicator for rental inflation in our models. And it's slowed again. And suggests an even faster pace of deceleration ahead.

But here's where I think it matters for the Fed. Whereas before, they were very convicted that this rental inflation story was going to play out, that rent inflation was going to come down. They used similar models to us. But because of the inflation data being so volatile over the past three months, rather than providing forward guidance on what you're going to do around rental inflation coming down, you want to see it. You want to see it in the data. And so that's why they've been so willing to say, you know what, we're just going to, we're going to hold longer here.

Guneet Dhingra: Perfect. So just to get the Fed call on the record, what exactly are you calling for the Fed? And I know investors love the hypothetical question. What is the probability in your mind that the Fed doesn't cut at all in 2024?

Ellen Zentner: Yeah, they do love scenario analysis. So here we go. So, our baseline is they cut in July. They skip September. By November, the inflation data is coming down to monthly prints that tell them they're on track for their 2 per cent goal and at risk of falling below it. So, from November to June next year, they're cutting every meeting to roughly around three and a half percent.

Now, as you asked, what if inflation doesn't go down? So, inflation doesn't go down, you know, then the Fed's forecast and our forecast are going to be wrong and the three rate cuts they envision is predicated on that inflation forecast coming true. So, you know, the most important takeaway from that scenario is that the result would be a Fed on holder for longer. But as opposed to a hike being the next move -- and I think that's really important here. The Fed is still very strongly convicted on they will cut this year. This is about the timing. Now, the hold period could last into 2025, I mean, we don't know, but what happens if inflation accelerates from here?

So, I'm going to provide another scenario here. So, there is a scenario where inflation accelerates on a backdrop of strong growth, which would suggest it might be sustained, and perhaps begins to lift inflation expectations. Now, you know, that's a recipe for a hold that then turns into additional hikes as the Fed realizes neutral is just higher than where rates currently sit. But at this point, I would put quite a low probability on that scenario. But from a risk weighted perspective, I suppose it should be taken into account.

So, given all this and the changes that we've made, what is your expectation for rates for the rest of the year?

Guneet Dhingra: Yeah, I think we also, based on the forecast revision you guys have, we also revised up our treasury yield forecast. We earlier had 10 year yields ending slightly below 4 per cent by the end of 2024. Now we have them at about 4.15 percent which again is a 20-basis point uplift from our forecast before this. But still, I think it's not the higher for longer number that people are expecting because when I look at the forecast you have on the Fed, I think Fed path you have is well below what the markets expect.

I think the forecast you have has about seven cuts from July this year to the middle of next year. The market for contrast is only four. There's a pretty massive gap that opens up, I think, between the way we see it -- and ultimately that does come down to the interpretation of the data that we're seeing so far.

So, for us, the forecast numbers are slightly higher than before, but the message still is: we are not in the hire for longer camp, and we do expect rates to end up below the market applied forwards.

Ellen Zentner: All right. So, you know, I've talked a lot about immigration. One could say I've been pretty obsessed with it over the last couple of months. But from a rates perspective, you know, what are the broader implications of the immigration story for that? You know, this, this bigger but not tighter economy. How do you translate that into rates?

Guneet Dhingra: Yeah, let me say your obsession has been contagious. You know, I've caught on to that bug, the immigration bug. And, you know, I've been I've been discussing this thesis with investors, quite a lot. And I think it seems to me as you framed it pretty nicely. It's a bigger but not a tighter economy. I don't think investors have caught on to that page yet. I think most investors continue to think of these inflation prints is telling you that this is a tighter economy. Bigger, yes -- maybe on the margin. But the tighter part is still very much in people's minds. And when I look at the optics off the CPI numbers, the payroll numbers, investors have just been very conditioned, very reflexively conditioned to look at a 250K number on payrolls as a very strong number. They look at the 3 per cent number of GDP as a very strong number.

And as you laid out earlier, these numbers may not be necessarily telling you about an overheating economy. But simply a bigger economy. So, I think the disconnect is there, pretty pervasive. And I think for me, most investors will take a lot of time to get over the optics. The optics of three strong points of inflation, the optics of 250K payrolls. I think it's gradually seeping in. But for now, I think the true impact or the true learnings from the immigration story is not very well understood in the investment community.

Ellen Zentner: Okay, but is there, is there anything else missing in your view?

Guneet Dhingra: Yeah, quite a few things. I think you can add more nuances to this immigration story itself. For example, when I think about last year, when rates were going up massively in third quarter, fourth quarter, one of the focal points was Atlanta Fed GDP Now. My GDP now was tracking close to four and a half, five per cent, and inflation was cooling pretty clearly in the second half of last year. And so investors had a choice to make. Do we actually trust the GDP growth numbers? Because they are probably an inflation risk in the future. And the markets very clearly chose to focus on growth with the belief that this growth is eventually going to lead to high inflation. And so, I think that disconnect has really translated into, sort of, what I would call like a house of cards where investors have built the entire market level on growth upside, and growth upside, and growth upside.

So, I think the market level -- when I do the math and try and suss out the counterfactual -- the market level of 4.6 per cent tenure should have and could have been a market level of 3.8 per cent tenure based on my calculations. And so, there's an 80-basis point gap from where we are to where we could have been based on a misunderstanding of the supply story and the immigration story.

Ellen Zentner: Yeah, I certainly wish the volatility was a lot lower here. It would make it easier for the Fed and for us to separate signal from noise. Certainly difficult for market participants to do that. But Guneet, thanks for taking the time to talk.

Guneet Dhingra: Great speaking with you, Ellen.

Ellen Zentner: And thanks for listening. If you enjoy Thoughts on the Market, please leave us a review wherever you listen to podcasts and share the podcast with a friend or colleague today.

Recent data indicates the economy may avoid either a soft or hard landing for now. Our Chief U.S. Equity Strategist explains why investors should seek out quality as the economy stays aloft.

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Welcome to Thoughts on the Market. I'm Mike Wilson, Morgan Stanley’s CIO and Chief US Equity Strategist. Along with my colleagues bringing you a variety of perspectives, today I'll be talking about the impact of better economic growth and stickier inflation on stocks.

It's Monday, April 22nd at 11:30am in New York. 

So let’s get after it.

In our first note of the year, I cited three potential macro-outcomes for 2024 with similar probability of occurring.

First, a soft landing with slowing, below potential GDP growth and falling inflation toward the Fed's target of 2 per cent. Second, a no landing scenario under which GDP growth re-accelerated with stickier inflation. And third, a hard landing, or recession. 

Of course, each scenario has very different implications for asset prices generally and equity leadership, specifically. Just a few months ago, the consensus view skewed heavily toward a soft landing. However, the macro data have started to support the no landing outcome with recent growth and inflation data exceeding most forecasters' expectations – including the Fed’s. 

Over the past year, consensus views have gone from hard landing in the first quarter of 2023 to soft landing in the second quarter, back to hard landing in the third quarter to soft landing in the fourth quarter, and now to no landing currently. This shift has not been lost on markets with assets that benefit from higher inflation doing well over the past few months. However, while cyclically sensitive stocks and sectors have started to outperform, quality remains a key attribute for the leaders. 

We think this combination of quality and cyclical factors makes sense in the context of what is still a later, rather than early cycle re acceleration in growth. If it was more the latter, we would not be observing such persistent under performance of low-quality cyclicals and small caps. Furthermore, we continue to believe much of the upside in economic growth over the past year has been the result of government spending, funded by growing budget deficits. 

This has led to a crowding out of many smaller and lower quality businesses – and the lowest small business sentiment since 2012. As with most fiscal stimulus packages, the plan is for the bridge of support to buy time until a more durable growth outcome arrives – driven by organic private income, and consumption and spending. 

Until this potential outcome is more solidified, the equity market should continue to trade with a quality bias. The largest risk for stocks more broadly is higher 10-year Treasury yields as investors begin to demand a larger term premium due to higher inflation and the growing supply of bonds to pay for the endless deficits. 

While leadership within the equity market continues to broaden toward cyclicals it still makes sense to stay up the quality curve. Our recent upgrade of large cap Energy fits the shifting narrative to the no landing outcome, and it remains one of the cheapest ways to get exposure to the reflation theme. Other reflation trades are more extended in our view. Our primary concern for equities at this point is that aggressive fiscal spending has led to better economic growth. But it keeps upward pressure on inflation and prevents the Fed from cutting interest rates that many economic participants desperately need at this point. 

In short, a no landing outcome may make the crowding out problem even worse for smaller businesses, many consumers and even regional banks. This is all in-line with our 2024 outlook that suggests the major equity indices are overvalued while the best opportunities are likely beneath the surface in underappreciated sectors like energy that are positively levered to stickier inflation and higher interest rates. 

Thanks for listening. If you enjoy Thoughts on the Market, please leave us a review wherever you listen to podcasts and share the podcast with a friend or colleague today.

Japan and India are currently set to lead growth in these markets, but a higher-for-longer rate environment in the U.S. could favor China, Hong Kong and others, according to our analyst.

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Daniel Blake: Welcome to Thoughts on the Market. I'm Daniel Blake from Morgan Stanley's Asia & Emerging Market Equity Strategy Team. Along with my colleagues bringing you a variety of perspectives, today I'll discuss whether U.S. macro resilience is too much of a good thing when it comes to its impact on Asia's equity markets.

It's Friday 19th of April at 10am in Singapore.

Our U.S. economics team has substantially lifted its forecast for 2024 and 2025 GDP growth following strong migration boosted activity and employment trends. Recent inflation readings have been bumpy, but our team still sees it moderating over the summer as core services and housing prices cool off. While the market has been focused on this silver lining of stronger global growth, the clouds are rolling in from expectations of a shallower and later easing of global monetary policy.

Our team now believes that the first Fed rate cut won't come until July but does see two additional cuts coming in November and December. We've made similar adjustments in our outlook for Asia-ex-China's monetary policy easing cycle, seeing it coming later and shallower. Meanwhile, in Japan, our economists now expect two further hikes from the Bank of Japan -- in July this year, and again in January next year -- taking policy rates up to 0.5 per cent.

But how does all this leave the Asia and EM equity outlook? In a word, mixed.

We see this driving more divergence within Asia and EM, depending on how exposed each market is to stronger global growth, a stronger U.S. dollar or impacted by higher interest rates. On the positive side, Taiwan, Japan, Mexico, and South Korea have the most direct North American revenue exposure. And for Japan, the strong US dollar is also positive through the translation of foreign revenues back at this historically weak yen. However, in the short run, we do need to be mindful of any price momentum reversal as April is normally seasonally weak, and we do see dollar-yen approaching 155. So, any FX (foreign exchange) intervention could sharpen a price momentum reversal.

Next up, we're paying close attention to India's equity market, where we have a secularly bullish view. India has remained resilient to date, consistent with our thesis that macro stability has become a key driver of the bull market. And this is in sharp contrast to prior cycles. For example, during the Taper tantrum of 2013, where India saw a sudden and sharp bear market as Fed expectations shifted.

On the negative side then, we are seeing a breakdown in correlations of some markets with these higher Fed funds expectations, including in Indonesia and Brazil where policy space is being constrained, and in Australia where valuations were pushed up on hopes of an RBA easing cycle that won't come until next year in our view.

So, this is indeed a mixed picture for Asia and EM, but we retain our core views that market leadership will continue coming from Japan and India through 2024. And so, what's the risk from here? The larger risk to Asia and EM markets, we think, comes from an even more inflationary and hawkish scenario where the Fed is forced to recommence rate hikes, ultimately bearing the risk of driving a hard landing to bring inflation back to target.

In this scenario, we could see a pivot in leadership away from markets with high US revenue exposure, such as Taiwan and Japan, towards more domestically oriented and resilient late cycle markets, such as an emerging ASEAN partner, and potentially China and Hong Kong -- if additional stimulus is forthcoming there.

Thanks for listening. If you enjoyed the show, please leave us a review wherever you listen to podcasts and share Thoughts on the Market with a friend or colleague today.

GenAI will likely drive the exponential growth of data centers. Listen as our Capital Goods Analyst shares key takeaways on the electrical equipment central to the data center market.

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Welcome to Thoughts on the Market. I’m Max Yates from the European Capital Goods team. Along with my colleagues bringing you a variety of perspectives, today I'll focus on the critical element of the AI revolution. 

It's Thursday, April 18, at 2pm in London. 

Over the last few weeks, several of my colleagues have come on to the show to talk about the exponential growth of data centers and just what it will take to power the GenAI revolution. Stephen Byrd, Morgan Stanley's Head of Global Sustainability, forecasts that in 2027 data center power consumption just from GenAI will equal 80 percent of the consumption from all data centers in 2022.

This shows the sheer scale of necessary additions and upgrades. And it also makes clear that the AI push provides very significant opportunities for Electrical Equipment companies. It’s these businesses that are the picks and shovels of the AI revolution. These companies provide key solutions such as Data Center Infrastructure Management software, connected equipment, racks, switchgears, and last but not least, cooling. 

Keep in mind that in this breakneck AI race, ever-increasing efficiency is essential. So, imagine we’re inside an actual data center. What you’d see is a huge number of racks, the steel frameworks that house the servers, cables, and other equipment. The power needed to run GenAI then creates a lot of heat.

Our recent work on the data center market suggests two key takeaways when it comes to the electrical equipment.

First, there’s a significant imbalance in supply-demand. Data center vacancy rates and rental prices all point to an intensifying capacity shortage. This explains why the top 10 cloud providers have increased their capital expenditures this year by 26 per cent. Equipment shortages and lead times are still an issue in the industry and large electrical equipment suppliers have a clear competitive advantage at the moment, with their stronger supply chains and ability to actually deliver this equipment. 

The second thing we found from our work, there are well-known and less well-known ways to deal with increasing power density. Now why is power density rising? Because what we’re trying to do is cram more high-power chips into the same amount of space. There’s more power per rack, higher computing workload that all has to be accommodated into less floor space. This higher power density, however, requires more powerful cooling solutions. 

But there’s also smaller changes that can support airflow management that are less talked about in the industry. This is things like busways, to reduce cable density and promote airflow. Smart equipment provides information on power consumption. And another key element is rear-door cooling, which pushes airflow through the servers.

The other theme that’s gaining traction in the industry to facilitate a faster ramp up is the idea of modular data centers. This helps equipment suppliers plan supply chains but also customers to quickly ramp up and meet the new data center demand with more standardized data center offerings. However, there’s not yet an industry standard to manage higher data center power and rack density for AI. There will be new builds. There will also be data center upgrades. However, there’s no consensus yet on exactly how the power equipment will be configured, and when the data centers will be upgraded. And in what style and what way.      

This is clearly a dynamic space to watch, and we’ll be keeping you updated.

Thanks for listening. If you enjoy Thoughts on the Market, please take a moment to rate and review us wherever you listen to your podcasts. It helps more people to find the show.

As global conflicts escalate, our Global Head of Fixed Income and Thematic Research unpacks the possible market outcomes as companies and governments seek to bolster security. 

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Welcome to Thoughts on the Market. I'm Michael Zezas, Morgan Stanley's Global Head of Fixed Income and Thematic Research. Along with my colleagues bringing you a variety of perspectives, today I'll be talking about current geopolitical tensions and their impact on markets.

It's Wednesday, April 17th at 10:30 am in New York.

Continued tensions in Middle East kept geopolitics in focus with clients this week. But markets seem to be shrugging off the recent escalation in the conflict, with relative stability in oil prices and equities. This implies some faith in the idea that the involved parties benefit from no further escalation – and will design responses to one another that won’t lead to a broader conflict with bigger consequences. 

But obviously, this tricky dynamic bears watching, which we’ll be doing. In the meantime, there’s a key market theme that’s underscored by these tensions. And that’s the idea of Security as a secular market theme.

This is a topic we’ve been collaborating with many research teams on, including Ed Stanley, our thematics analyst in Europe, and defense sector research teams globally. The idea here boils down to this. Russia’s invasion of Ukraine, the US’ increased rivalry with China, questions about the future of NATO, and of course the Middle East conflict, all reminds us that we’re in a transition phase to a multipolar world where security is more tenuous. That requires a lot of spending by companies and governments to cope with this reality. In fact, we estimate that supply chains, food and health systems, IT, and more will require about $1.5 trillion of investment across the US and EU to protect against rising geopolitical risks. This means a lot more demand for global tech and industrials.

And of course it means more demand for the defense sector. Regardless of whether US military aid plans continue to stall, there’s news of increased spending in China, Canada, and Europe. Our head defense analyst in Europe, Ross Law, and our head European Economist Jens Eisenschmidt have looked at this in recent weeks. They argue there’s scope for tens of billions of euros in extra spend annually in Europe, with a greater geopolitical shock putting that number into the hundreds of billions. It’s a key reason our equity research colleagues favor the US and EU defense sectors.

Bottom line, geopolitical events continue to reflect the transition to a multipolar world. And as companies and governments seek security in this world, there will be market impacts. We’ll be tracking them here.

Thanks for listening. Subscribe to Thoughts on the Market on Apple Podcasts, or wherever you listen, and leave us a review. We’d love to hear from you.

Our Global Head of Sustainability Research and U.S. Utilities Analyst discuss the rapidly growing power needs of the GenAI enablers and how to meet them.

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Stephen Byrd: Welcome to Thoughts on the Market. I'm Stephen Byrd, Morgan Stanley's Global Head of Sustainability Research.

David Arcaro: And I'm Dave Arcaro, Head of the US Power and Utilities team.

Stephen Byrd: And on this episode of the podcast, we'll discuss just what it would take to power the Gen AI revolution.

It's Tuesday, April 16th at 10am in New York.

Last summer, scientists used GenAI to find a new antibiotic for a nasty superbug. It took the AI system all of an hour and a half to analyze about 7,000 chemical compounds; something that human scientists would have toiled over for months, if not years. It's clear that GenAI can open up breathtaking possibilities, but you have to stop and think. What kind of compute power is needed for all of this?

A few weeks ago, our colleague Emmet Kelly, who covers European Telecom, discussed the exponential growth of European data centers on this podcast. And today, Dave and I want to continue the conversation about this critical moment of powering the GenAI revolution.

So, Dave, what is your current assessment of the global power demand from data centers?

David Arcaro: Yeah, Stephen, we're expecting rapid growth in the power demand coming from data centers across the world. We're currently estimating data centers consume about one and a half per cent of global electricity today. We're expecting that to grow to almost four percent in 2027. And in the US, data centers represent roughly three percent of total electricity consumption now, and we expect that to escalate to eight per cent of the total US by 2027.

And there will be even more dramatic impacts at the local and regional level. The data center landscape tends to be highly concentrated, and the next wave of GenAI data centers is likely to be much larger than the previous generation.

So, the impact on specific regions will be magnified. To give an example, in Georgia, the utility there has previously forecasted just half a percent of annual growth in electricity use but is now calling for nine per cent of annual growth in electricity consumption, and that's largely driven by data centers.

It's a dynamic that we haven't seen in decades in the utility space.

Stephen Byrd: You know, what I find interesting about what you just said, Dave, is -- it is impressive to see growth go from one and a half to four per cent, but it's really these local dynamics where what we're seeing is just much more concentrated, and that's where we start to see the real issues with the infrastructure growing quickly enough.

So, it's becoming obvious that the existing power grid infrastructure is not meeting the growth and capacity needs of data centers. And that's something that you refer to as the tortoise and the hare. How big of a mismatch are we exactly talking about here, Dave?

David Arcaro: It's definitely a big mismatch. To your point before, the US electricity growth across the country has been flattish over the last 10 years.

So, this is a step change in expectations now, from the impact from Gen AI going forward. And we're looking at over 100 per cent annual growth in the power consumed by data centers now in the US over the next four years. And for comparison, the US utility industry is growing at about 8 per cent a year.

These data centers that are coming are huge. They can be 10 to 50 times as big as the last generation of data centers in terms of their power consumption. And this means it takes time to connect to the electric grid and get power. 12 to 18 months in the best case, three to five years plus in other locations, often because they might need to wait for the electric utility grid to catch up, waiting for grid upgrades and assessments and new power plants to get built.

Stephen Byrd: Well, I think those delays are going to be fairly problematic for the fast-moving GenAI sector. So essentially there's a lot of pressure on data center developers to secure a power source as quickly as possible. And in our note, we described the mathematics around that. The time value to get these data centers online is absolutely enormous. But you've just described the power grid infrastructure as a tortoise.

So, are there any other alternatives? How about nuclear power plants in this context?

David Arcaro: There's a lot of urgency, as you can tell from the data center companies, to get online as fast as possible. It's a fast-moving market, very competitive, they need the power, they need to run these GenAI models as soon as possible. And the utility industry is not used to responding to demand that's coming this quickly.

It's a slower moving industry. There's policies and processes and regulation that all utilities have to get through. They're not prepared strategically to move as quickly as the data center industry is moving. So, data center developers are getting creative and they're looking at all options to get power.

And one that has an appealing value proposition is nuclear plants. By placing a data center at an existing nuclear plant, this can avoid the need to go through that lengthy electric grid connection process, providing a much faster timeline to get the data center powered up.

And that has big benefits for the data center companies, as you can imagine. Nuclear plants also have other advantages. They have land available on site. They have water for cooling, security. It's 24x7 clean power with no emissions, and it's already up and running, so you don't have to go and build much.

Over time, we do expect renewables to play a major role as well in powering data centers along with traditional power from the electric grid and even new gas plants, but the benefits of coming online quickly in this market we think, give nuclear an edge.

So, Stephen, as much as I can talk about the massive power needs of Gen AI, we can't ignore the issue of sustainability. So, what have you been thinking about when it comes to assessing the potential carbon footprint of powering data centers? What concerns are you seeing?

Stephen Byrd: You know, Dave, this field is evolving so quickly that we've had to evolve our assessment of the carbon footprint of GenAI quite quickly as well. You know, traditionally what we would have seen is a data center gets connected to the grid. And then that data center developer would often sign a power contract with a renewable developer. And that results in a very low carbon footprint, if zero in many cases. But going forward, we do see the potential for increased natural gas usage in power plants, higher than we had originally forecast.

And that's driven really by two dynamics. The first is the increased potential to site data centers directly at nuclear power plants, which you described, and there are a lot of benefits to doing so. In effect, what's going to happen then is, those data centers will siphon away that nuclear power, so less nuclear power goes to the grid. Something has to make up that deficit. That something is often going to be natural gas fired power plants.

The second dynamic that we could see happening is an increased potential for just onsite natural gas fire power generation at the data centers that could provide shorter time to power, and also provide quite good power reliability.

Now, when we sum these up and we look at the projected carbon footprint of data centers going forward, we could see an additional 70 million tons a year. We're about half a per cent of 2022 global CO2 emissions for data centers. That is quite a bit higher than we had previously forecast.

Now that said, a wild card would be the hyperscalers and others who may decide to consciously offset this by signing additional power contracts with new renewables that could reduce this quite a bit. So, it's very much in flux right now. We frankly don't know what the carbon footprint is really going to look like.

David Arcaro: You know, there's so much urgency to bring data centers online quickly that in the past many of these big hyperscalers especially have had quite ambitious sustainability goals and decarbonization goals. I'd say it's an open question on our end as to how flexible they might get in the near term or how strictly they do apply those decarbonization …

Stephen Byrd: Exactly…

David Arcaro: … targets going forward as they, y’know, also try to compete in an urgent grab for power in the near term.

Stephen Byrd: That's exactly right. That's… You laid that tension out quite well.

David Arcaro: And finally, from your global perspective, what regions are best positioned to keep pace with the power needs of Gen AI?

Stephen Byrd: You know, Dave, I am thinking a lot about what you said a minute ago, about the size of these datacentres moving from, you know, quite small – often we would see datacentres at just 10 or 15 megawatts. Now the new designs are often above 100 megawatts.

And now we're starting to hear and see some signs of truly mega data centers, essentially massive supercomputers that could be a thousand megawatts, a couple of thousand megawatts, and could cost tens of billions of dollars to build. So, when we think about that dynamic, that's a lot of power for any one location. So, to go back to your question, we think about the locations. It's very local specific.

The dynamics all have to line up correctly, for this to work. So, we see pockets of opportunity around the world. Examples would be Pennsylvania, Texas, Illinois, Malaysia, Portugal -- these are locations for a variety of reasons where policy support is there, the infrastructure growth potential is there, and for a number of reasons, just it's the right confluence of dynamics. Most of the world doesn't have that confluence, so it's going to be very specific. And I think we're also setting up for a lot of concentration in those locations where all these dynamics line up.

David Arcaro: You know, historically, the data center industry in the US has been highly concentrated, like you say, in Northern Virginia, in Northern California, they've been data center hubs, but we're running into infrastructure constraints there, we've got to look elsewhere. And some of these factors, geographically, are going to be extremely important.

Where is their local support? And one of the dynamics we think could happen is that as you build more data centers that are very power hungry, that could push up the price of power. And what kind of local pushback might you get in that situation? What's the local desire to have a data center from an employment perspective and property tax and local benefit perspective? And how does the cost benefit weigh against the potential for higher power prices in those regions?

Stephen Byrd: That's a great point. I mean, in places like Northern Virginia, to your point about property taxes, the value of all this data center equipment is in the tens of billions, which does help local tax revenue quite a bit. That said, there are offsetting impacts such as higher power prices. And this is why I think your original point about the local dynamics mattering so much is so critical because you really do need to see political support, policy support. You need to see the infrastructure that's available.

So that's a fairly precious lineup, a fairly rare lineup of all the attributes you need to see to support new giant data center development.

David Arcaro: Definitely a delicate balance that the industry needs to tread here as these huge data centers start to come online.

Stephen Byrd: Well, I think a delicate balance is a good place to end this discussion. Dave, thanks so much for taking the time to talk.

David Arcaro: Great to speak with you, Stephen.

And thanks for listening. If you enjoy Thoughts on the Market, please leave us a review wherever you listen to the show, and share the podcast with a friend or colleague today.

Markets are suggesting that spirits consumption will return to historical growth levels post-pandemic, but our Head of European Consumer Staples Research disagrees.

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Welcome to Thoughts on the Market. I’m Sarah Simon, Head of the European Consumer Staples team. Along with my colleagues bringing you a variety of perspectives, today I'll talk about a surprising trend in the global spirits market.

It's Monday, April 15, at 2pm in London. 

We all remember vividly the COVID-19 period when we spent much more on goods than services, particularly on goods that could be delivered to our homes. Not surprisingly, spirits consumption experienced a super-cycle during the pandemic. But as the world returned to normal, the demand for spirits has dropped off. The market believes that after a period of normalization, the US spirits market will return to mid-single-digit growth in line with history; but we think that’s too optimistic.

Changes in demographics and consumer behavior make it much more likely that the US market will grow only modestly from here. There are several key challenges to the volume of US alcohol consumption in the coming years. Sobriety and moderation of alcohol intake are two rising trends. In addition, there’s the increased use of GLP-1 anti-obesity drugs, which appear to quell users' appetite for alcoholic beverages. And finally, there’s stiffer regulation, including the lowering of alcohol limits for driving.

A slew of recent survey data points to consumer intention to reduce alcohol intake. A February 2023 IWSR survey reported that 50 per cent of US drinkers are moderating their consumption. Meanwhile, a January 2024 NCSolutions survey reported that 41 per cent of respondents are trying to drink less, an increase of 7 percentage points from the prior year. And importantly, this intention was most concentrated among younger drinkers, with 61 per cent of Gen Z planning to drink less in 2024, up from 40 per cent in the prior year's survey. Meanwhile, 49 per cent of Millennials had a similar intention, up 26 per cent year on year.

Why is all this happening? And why now? Perhaps the increasingly vocal commentary by public bodies linking alcohol to cancer is really hitting home. Last November, the World Health Organization stated that "the higher the amount of alcohol consumed, the higher the risk of developing cancer" but also that "half of all alcohol-attributable cancers in the WHO European Region are caused by ‘light’ and ‘moderate’ alcohol consumption. A recent Gallup survey of Americans indicated that young adults are particularly concerned that moderate drinking is unhealthy, with 52 per cent holding this view, up from 34 per cent five years ago. 

Another explanation for the increased prevalence of non-drinking among the youngest group of drinkers may be demographic makeup: the proportion of non-White 18- to 34-year-olds has nearly doubled over the past two decades.

And equally, the cost of alcohol, which saw steep price increases in the last couple of years, seems to be a reason for increased moderation. Spending on alcohol stepped up materially over the COVID-19 period when there were more limited opportunities for spending. With life returning to normal post pandemic, consumers have other – more attractive or more pressing – opportunities for expenditure.

Thanks for listening. If you enjoy Thoughts on the Market, please take a moment to rate and review us wherever you listen to podcasts. It helps more people to find the show.

The math of ‘bond-equity correlation' is complicated. Our head of Corporate Credit Research breaks it down, along with the impact of bond rates on other asset classes.

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Welcome to Thoughts on the Market. I'm Andrew Sheets, Head of Corporate Credit Research at Morgan Stanley. Along with my colleagues bringing you a variety of perspectives, today I'll be talking about why the same factors can have different outcomes for interest rates and credit spreads.

It's Friday, April 12th at 2pm in London.  

Most of 2024 remains to be written. But so far, the financial story has been a tale of two surprises. First, the US Economy continues to be much stronger and hotter than expected, with growth and job creation exceeding initial estimates. Then second, due in part to that strong economy, interest rates have risen materially, with the yield on the US 10-year government bond about half-a-percent higher since early January. 

More specifically, market attention over the last week has refocused on whether these higher interest rates are a problem for other markets. In math terms, this is the great debate around bond-equity or bond-spread correlation, the extent to which assets move with bond yields, and a really important variable when it comes to thinking about overall portfolio diversification. 

But this somewhat abstract mathematical idea of correlation can also be simplified. The factors that are driving yields higher might look very different for other asset classes, such as credit. That could argue for a different correlation. Let’s think about how.

Consider first why yields have been rising. Economic data has been good, with strong job growth and rising Purchasing Manager Indices or PMIs, conditions that are usually tough for government bonds. Supply has been heavy, with the issuance of Treasuries up substantially relative to last year. The so-called carry on government bonds is bad as the yield on government bond yields is generally lower, much lower, than the yield on cash. And the time-of-year is unhelpful: since 1990, April has been the worst month of the year for government bonds.

But take all those same things thought the eyes of a different asset class, such as credit, and they look – well – different. 

Good economic data should be good for credit; historically, low-but-rising PMIs, as we’ve been seeing recently, is the most credit-friendly regime. Corporate bond supply hasn’t risen nearly as much as the supply for government bonds. The carry for credit is positive, thanks to still-steep credit curves. And the time of year looks very different: over that same period since 1990, April has been the best month of the year for corporate credit – as well as broader stock markets.

Government bonds are currently being buffeted by multiple headwinds. Hot economic data, heavy supply, poor yields relative to cash, and unhelpful seasonality. The good news? Well, Morgan Stanley’s interest rate strategists expect these headwinds to be temporary, and still forecast lower yields by year-end. But for other asset classes, including credit, it’s also important to note that that same data, supply, carry and seasonality debate – fundamentally look very different in other asset classes.

We think that means that Credit spreads can stay at historically tight levels in April and beyond, even as government bond yields have risen.

Thanks for listening. Subscribe to Thoughts on the Market on Apple Podcasts, or wherever you listen, and leave us a review. We’d love to hear from you.

With global temperatures rising and an increasing urgency to speed progress on the energy transition, our Head of Sustainability Equity Research examines the key materials needed—and the risks of disruption from US-China trade tensions.

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Welcome to Thoughts on the Market. I’m Laura Sanchez, Head of Sustainability Equity Research in the Americas. Along with my colleagues bringing you a variety of perspectives, today I’ll discuss a highly topical issue: the impact of US-China trade tensions on the energy transition. 

It is Thursday, April 11, at 12 pm in New York.

Last week, you may have heard my colleagues discuss the geopolitics at play around US-China trade tensions and the energy transition. Today I’m going to elaborate on that discussion, spearheaded by my team, with a deeper dive into the materials and minerals at risk and exactly what is at stake for several industries in the US.

When we talk about clean technologies such as electric vehicles, energy storage and solar, it is important to note that minerals such as rare earths, graphite, and lithium — just to name a few — are crucial to their performance. 

At present, China is a dominant producer of many of those key minerals, whether at the mining level – which is the case with gallium, rare earths and natural graphite; at the refining level – the case for cobalt and lithium; or at the downstream level – that is, the final product, such as batteries and EVs.

If trade tensions between the US and China rise, we believe China could implement new or incremental export bans on some of these minerals that are key for western nations’ energy transition as well as for their broad economic and national security.

So, we have analyzed over 10 materials and found that the highest risks of disruption exist for rare earths and related equipment, as well as for graphite, gallium, and cobalt. Some minerals have already seen certain export bans but given the lack of diversification across the value chain, we actually see the potential for incremental restrictions.

So, this led us to ask our research analysts: how should investors view rising trade tensions in the context of clean technologies’ penetration, specifically?

While electric vehicles appear most at risk, we see the largest negative impacts for the clean technology sector as well as for large-scale renewable energy developers. This has to do with China dominating around 70 per cent of the battery supply chain and still having strong indirect ties in the solar supply chain. But there are important nuances to consider for renewable energy developers, such as their ability to pass the higher costs to customers, whether this higher cost could hurt the economics of projects and therefore demand, and the unequal impacts between large and small players – where large, tier 1 developers could actually gain share in the market as they have proven to navigate better through supply chain bottlenecks in the past.

On the Autos side, slower EV adoption would naturally impact sentiment on EV-tilted stocks; but as our sector analyst highlights, this could also mean lighter losses near term, as well as market share preservation for the largest EV players in the market. US Metals & Mining stocks would likely see positive moves as further trade tensions incentivize onshoring of mining and increase demand for US-made equipment.

Given strong bipartisan support in the US for a more hawkish approach to China, our policy experts believe that the US presidential election is unlikely to lead to easing trade restrictions. Nonetheless, in terms of the energy transition theme, a Republican win could create volatility for trade and corporate confidence, while a Democrat administration would be more sensitive to the balance between protectionism and achieving global climate goals.

Thanks for listening. If you enjoy the show, please leave us a review wherever you listen to podcasts and share Thoughts on the Market with a friend or colleague today.

Our Global Chief Economist joins our Head of Fixed Income Research to review the most recent Consumer Price Index data, and they lay out potential outcomes in the upcoming U.S. elections that could impact the course of inflation’s trajectory.  

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Michael Zezas: Welcome to Thoughts on the Market. I'm Michael Zezas, Morgan Stanley's Global Head of Fixed Income and Thematic Research.

Seth Carpenter: And I'm Seth Carpenter, Global Chief Economist.

Michael Zezas: And on this special episode of Thoughts on the Market, we'll be taking a look at how the 2024 elections could impact the outlook for inflation.

It's Wednesday, April 10th at 4pm in New York.

Seth, earlier this morning, the US Bureau of Labor Statistics released the Consumer Price Index (CPI) data for March, and it's probably an understatement to say it's been a much-anticipated report -- because it gives us some signal into both the pace of inflation and any potential fed rate cut path for 2024. I want to get into the longer-term picture around what the upcoming US election could mean for inflation. But first, I'd love your immediate take on this morning's data.

Seth Carpenter: Absolutely, Mike. This morning's CPI data were absolutely critical. You are right. Much anticipated by markets. Everyone looking for a read through from those data to what it means for the Fed. I think there's no two ways about it. The market saw the stronger than expected inflation data as reducing the likelihood that the Fed would start cutting rates in June.

June was our baseline for when the Fed would start cutting rates. And I think we are going to have to sharpen our pencils and ask just how much is this going to make the Fed want to wait? I think over time, however, we still see inflation drifting down over the course of this year and into next year, and so we still think the Fed will get a few rate hikes in.

But you wanted to talk longer term, you wanted to talk about elections. And when I think about how elections could affect inflation, it's usually through fiscal policy. Through choices by the President and the Congress to raise taxes or lower taxes, and by choices by the Congress and the President to increase or decrease spending.

So, when you think about this upcoming election, what are the main scenarios that you see for fiscal policy and an expansion, perhaps, of the deficit?

Michael Zezas: Yeah, I think it's important to understand first that the type of election outcome that historically has catalyzed a deficit expansion is one where one party gets complete control of both the White House and both chambers of Congress.

In 2025, what we think this would manifest in if the Democrats had won, is kind of a mix of tax extensions, as well as some spending items that they weren't able to complete during Biden's first term -- probably somewhat offset by some tax increases. On net, we think that would be incremental about $500 billion over 10 years, or maybe $40 [billion] to $50 billion in the first year.

If Republicans are in a position of control, then we think you're looking at an extension of most of the expiring corporate tax cuts -- expire at the end of 2025 -- that is up to somewhere around a trillion dollars spread over 10 years, or maybe a hundred to $150 billion in the first year.

Seth Carpenter: So, what I'm hearing you say is a wide range of possible outcomes, because you didn't even touch on what might happen if you've got a split government, so even smaller fiscal expansion.

So, when I take that range from a truly modest expansion, if at all, with a split government, to a slight expansion from the Democrats, a slightly bigger one from a Republican sweep, I'm hearing numbers that clearly directionally should lead to some inflationary pressures -- but I'm not really sure they're big enough to really start to move the needle in terms of inflationary outcomes.

And I guess the other part that we have to keep in mind is the election’s happening in November of this year. The new president, if there's a new president, the new Congress would take seats in the beginning of the year next year. And so, there's always a bit of a lag between when a new government takes control and when legislation gets passed; and then there's another lag between the legislation and the outcome on the economy.

And by the time we get to call it the end of 2025 or the beginning of 2026, I think we really will have seen a lot of dissipation of the inflation that we have now. So, it doesn't really sound like, at least from those baseline scenarios that we're talking about a huge impetus for inflation. Would you think that's fair?

Michael Zezas: I think that's fair. And then it sort of begs the question of, if not from fiscal policy, is there something we need to consider around monetary policy? And so around the Fed, Chair Powell's term ends in January of 2026 -- meaning potential for a new Fed chair, depending on the next US president.

So, Seth, what do you think the election could mean for monetary policy then?

Seth Carpenter: Yeah, that's a great question, Mike. And it's one that, as you know well, we tend to get from clients, which is why you and I jointly put out some research with other colleagues on just what scope is there for there to be a -- call it particularly accommodative Fed chair under that Republican sweep scenario.

I would say my take is -- not the biggest risk to worry about right now. There are two seats on the Federal Reserve Board that are going to come open for whoever wins the election as president to appoint. That's the chair, clearly very important. And then one of the members of the Board of Governors.

But it's critical to remember there's a whole committee. So, there are seven members of the Board of Governors plus five voting members, across the Federal Reserve Bank presidents. And to get a change in policy that is so big, that would have massive inflationary impacts, I really think you'd have to have the whole committee on board. And I just don't see that happening.

The Fed is set up institutionally to try to insulate from exactly that sort of, political influence. So, I don't think we would ever get a Fed that would simply rubber stamp any president's desire for monetary policy.

Michael Zezas: I think that makes a lot of sense. And then clients tend to ask about two other concerns; with particularly concerns with the Republican sweep scenario, which would be the impact of potentially higher trade tariffs and restrictions on immigration. What's your read here in terms of whether or not either of these are reliable in terms of their impact on inflation?

Seth Carpenter: Yeah, super topical. And I would say at the very least, we have some experience now with tariff policy. And what did we see during the last episode where there was the trade war with China? I think it's very natural to assume that higher tariffs mean that the cost of imported goods are going to be higher, which would lead to higher inflation; and to some extent that was true, but it was a much smaller, much more muted effect than I think you might otherwise assume given numbers like 25 per cent tariffs or has been kicked around a few times, maybe 60 per cent tariffs. And the reason for that change is a few things.

One, not all of the goods being brought in under tariffs are final consumer goods where the price would just go straight through to something like the CPI. A lot of them were intermediate goods. And so, what we saw in the last round of tariffs was some disruption to US manufacturing, disruption to production in the United States because the cost of production went up.

And so, it was as much a supply shock as it was anything else. For those final consumer goods, you could see some pass through; but remember, there's also the offset through the exchange rate, that matters a lot. And, consumers, they have a willingness to pay, or maybe a willingness not to pay, and so, sellers aren't always able to pass through the full cost of the tariffs. And so, as a result, I think the net effect there is some modestly higher inflation, but really, it's important to keep in mind that hit to economic activity that, over time, could actually go in the opposite direction and be disinflationary.

Immigration, very different story, and it has been very much in the news recently. And we have seen a huge surge in immigration last year. We expect it to continue this year. And we think it's contributing to the faster run rate that we've seen in the economy without continued inflationary pressure. So, I think it's a natural question to ask -- if immigration was restricted, would we see labor shortages? Would that drive up inflation? And the answer is maybe.

However, a few things are really critical. One, the Fed is still in restrictive territory now, and they're only going to start to lower rates if and when we see inflation come down. So the starting point will matter a lot. And second, when we did our projections, we took a lot of input from where the CBO's estimates are, and they've already been assuming that immigration flows really start to normalize a bit in 2025 and a lot more in 2026. Back to run rates that are more like pre-COVID rates. And so, against that backdrop, I think a change in immigration policy might be less inflationary because we'd already be in a situation where those flows were coming down.

But that's a good time for me to turn things around, Mike, and throw it right back to you. So, you've been thinking about the elections. You run thematic research here. I've heard you say to clients more than once that there is some scope, but limited scope for macro markets to think about the outcome from the election, but lots of scope from a micro perspective. So, if we were thinking about the effect of the election on equity markets, on individual sectors, what would be your early read on where we should be focusing most?

Michael Zezas: So we've long been saying that the reliable market impacts from this election, at least this far out, appear to be more micro than macro. And so, for example, in a Republican sweep scenario, we feel pretty confident that there would be a heavier skew towards extending corporate tax cut provisions that are expiring at the end of 2025.

And if you look at who benefits fundamentally from those extensions, it tends to be companies that do more business domestically in the US and tend to be a bit smaller. Sectors that tend to come in the scope include industrials and telecom; and in terms of size of company, it tends to skew more towards small caps.

Seth Carpenter: So, I can see that, Mike, but let me make it even more provocative because a question I have got from clients recently is the Inflation Reduction Act (IRA), which in lots of ways is helping to spur spending on infrastructure, is helping to spur spending on green energy transition. What's the chance that that gets repealed if the outcome, if the election goes to Trump?

Michael Zezas: We see the prospects for the IRA to get repealed is quite limited, even in a Republican sweep scenario. The challenge for folks who might not want to see the law exist anymore is that many of the benefits of this law have already been committed; and the geographic area where they've been committed overlays with many of the districts represented by Republicans, who would have to vote for its repeal. And so, they might be voting against the interests of their districts to do that. So, we think this policy is a lot stickier than people perceive. The campaign rhetoric will probably be, pretty elevated around the idea of repealing it; but ultimately, we think most of the money behind the IRA will be quite durable. And this is something that should accrue positively to the clean tech sector in particular.

Seth Carpenter: Got it. Well, Mike, as always, I love being able to take time and talk to you.

Michael Zezas: Seth, likewise, thanks for taking the time to talk. And as a reminder, if you enjoy Thoughts on the Market, please take a moment to rate and review us on the Apple podcast app. It helps more people find the show.

Our Chief Fixed Income Strategist surveys the latest big swings in the oil market, which could lead to opportunities in equities and credit around the energy sector.

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Welcome to Thoughts on the Market. I am Vishy Tirupattur, Morgan Stanley's Chief Fixed Income Strategist. Along with my colleagues bringing you a variety of perspectives, I'll be talking about the implications of recent strong moves in oil markets.

It's Tuesday, April 9th at 3pm in New York.

A lot is going on in the commodity markets, particularly in the oil market. Oil prices have made a powerful move. What is driving these moves? And how should investors think about this in the context of adjacent markets in equities and credit?

Morgan Stanley's Global Commodity Strategist and Head of European Energy Research, Martijn Rats, raised crude oil price forecast for the third quarter to $94 per barrel. The rally in recent weeks is a result of positive fundamental news and rising geopolitical tensions.

On the fundamental side, we've had better than expected demand from China and steeper than forecast fall in US production. Further, oil prices have also found support from growing potential for supply uncertainty in the Middle East. Martijn thinks that the last few dollars of rally in oil prices should be interpreted as a premium for rising geopolitical risks. The revision to the third quarter forecast should therefore be seen to reflect these growing geopolitical risks.

Our US equity strategists, led by Mike Wilson, have recently upgraded the energy sector. The underlying rationale behind the upgrade is that the energy sector relative performance has really lagged crude oil prices; and unlike many other sectors within the US stock world, valuation in energy stocks is very compelling.

Furthermore, the relative earnings revisions in energy stocks are beginning to inflect higher and the sector is actually exhibiting best breadth of any sector across the US equity spectrum. Higher oil prices are also important for credit markets. To quote Brian Gibbons, Morgan Stanley's Head of Energy Credit Research, for credit bonds of oil focused players, flat production levels and strong commodity prices should support free cash flow generation, which in turn should go to both shareholder returns and debt reduction.

In summary, there is a lot going on in the energy markets. Oil prices have still some room to move higher in the short term. We find opportunities both in equity and credit markets to express our constructive view on oil prices.

Thanks for listening. If you enjoyed the show, please leave us a review on Apple Podcasts or wherever you listen to this podcast. And share Thoughts on the Market with a friend or colleague today.

Our Global Chief Economist explains why the rapid hikes, pause and pivot of the current interest rate cycle are reminiscent of the 1990s.

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Welcome to Thoughts on the Market. I'm Seth Carpenter, Morgan Stanley's Global Chief Economist. Along with my colleagues bringing you a variety of perspectives, today I'll be talking about the current interest rate cycle and the parallels we can draw from the 1990s.

It's Monday, April 8th, at 10am in New York.

Last year, we reiterated the view that the 1990s remain a useful cycle to consider for understanding the current cycle. Our European equity strategy colleagues shared our view, and they've used that episode to inform their ‘out of consensus, bullish initiation on European equities’ in January. No two cycles are identical, but as we move closer to a Fed cut, we reassess the key aspects of that comparison.

We had previously argued that the current interest rate cycle and the mid 90s cycle differ from the intervening cycles because the goal now is to bring inflation down, rather than preventing it from rising. Of course, inflation was already falling when the 1994 cycle started, in part, because of the recession in 1991.

This cycle -- because much of the inflation was driven by COVID-related shocks, like supply chains for consumer goods and shifts in housing for shelter inflation -- inflation started falling rapidly from its peak before the first hike could have possibly had any effect. In recent months, our economic growth forecasts have been regularly revised upward, even as we have largely hit our expected path for inflation.

A labor supply shock appears to be a contributing factor that accounts for some of that forecast deviation, although fiscal policy likely contributed to the real side's strength as well. Supply shocks to the labor market are an interesting point of comparison for the two cycles. In the 1990s, labor force growth was still benefiting from this multi-decade rise in labor force participation among females. The aggregate labor force participation rate did not reach its peak until 2000.

Now, as we've noted in several publications, the surge in immigration is providing a similar supply side boost, at least for a couple of years. But the key lesson for me for the policy cycle is that monetary policy is not on a pre-set, predetermined course merely rising, peaking and then falling. Cycles can be nuanced. In 1994, the Fed hiked the funds rate to 6 per cent, paused at that peak and then cut 75 basis points over 1995 and 1996. After that, the next policy move was actually a hike, not a cut.

Currently, we think the Fed starts cutting rates in June; and for now, we expect that cutting to continue into next year. But as our US team has noted, the supply side revisions mean that the path for policy next year is just highly uncertain and subject to review. From 1994 to 1996, job gains trended down, much like they have over the past two years.

That slowing was reflective of a broader slowing in the economy that prompted the Fed to stop hiking and partially reverse course. So, should we expect the same now, only a very partial reversal? Well, it's too soon to tell, and as we've argued, the faster labor supply growth expands both aggregate demand and aggregate supply -- so a somewhat tighter policy stance could be appropriate.

In 1996, inflation stopped falling, and subsequently rose into 1997, and it was that development that supported the Fed's decision to maintain their somewhat restrictive policy. But we can't forget, afterward, inflation resumed its downward trajectory, with core PCE inflation eventually falling below 1.5 per cent, suggesting that that need to stop cutting and resume hiking, well, probably needs to be re-examined.

So, no two cycles match, and the comparison may break down. To date, the rapid hikes, pause and pivot, along with a seeming soft landing, keeps that comparison alive. The labor supply shock parallel is notable, but it also points to what might be, just might be, another possible parallel.

In the late 1990s, there was a rise in labor productivity, and we've written here many times about the potential contributions that AI might bring to labor productivity in coming years.

Thanks for listening. If you enjoy the show, please leave us a review wherever you listen to podcasts and share Thoughts on the Market with a friend or colleague today.

Oil demand has been higher than expected so far in 2024. Our Global Commodities Strategist explains what could drive oil to $95 per barrel by summer.

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Welcome to Thoughts on the Market. I’m Martijn Rats, Morgan Stanley’s Global Commodities Strategist. Along with my colleagues bringing you a variety of perspectives, today I’ll discuss recent developments in the oil market. It is Friday, April the 5th at 4 PM in London. 

At the start of the year, the outlook for the oil market looked somewhat unexciting. With the recovery from COVID largely behind us, growth in oil demand was slowing down. At the same time, supply from countries outside of OPEC (Organization for Petroleum Exporting Countries) had been growing strongly and we expected that this would continue in 2024. In fact, at the start of the year it looked likely that growth in non-OPEC supply would meet, or even exceed, all growth in global demand. When that occurs, room in the oil market for OPEC oil is static at best, which in turn means OPEC needs to keep restraining production to keep the balance in the market. Even if it does that, it results in a decline in market share and a build-up of spare capacity. History has often warned against such periods.

Still, by early February, the oil market started to look tighter than initially expected. Demand started to surprise positively – partly in jet fuel, as aviation was stronger than expected; partly in bunker fuel as the Suez Canal issues meant that ships needed to take longer routes; and partly in oil as petrochemical feedstock, as the global expansion of steam cracker capacity continues. At the same time, production in several non-OPEC countries had a weak start of the year, particularly in the United States where exceptionally cold weather in the middle of January caused widespread freeze offs at oil wells, putting stronger demand and weaker supply together, and the inventory builds that we expected in the early part of the year did not materialise. 

By mid-February, we could argue that the oil market looked balanced this year, rather than modestly oversupplied; and by early March, we were able to forecast that oil market fundamentals were strong enough to drive Brent crude oil to $90 a barrel over the summer.

Since then, Brent has honed in on that $90 mark quicker than expected. Over the last week or so, the oil market has shown a powerful rally that has the hallmarks of simply tightening fundamentals but also with some geopolitical risk premium creeping back into the price. For now, our base-case forecast for the summer is still for Brent to trade around $90 per barrel as that is where we currently see fundamental support. 

However, the oil market typically enjoys a powerful seasonal demand tailwind over the summer. And that still lies ahead. And, geopolitical risk is still elevated, for which oil can be a useful diversifier. With those factors, our $95 bull case can also come into play.

Thanks for listening. If you enjoy the show, please leave us a review wherever you listen and share Thoughts on the Market with a friend or colleague today.

Experts from our research team discuss how tensions with China could limit US access to essential technologies and minerals.

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Michael Zezas: Welcome to Thoughts on the Market. I'm Michael Zezas, Global Head of Fixed Income and Thematic Research.

Ariana Salvatore: And I'm Ariana Salvatore from the US Public Policy Research Team.

Michael Zezas: And on this episode of the podcast, we'll discuss how tensions in the US-China economic relationship could impact US attempts to transition to clean energy.

It's Thursday, April 4th at 10am in New York.

Ariana, in past episodes, I've talked about governments around the world really pushing for a transition to clean energy, putting resources into moving away from fossil fuels and moving towards more environmentally friendly alternatives. But this transition won't be easy. And I wanted to discuss with you one challenge in the US that perhaps isn't fully appreciated. This is the tension between US climate goals and the goal of reducing economic links with China. So, let's start there.

What's our outlook for tensions in the near term?

Ariana Salvatore: So, first off, to your point, the world needs over two times the current annual supply of several key minerals to meet global climate pledges by 2030. However, China is a dominant player in upstream, midstream, and downstream activities related to many of the required minerals.

So, obviously, as you mentioned, trade tensions play a major role in the US ability to acquire those materials. We think friction between the US and China has been relatively controlled in recent years; but we also think there are a couple factors that could possibly change that on the horizon.

First, China's over-invested in excess manufacturing capacity at a time when domestic demand is weak, driving the release of extra supply to the rest of the world at very low prices. That, of course, impacts the ability of non-Chinese players to compete. And second, obviously a large focus of ours is the US election cycle, which in general tends to bring out the hawk in both Democrats and Republicans alike when it comes to China policy.

Michael Zezas: Right. So, all of that is to say there's a real possibility that these tensions could escalate again. What might that look like from a policy perspective?

Ariana Salvatore: Well, as we established before, both parties are clearly interested in policies that would build barriers protecting technologies critical to US economic and national security. These could manifest through things like additional tariffs, as well as incremental non-tariff barriers, or restrictions on Chinese goods via export controls.

Now, importantly, this could in turn cause China to act, as it has done in the recent past, by implementing export bans on minerals or related technology -- key to advancing President Biden's climate agenda, and over which China has a global dominant position.

Specifically on the mineral front. China dominates 98 per cent of global production of gallium, more than 90 per cent of the global refined natural graphite market, and more than 80 per cent of the global refined markets of both rare earths and lithium. So, we've noted that those minerals are at the highest risk of disruption from potential escalation intentions.

But Michael, from a market's perspective, are there any sectors that stand out as potential beneficiaries from this dynamic?

Michael Zezas: So, our research colleagues have flagged that traditional US autos would see mostly positive implications from this outcome as EV penetration would likely stagnate further in the event of higher trade tensions. Similarly, US metals and mining stocks would likely benefit on the back of increased support from the government for US production, as well as increased demand for locally sourced materials.

On the flip side, Ariana, any clear risks that our analysts are watching for?

Ariana Salvatore: Yeah, so a clear impact here would be in the clean tech sector, which faces the greatest risk of supply chain disruption in an environment with increasing trade barriers in the alternative energy space. And that's mainly a function of the severe dependencies that exist on China for battery hardware. Our analysts also flagged US large scale renewable energy developers for potential downside impacts in this scenario -- again, specifically due to their exposure to battery and solar panel supply chains, most of which stems from China domiciled industries.

Michael Zezas: Makes sense and clearly another reason we’ll have to keep tracking the US-China dynamic for investors. Ariana, thanks for taking the time to talk.

Ariana Salvatore: Great speaking with you Mike.

Michael Zezas: And thanks for listening. If you enjoy Thoughts on the Market, please leave us a review wherever you listen to the show and share the podcast with a friend or colleague today.

Consumers are increasingly sensitive about where their personal data is being processed and stored. The head of our European Telecom team explains the complexity around data sovereignty and why investors should care about the issue.

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Welcome to Thoughts on the Market. I’m Emmet Kelly, Head of Morgan Stanley’s European Telecom team. Today I’ll be talking about data sovereignty. 

It’s Wednesday, April 3rd, at 5pm in London.

It’s never been easier to manage your life with just a click of a button or tap on the screen. You can take a photo, upload it to social media, and share it with friends and family. You can pay your bills online – from utilities and groceries to that personal splurge. You can even renew your library card or driver’s license or access your emails from years and years ago.

But where is all this data stored? Our recent work shows that consumers are increasingly sensitive about this issue. Among European consumers, for example, more than 80 percent think it’s either very or somewhat important to know where their data is stored. And two-thirds of European consumers would like their data to be stored in their country of residence. A further 20 percent would be willing to pay more to store data locally, especially consumers in Spain and Germany. 

These results suggest that in the future, processing and storage of European data is more likely to be near shored rather than be based abroad.

A few weeks ago, I came on this podcast to talk about our expectation that European data centers will grow five-fold over the next decade. Our research showed that key drivers would include increased cloudification, artificial intelligence and data sovereignty. We believe the most under-appreciated driver of this exponential growth is the question of where data is stored and processed. This is data sovereignty; and it’s a concern for European consumers.

Data sovereignty means having legal control and jurisdiction over the storage and processing of data. It also means that data is subject to the laws of the country where that data was gathered and processed. More than 100 countries have data sovereignty laws in place, and laws governing the transfer of data between countries will only proliferate from here. 

In Europe, for example, we estimate that less than 50 per cent of cloud data is stored locally, within the European continent. The remainder is stored either in the US – notably in Virginia, which is the key data center hub in the United States; or, to a lesser extent, in lower-cost locations within Emerging Markets or in Asia.

Complicating the issue of data sovereignty further are the so-called “extraterritorial laws” or "extra-territorial jurisdiction." These dictate the legal ability of a government to exercise authority beyond its normal geographic boundaries. From a data perspective, even if data is stored and/or processed in Europe, it may also be subject to extraterritorial laws. Essentially, foreign, non-European governments could still gain access to European data.

This is something to keep in mind as we put data sovereignty in the context of the transition to a multipolar world – a major theme which Morgan Stanley Research has been mapping out since 2019. The rewiring of the global economy is well under way and data security is a key imperative for policy makers against the backdrop of accelerating tech diffusion and also geopolitical tensions. Our baseline de-risking scenario for the rewiring of global trade extends to data security and implies a robust case for the near shoring of European data and data center growth.

With so little of the European data pie stored or processed in Europe, the potential upside from near-shoring is considerable. Bottom line, we think investors should pay close attention to the issue of data sovereignty, especially as it plays out in Europe over the coming decade.  

Thanks for listening. If you enjoy the show, please leave us a review wherever you listen to podcasts and share Thoughts on the Market with a friend or colleague today.

We discuss how the upcoming US elections could affect trade and tax policy, and which scenarios are most favorable to retailers and brands. 

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Ariana Salvatore: Welcome to Thoughts on the Market. I'm Ariana Salvatore from Morgan Stanley's US Public Policy Research Team.

Alex Straton: And I'm Alex Straton, head of the North America Softlines Retail and Brands team.

Ariana Salvatore: On this episode of the podcast, we'll discuss some key policy issues that may play into the U.S. presidential election and their potential impact on businesses and consumers.

It's Tuesday, April 2nd, at 10 am in New York.

Election season is fully underway here in the U.S. and as in past election cycles, trade policy and tax reform are once again a big concern.

With that in mind, I wanted to discuss the potential implications on the retail space with my colleague Alex. So, let's start there. In general, Alex, how are retail stocks impacted leading up to the U.S. presidential elections?

Alex Straton: So, look, this kind of surprised us when we had looked into some of this data. But if you look at the last six elections or so, on a full year basis, trading activity can be super volatile in my coverage; and it depends on what's at stake.

But what we do broadly observe is back half underperformance to a bigger magnitude than is typical in a normal year. So, there is pressure on these stocks, in a way that you don't see in non-election years. Makes sense, right? Kind of a makes sense hypothesis that we confirmed. But I think the more interesting nugget about Softlines, Retail and Brand stocks leading into elections is that the higher frequency data can actually look worse than what actually comes to fruition in the top line or the sales numbers.

So, by that I mean, you'll see surveys out of our economics team or out of, you know, big economics forums that say, ‘Oh, sentiment is getting worse.’ And then we'll see things like traffic is getting worse, these higher frequency indicators; and they actually end up almost exacerbating the impact than what we actually see when we get the true revenue results later on.

So, my point being -- beware, as you see this degradation in the data; that doesn't necessarily mean that these businesses fundamentals are going to deteriorate to the same degree. In fact, it shows you that -- yes, maybe they're a little bit worse, but not to that extent.

Alex Straton: So, Ariana, let's look at the policy side. More specifically, let's talk about some potential changes in tax policy that's been a hot topic for companies I cover. So, what's on the horizon, top down?

Ariana Salvatore: Yeah, so, lots of changes to think about the horizon here.

Just for some quick context, back in 2017, Republicans under former President Trump passed the Tax Cuts and Jobs Act, and that included a whole host of corporate and individual tax cuts. The way that law was structured was set to start rolling off around 2022, and most, if not all, of the bill is set to expire by the end of 2025.

So that means that regardless of the election outcome, the next Congress will have to focus on tax policy, either by extending those cuts, or allowing some or all of them to roll off. So, in general, we think a Democratic sweep scenario would make it more likely that you would see the corporate rate, perhaps tick up a few points; while in a Republican sweep, we think you probably would maintain that 21 per cent corporate rate; and perhaps extend some of the other expiring corporate provisions.

So, Alex, how do you expect these potential changes in the corporate tax side to impact the retailers and the brands that you cover?

Alex Straton: Yeah. So, high level, I think about it on a sub-sector basis. And so, the headline you should hear is that my brand or wholesale coverage, which has more international revenue experience exposure, is better off than my retail coverage, which has more domestic or North America exposure.

And it all just comes back to having more or less foreign exposure. The more North America exposure you have, the more subject you are to a change in tax rate. The more foreign exposure you have, the less subject you are to a change in tax rate. So that's the high-level way to think about it.

We did run some analyses across our coverage, and if we do see the US corporate tax rate, let's say, lowered to 15 per cent hypothetically, we'll call that the Trump outcome, if you will. We calculate about a 5 per cent average benefit to 2025 earnings across our coverage. Now on the other hand, if we see something like a corporate tax rate that goes to 25 per cent, Biden outcome -- let's just label it that. We calculate 3 per cent average downside to the 2025 EPS estimates in our coverage.

So that's how we sized it. It's not a huge swing, right? And the only reason why there's what I would call more of a benefit than a downside impact of that analysis is because of where the current tax rate sits and the relative magnitudes we took around it.

Alex Straton: Now back over to you. You've highlighted trade policy as another key issue for the [20]24 election. Why is it so crucial in this election cycle compared to prior ones we've seen?

Ariana Salvatore: Right. So, in contrast to some of the tax changes that we were just talking about, those would require full congressional agreement, right?

So, you need either sweep scenario to make changes to tax policy in a really significant way. Trade policy is completely different because it is very much at the discretion of the president alone. So, to that end, we've envisioned a few different scenarios that can range from things like targeted tariffs on particular goods or trading partners, you know, something akin to the first Trump administration; to things like a universal baseline tariff scenario, and that's more similar to some of the more recent proposals that the former president has been talking about on the campaign trail.

So, there are a whole host of different circumstances that can lead to each of those outcomes, but it's critically important, that level of discretion that I mentioned before. And we think for that reason, that investors really need to contemplate each of these different scenarios and what they could mean for, you know, macro markets and their individual stocks that they cover. Because, frankly, a lot can change.

So, to that point, how do you think changes in trade policy are going to affect the side of the retail sector that you cover? Obviously, you mentioned North American exposure, so I imagine that's going to be critical again.

But what kind of businesses will be most affected under the different scenarios that I just mentioned?

Alex Straton: Yeah, so the way we examined this on our end, so from a Softlines, Retail, and Brands perspective, was looking at what a incremental China tariff means.

I do think there's important background for people to understand in my space that differs this time around versus an election cycle, you know, four or eight years ago, whatever it may have been -- in that my companies have intentionally diversified out of China.

The fact I love to give people is that US apparel imports from China has fallen from nearly 40 per cent to 20 per cent in the last, you know, decade or so; with 10 points of that in the last five years alone. So, the headline you should hear is there's not as much China exposure as there used to be. So that's good if there is a tariff put on for my companies. But with that backdrop, turning to the numbers, we have about 20 per cent cost of goods sold exposure to China on average across Softlines, Retail and Brands businesses.

So, if that goes up by an incremental 10 per cent what we calculate is about a 15 per cent impact to 2025 earnings across my coverage. One final thing I would say is that it's very rare for businesses to have a North America based supply chain. But there are some companies -- very few, but select ones -- that do have a majority domestic supply chain. You can think about some of the favorite jeans you might wear on an everyday basis. Maybe more often than not, you don't realize they're actually made in America. And that's a benefit in a scenario like that.

Ariana Salvatore: Makes sense. Alex, thanks for taking the time to talk.

Alex Straton: It was great speaking with you, Ariana. Thanks for having me.

Ariana Salvatore: And thank you for listening. If you enjoy Thoughts on the Market, please leave us a review wherever you listen to the show and share the podcast with a friend or colleague today.

Our Global Chief Economist surveys recent US and Australian census data to explain immigration’s impact on labor supply and demand, as well as the implications for monetary policy. 

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Welcome to Thoughts on the Market. I'm Seth Carpenter, Morgan Stanley's Global Chief Economist, along with my colleagues bringing you a variety of perspectives. And today, I'll be talking about immigration, economic growth, and the implications for monetary policy.

It's Monday, April 1st, at 10am in New York.

Global migration is emerging as an important macro trend. Some migration patterns change during and after COVID, and such changes can have first order effects on the population and labor force of an economy.

That fact has meant that several central banks have discussed immigration in the context of their economic outlook; and we focus here on the Fed and the Reserve Bank of Australia, the RBA.

In the US, recent population estimates from the CBO and the census suggests that immigration has been and is still driving faster growth in the population and labor supply, helping to explain some of last year's upside surprise in non-farm payrolls. In Australia, the issue is even longer standing, and accelerated migration in recent years has provided important support to consumption and inflation.

From a macro perspective, immigration can boost both aggregate demand and aggregate supply. More specifically, more immigration can lead to stronger consumption spending, a larger labor force, and may drive investment spending.

The permanence of the immigration, like some immigrants are temporary students or just visiting workers, the skill level of the migrants and the speed of labor force integration are consequential -- in determining whether supply side or demand side effects dominate. Demand side effects tend to be more inflationary and supply side effects more disinflationary.

In Australia, the acceleration in immigration has played an important driver in population growth and aggregate demand. In the decade before COVID, net migration added about a percentage point to the population growth annually. In 2022 and 2023, the growth rate accelerated beyond two percent. The pace of growth and migration and the type of migration have supported consumption spending and made housing demand outpace housing supply.

Our Australia economists note that net migration will likely remain a tailwind for spending in 2024 -- but with significant uncertainty about the magnitude. In stark contrast, recent evidence in the US suggests that the surge in immigration has had a relatively stronger impact on aggregate supply. Growth in 2023 surprised to the upside, even relative to our rosier than consensus outlook.

Academic research on US states suggests that over the period from 1970 to 2006, immigration tended to increase capital about one for one with increases in labor -- because the capital labor ratio in states receiving more immigrants remained relatively constant. That is, the inflow of immigrants stimulated an increase in investment.

Of course, the sector of the economy that attracts the immigrants matters a lot. Immigrants joining sectors with lesser capital intensiveness may show less of this capital boosting effect.

So, what are the implications for monetary policy? Decidedly, mixed. In the short run, more demand from any of the above sources will tend to be inflationary, and that suggests a higher policy rate is needed. But, as any supply boosting effects manifest, easier policy is called for to allow the economy to grow into that higher potential. So, a little bit here, a little bit there. Over the long run, though, only a persistently faster growth rate in immigration, as opposed to a one-off surge, would be able to raise the equilibrium rate, the so-called R star, on a permanent basis.

Thanks for listening. If you enjoy the show, please leave us a review wherever you listen to podcasts and share Thoughts on the Market with a friend or a colleague today.

A landmark settlement with the National Association of Realtors will change the way brokers are paid commissions. How would this affect people looking to buy or sell homes? Our co-heads of Securitized Products Research discuss.

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James Egan: Welcome to Thoughts on the Market. I'm Jim Egan, co-head of Securitized Products Research at Morgan Stanley.

Jay Bacow: And I'm Jay Bacow, the other co-head of Securitized Products Research.

James Egan: And on this episode of the podcast, we'll be discussing some proposed changes to the US housing market. It's Thursday, March 28th, at 1pm in New York.

Jay Bacow: Jim, two weeks ago, the National Association of Realtors (NAR) settled a case that could fundamentally change how commissions are paid to brokers. Acknowledging that there's a few months until this is all going to get approved, it looks like sellers are no longer going to have to compensate buyers’ agents. Which means that the closing cost that sellers have to pay is going to come down from the current 5 to 6 per cent to brokers to something more in the context of 3.5 to 4 percent -- based on estimates from many economists. What does this mean for the housing market?

James Egan: So, this is certainly a settlement worth paying attention to.

There are a lot of moving pieces here, but some of our first thoughts. Look, if we're lowering the ultimate transaction costs when it comes to selling homes, we do think that -- all else equal and probably a little bit more into the future -- it's going to lead to a higher volume of transactions. Or a higher level of turnover in the housing market.

Now sellers no longer having to compensate buyers’ agents. That becoming something that buyers will need to do -- that could, at least from a perception perspective, increase the cost for buyers at a place, where we're already at one of our least affordable points in several decades. So, when we think about an increased level of transaction volumes; if that means, especially in the near term, or especially where we are right now, a little bit of an increase in for-sale inventory, combined with some of the affordability issues -- maybe it weighs a little bit on home prices. But our bottom line here is we think from a home price perspective, largely unchanged here. From a transaction volume perspective, all else equal, you could see a little bit of a pickup.

Jay Bacow: All right. But Jim, haven't you been calling for some of the story already with increased housing activity, causing home prices to end 2024 slightly below 2023. Does this then change the narrative at all?

James Egan: No, I don't think this changes the narrative. If we go back into that call just a little bit, our call for the marginal decrease in year over year home price growth was driven by growth in for-sale inventory this year. We're seeing that steady growth in existing listings over the past couple of months.

Now, the most recent housing start print was also positive from this perspective. Single unit housing starts were up for the eighth month in a row and have now increased 11 per cent from their local lows, which were in June of 2023. I think it's also worth pointing out over that same time frame, five plus unit starts, multi-unit housing, they're down in almost every single one of those months -- all but one of them. And they're down 19 per cent from that same month, June of 2023. But that's probably something for another podcast.

Jay Bacow Alright. Well, I think there's two more things we should include in this podcast. First, this settlement isn't the only factor that could increase housing activity. Recently, around the State of the Union [address], President Biden announced a number of plans that could also contribute.

Now, some of them require congressional approval, including a $10,000 middle-income first-time homebuyer tax credit. And then a separate $10,000 tax credit to middle class families that would sell their home below the median income in the county to help account for some of these lock-in effects that you mentioned.

Jay Bacow: However, he also announced a pilot program that would eliminate total insurance fees for some low-risk refinance transactions. And that one doesn't require congressional approval; it's getting put in place as we speak, and that would save homeowners about $750 in closing costs on a refinance.

James Egan: Interesting. So, if I'm hearing you correctly, the ones that would require congressional approval, they're more on the -- what we would call housing activity side: sales, purchase volumes. Whereas the one that didn't was on the refinance side. Now, presumably there's not much refinance activity going on right now.

Jay Bacow: That's a correct presumption. Right now, we estimate that only about 3 per cent of homeowners have a critical incentive to refinance 25 basis points versus a prevailing mortgage rate. So, this is going to matter a lot more if we rally in rates. Realistically, we think we need a mortgage rate to get closer to 5 per cent than the current level for this to really matter.

But I imagine that's probably a similar case with the NAR settlement as well.

James Egan: Exactly. And that's why I made a point to say, all else equal, we think this is going to lead to a higher volume of transactions or a higher turnover rate in the housing market. It's because of that lock-in effect. Right now, so much of the homeowning distribution is well below the prevailing mortgage rate, that any real impacts of this we think are just going to be on the margins.

Jay Bacow: Alright, so there's a lot of changes are coming to the housing market. They're likely to impact the market more if rates rally and are more of the back half of the year, next year event than this summer.

Jim, thanks for taking the time to talk.

James Egan: Great speaking with you, Jay.

Jay Bacow: And thanks for listening.

If you enjoy Thoughts on the Market, please leave us a review wherever you listen, and share the podcast with a friend or colleague today.

Consumer credit scores have ticked higher in the last two years – but so have the rate of delinquencies and defaults. Our Global Head of Fixed Income discusses “credit score migration” with the firm's Asset-Backed Security Strategist.

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Michael Zezas: Welcome to Thoughts on the Market. I'm Michael Zezas, Global Head of Fixed Income and Thematic Research for Morgan Stanley.

Heather Berger: And I'm Heather Berger, Asset-Backed Security Strategist.

Michael Zezas: And today, we'll be talking about the trend of migrating US consumer credit scores and the potential effect on equities and fixed income. It's Wednesday, March 27th at 10am in New York.

Heather, I really wanted to talk to you today because we've all seen some recent news reports about delinquencies and defaults in consumer credit ticking higher over the last two years. That means more people missing payments on their car loans and credit cards, suggesting the consumer is increasingly in a stressed position. But at the same time, that seems to be at odds with what's been an upward trend in consumers’ credit scores, which on its face should suggest the consumer is in a healthier position.

So, it all begs the question: what's really going on here with the consumer, and what does it mean for markets? Now, you and your colleagues have been doing some really fascinating work showing that in order to get to the truth here, we have to understand that there's a measurement problem. There’s quirks in the data that, when you understand them, mean you have a more accurate picture of the health of the consumer. And that, in turn, can clarify some opportunities in the fixed income and equity markets.

So, this measurement problem seems to center around the idea of credit score migration. Can you start by explaining what exactly is credit score migration?

Heather Berger: Sure. So, credit scores are used as a way to estimate expected default risk on consumer loans. And these scores are really the most standardized and widespread way of evaluating consumer credit quality. Scores are meant to be relative metrics at any point in time. So, a 700 score today is meant to indicate less default risk than a 600 score today, but a 700 score today isn't necessarily the same as a 700 score a few years ago.

Credit scores have been increasing throughout the past decade; most extremely from 2020 to 2021, largely due to COVID related factors such as stimulus checks. The average credit score is up 10 points in the past four years, and this trend has broadly been referred to as credit score migration.

Michael Zezas: So, just so we can have a concrete example, can you talk about how this has affected one particular consumer credit category?

Heather Berger: Well, as you mentioned earlier, delinquencies and defaults have been rising across consumer loan types, whether it's autos, credit cards, or personal loans. The macro backdrop has definitely contributed to this, as inflation has weighed on consumers real disposable income, but we do think that score migration has had an impact as well, considering the large changes over the past few years.

Looking at auto loans, for example, with the same credit scores from 2022 versus loans from 2018, we see that delinquency rates on the 2022 loans are up to 60 per cent higher than on the 2018 loans. We estimate that 30 to 50 per cent of this increase can be due to effects of credit score migration.

Michael Zezas: And is there anything we can assume here about the actual health of the US consumer? Do we see delinquencies improving or getting worse?

Heather Berger: I think one of the main takeaways here is that since score migration impacts performance metrics, we shouldn't necessarily extrapolate delinquency data to broader consumer health. Despite the high delinquency rates, our economists do expect consumers to remain afloat.

They're forecasting a modest slowdown in consumer spending this year as we move off a hot labor market and continue to face elevated interest rates.

Michael Zezas: So, let's shift to the market impacts here. Maybe you could tell us what your colleagues in equity research saw as the impact on the banks and consumer finance sectors. And in your area of expertise, what are the impacts for asset-backed securities?

Heather Berger: We think that across both of these spaces, taking into account changes in credit scores will be important to use in models moving forward; and this can help us to more accurately assess the risks of consumer loans and to predict performance. Movements in credit scores have actually been muted in the past year, which is a big change from the large increases we saw a few years ago.

So, score migration should now have a smaller impact on consumer performance and delinquency rates. This means that performance will be driven by macro factors and lending standards. As inflation comes down and with lending standards tight, we view this as a positive for asset backed securities, and our colleagues view it as a positive for their coverage of consumer finance equities.

Michael Zezas: Heather, this has been really insightful. Thanks for taking the time to talk.

Heather Berger: Great speaking with you, Michael.

Michael Zezas: And thanks for listening. If you enjoy thoughts on the market, please be sure to rate and review us on the Apple podcast app or wherever you listen. It helps more people find the show.

As investors look for clues on market durability, our Chief U.S. Equity Strategist highlights which sectors could show more widely distributed gains in the near term.

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Welcome to Thoughts on the Market. I'm Mike Wilson, Morgan Stanley’s CIO and Chief US Equity Strategist. Along with my colleagues bringing you a variety of perspectives, today I'll be talking about an opportunity for energy stocks to keep working in the near term.

It's Tuesday, March 26th at 9:30 am in New York. 

So let’s get after it.

Over the past five months, global stocks are up about 25 percent while many other asset prices were up double digits or more. What’s driving this appreciation? Many factors are at work. But for stock indices, it’s been mostly about easier financial conditions and higher valuations rather than improving fundamentals. Granted, higher asset prices often beget even higher prices – as investors feel compelled to participate. From our perspective, it’s hard to justify the higher index level valuations based on fundamentals alone, given that 2024 and 2025 earnings forecasts have barely budged over this time period.  

We rolled out our “Boom-Bust” thesis in 2020 based on the shift to fiscally dominant policy in response to the pandemic. At that point, our positive view on stocks was based on the boom in earnings that we expected over the 2020-2021 period as the economy roared back from pandemic lows. Our outlook anticipated both accelerating top line growth and massive operating leverage as companies could reduce headcount and other costs while people were locked down at home. The result was the fastest earnings growth in 30 years and record high margins and profitability. In other words, the boom in stocks was justified by the earnings boom that followed. Stock valuations were also supported by arguably the most generous monetary policy in history. The Fed continued Quantitative Easing throughout 2021, a year when S&P earnings grew 48 percent to an all-time high.

Today, stock valuations have reached similarly high levels achieved back in 2020 and [20]21 – in anticipation of improving growth after the earnings deterioration most companies saw last year. While the recent easing of financial conditions may foreshadow such an acceleration in earnings, bottom-up expectations for 2024 and [20]25 S&P 500 earnings remain flat post the Fed’s fourth quarter dovish shift. Meanwhile, small cap earnings estimates are down 10 percent and 7 percent for 2024 and [20]25, respectively since October. We think one reason for the muted earnings revisions since last fall, particularly in small caps, is the continued policy mix of heavy fiscal stimulus and tight front-end interest rates. We see this crowding out many companies and consumers.  

The question for investors at this stage is whether the market can finally broaden out in a more sustainable fashion. As we noted last week, we are starting to see breadth improve for several sectors. Looking forward, we believe a durable broadening comes down to whether other stocks and sectors can deliver on earnings growth. One sector showing strong breadth is Industrials, a classic late-cycle winner and a beneficiary of the major fiscal outlays for things like the Inflation Reduction and CHIPS Act, as well as the AI-driven data center buildout. 

A new sector displaying strong breadth is Energy, the best performer month-to-date but still lagging considerably since the October rally began. Taking the Fed’s recent messaging that they are less concerned about inflation or loosening financial conditions, commodity-oriented cyclicals and Energy in particular could be due for a catch-up. The sector’s relative performance versus the S&P 500 has lagged crude oil prices, and valuation still looks compelling. Relative earnings revisions appear to be inflecting as well. Some listeners may be surprised that Energy has contributed more to the change in S&P 500 earnings since the pandemic than any other sector. Yet it remains one of the cheapest and most under-owned areas of the market.  

Thanks for listening. Subscribe to Thoughts on the Market on Apple Podcasts or wherever you listen and leave us a review. We’d love to hear from you. 

Morgan Stanley’s Chief Fixed Income Strategist explains why private credit markets have expanded rapidly in recent years, and how they may fare if public credit makes an expected comeback.

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Welcome to Thoughts on the Market. I am Vishy Tirupattur, Morgan Stanley’s Chief Fixed Income Strategist. Along with my colleagues bringing you a variety of perspectives, I'll be talking about the implications of the rapid growth in private credit for the broader credit markets.  

It’s Monday, March 25th at 12 noon in New York.

The evolution of private credit is reshaping the landscape of leveraged finance. Investors of all stripes and all around the world are taking notice. The rapid expansion of private credit in the last few years has come against a much different backdrop in the public credit markets – a contraction in the high yield bond market and lackluster growth in the broadly syndicated loan market. What the emergence of private credit means for the public credit and the broader credit markets is a topic of active debate.

Just to be clear, let me define what we mean by private credit. Private credit is debt extended to corporate borrowers on a bilateral basis or involving very small number of lenders, typically non-banks. Lenders originate and negotiate terms directly with borrowers without the syndication process that is the norm in public markets for both bonds and loans. These private credit loans are typically not publicly rated; they’re not typically traded in secondary markets; tend to have stronger lender protections and offer a spread premium to public markets.

Given the higher overall borrowing costs as well the need to provide stronger covenant protection to lenders, what motivates borrowers to tap private credit versus public credit? Three key factors explain the recent rapid growth in private credit and show how private credit both competes and complements the public credit markets.

First, small and medium-sized companies that used to rely on banks had to find alternative sources of credit as banks curtailed lending in response to regulatory capital pressures. A majority of these borrowers have very limited access to syndicated bond and loan markets, given their modest size of borrowings.

Second, because of the small number of lenders per deal – frequently just one – private credit offers both speed and certainty of execution along with flexibility of term. The last two years of monetary policy tightening has meant that there was a lot of uncertainty around how high policy rates would go and how long they will stay elevated – which has led investors to pull back. The speed and certainty of private credit ended up taking market share from public markets against this background, given this uncertainty in the public markets.

Third, the pressure on interest coverage ratios from higher rates resulted in a substantial pick-up in rating agency downgrades into the B- and CCC rating categories. At these distressed ratings levels, public markets are not very active, and private credit became the only viable source of financing.

Where do we go from here? With confidence growing that policy tightening is behind us and the next Fed move will be a cut, the conditions that contributed to deal execution uncertainty are certainly fading. Public markets, both broadly syndicated loan and high yield bond markets, are showing signs of strong revival. The competitive advantage of execution certainty that private credit lenders were offering has become somewhat less material. Further, given the amount of capital raised for private credit that is waiting to be deployed – the so-called dry powder – the spread premium in private credit may also need to come down to be competitive with the public markets.

So private credit is both a competitor and a complement to the public markets. Its competitive attractiveness will ebb and flow, but we expect its complementary benefit as an avenue for credit where public markets are challenged to remain as well as grow.

Thanks for listening. If you enjoy the show, please leave us a review on Apple Podcasts or wherever you get this podcast – and share Thoughts on the Market with a friend or colleague today.

Our Head of Corporate Credit notes that while recent central bank meetings offered few surprises, there was still plenty to be gleaned that could affect credit valuations.  

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Welcome to Thoughts on the Market. I'm Andrew Sheets, head of Corporate Credit Research at Morgan Stanley. Along with my colleagues bringing you a variety of perspectives, today I'll be talking about this week’s central bank meetings, and why as expected outcomes can still mean new information for credit investors.

It's Friday, March 22nd at 2pm in London.

When a good friend was interviewing at Morgan Stanley, many years ago, he was asked a version of the ‘Monty Hall Problem.’ Imagine that you’re on a game show with a prize behind one of three doors. You make your guess of door 1, 2 or 3. And then the host opens one of the doors you didn’t pick, showing that it’s empty. Should you change your original guess?

While it’s a bit of a paradox, you should. Your original odds of finding the prize were 1-in-3. But by showing you a door with a wrong answer, the odds have improved. The host gave you new information. 

And that’s what came to mind this week, after important meetings from the Federal Reserve and Bank of Japan. Both banks acted in-line with our economists’ expectations. But those meetings and what came after still provided some valuable new information. Information that, in our view, was helpful to credit.

On Tuesday, the Bank of Japan raised interest rates for the first time since 2016, ended Yield Curve Control, and ended its purchases of equities. All of these measures had been previously used to help boost too-low inflation. But they have also resulted in a significant weakening of Japan’s currency, the Yen. And that, in turn, had made it attractive for Japanese investors to invest in overseas bonds in other currencies – which were gaining value as the Yen weakened.

So, one risk heading into this week was that these big changes in the Bank of Japan would reverse these other trends. It would strengthen the currency and make buying corporate bonds from the US or Europe less attractive to Japanese investors. But this meeting has now come and gone, and the Yen saw little movement. That is helpful, new information. Before Tuesday, it was impossible to know how the currency would react.

Then on Wednesday, the Fed confirmed its expectation from December that it was planning to cut interest rates three times this year. On the surface, that was another ‘as expected’ outcome. But it still contained new information. The Fed’s forecast suggested more confidence that stronger 2024 growth wouldn’t lead to higher inflation. And that endorsed the idea that the productive capacity of the US economy is improving. Solid growth and lower inflation co-existing, thanks to better productivity, will be closer to a 1990s style outcome. And that was a pretty good scenario for credit.

This week’s central bank meetings have come and gone without big surprises. But sometimes ‘as expected’ can still deliver new information. We continue to expect credit valuations to hold at richer-than-average levels, and like US leveraged loans, as a high yielding market well-suited for a mid-90s scenario.

Thanks for listening. Subscribe to Thoughts on the Market on Apple Podcasts, or wherever you listen, and leave us a review. We’d love to hear from you. 

The perspective from our recent European Financials Conference looked positive for UK markets, loan demand and M&A activity. Our European heads of Diversified Financials and Banks Research discuss.

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Bruce Hamilton: Welcome to thoughts on the Market. I'm Bruce Hamilton, head of European Diversified Financials Research.

Alvaro Serrano: And I'm Alvaro Serrano, head of European Banks Research.

Bruce Hamilton: And on this episode of the podcast, we'll discuss some of the key takeaways from Morgan Stanley's just concluded 20th European Financials Conference. It's Thursday, March 21st at 3 pm in London.

Alvaro, we were both at the European Financials Conference in London. More than 100 companies attended the event. 95 percent of the attendees were from CE level management. There was a lot to take in.

Investor sentiment heading into the conference seemed noticeably more upbeat than last year's, thanks in part to stronger-for-longer net interest income (NII), an M&A cycle that is heating up, attractive capital returns, and increasing activity in private markets.

Now you were the conference chair, Alvaro. And you have a unique overview of this event. What's, in your view, the single most important takeaway?

Alvaro Serrano: Thanks, Bruce. Look, I think for me that if I had to summarize in two words is ‘risk on.’ I think the tone of the conference has been positive almost across the board. The lower rate outlook has increased market confidence. And corporates were pointing that out. They've seen stronger activity, so far this year, in many product lines. They've called out loan demand being stronger. They've called out debt capital market activity being stronger. They've announced M&A -- we know is up strongly and asset management inflows are up strong as well. So yes, a strong start to the year - confidence is back, and I would summarize it as risk on.

Bruce Hamilton: Got it. And in terms of the other key themes and debates that emerged from company presentations at the conference.

Alvaro Serrano: Yeah, look, I think the main themes following up from what I was saying earlier are: First of all, I would say leadership change. Within the sector, we've been calling for leadership change in our outlook. And I think what we heard at the conference supports this. So, given market activities coming back, I think a lot of investors were more keen to look for more resilient revenue models; maybe less peripheral banks, less NII retail-centric banks. And looking for more fee growth that could benefit from that market recovery.

The second point I would point out is UK. There’s definitely a change in sentiment around the UK in the polling questions. It came out as a preferred region, and I think what's behind that preference is that we're seeing an inflection point in NII.

And I think the third and final theme for me is investment banking and wealth recovery. Look, wealth may not recover already in Q1. But as this confidence builds up, we definitely expect inflows to pick up in the second half, both in quantity and margin.

Bruce Hamilton: So, based on your own work and what you heard at the conference, what's your overall view on the financial sector and what drives that from here?

Alvaro Serrano: We continue positive the sector. Look, the valuation is depressed. The multiples, the PE multiples on six times. Historically, it's been much closer to double-digit. We think, recovering PMIs should help re-rate that multiple. And while we do wait for those PMIs to recover, you're being paid 11 per cent yield between dividends and buybacks.

I think the confidence build up that we're seeing in the tone of the conference suggests an early indicator of those PMIs recovering, if you ask me. And then in the panels, we've had plenty of discussions around asset quality. Obviously, commercial real estate exposure is a big theme. But we think it's a manageable problem. It's less than 5 per cent of the loan books, within that office is less than a third. And within that US office spaces is a fraction. So overall, we think it's a manageable problem and our highest single conviction in the sectors that the yields are sustainable and resilient.

So, with a strong valuation underpin, we continue, positive of the sector.

Bruce, why don't I turn it over to you? Given your focus on private markets, exchanges, and asset management sub-sectors within diversified financials, can you talk us through private markets and deal activity space?

Bruce Hamilton: Yeah, our fireside chats with panels, and with private market management teams, saw more optimistic commentary on capital markets activity. And similarly fundraising improvements are expected to be closely linked to cash flows from exit activity flowing back to institutional clients, who can then reallocate to new funds.

So there's a little delay. But overall, the direction of travel clearly feels positive and pointed to a reacceleration in the private markets’ flywheel in due course, which has been, of course, the rationale behind the more positive view we have taken on this subsector since our outlook piece in November last year.

Alvaro Serrano: AI is obviously a dominant theme across sectors and industries globally. Also, by the way, a frequent topic in the discussion of this podcast. Can you give us an update on AI and its implications for wealth and asset management?

Bruce Hamilton: Sure. I mean, our discussions with asset management CEOs highlighted the transformative potential of AI, as they see it as a source of significant efficiency potential across the value chain. From sales and marketing, through investments and research, to middle and back office -- in areas such as report writing, research synthesis and client servicing. The benefits of starting early, with leaders having been working on this for 12 months or more, seems clear given the need to manage risks, for example, ensuring data quality to avoid hallucinations.

One asset management CEO indicated that his firm had identified 85 use cases, with 35 already in production. The initial opportunities for asset managers were seen as principally in driving cost efficiencies; though in wealth management a greater revenue potential we think exists given the scope to improve the effectiveness of wealth advisors in targeting and servicing clients.

Exchanges also noted scope for AI to both support revenue momentum. For example, via chatbots, assisting clients in accessing data more effectively. And in driving efficiency in report writing, as well as in costs. So, think about scope to drive efficiencies in areas such as client servicing and data ingestion and organization where large language models (LLMs) are already driving efficiency gains for employees.

Alvaro Serrano: Finally, let's talk about private credit, another big theme. What did you hear, at the conference around the growth of private credit? And what's your outlook from here?

Bruce Hamilton: Sure. So, the players were positive on the potential for growth in private credit from here. In the near-term deployment opportunities probably look stronger in the private credit space relative to private equity, where some differences in buyer-seller expectations is still acting as a bit of a constraint. There are opportunities given bank retrenchments, even if the Basel III endgame is expected to be less negative than initial draft proposals. And the appetite from insurance -- institutional, as well as retail clients for the diversification benefits and attractive yields on offer -- remains pretty significant.

Both private market specialists and traditional asset managers continue to explore ways to extend their capabilities in the space, with some adopting an organic approach and others looking to accelerate scaling via M&A.

We expect that as we look forward, that some recovery in the bank's syndicated lending markets is likely to reduce the record market share enjoyed by private credit in private equity deals last year. However, we think a more vibrant overall deal environment is likely to drive opportunities for both bank syndicated and private credit looking forward.

The democratization theme with wealth clients increasing allocations to private markets remains an additional powerful growth theme as we look forward; both for private credit providers, as well as players active in private equity infrastructure and real estate.

I'm sure there'll be lots more to unpack from the conference in the near future. Let's wrap it up for this episode. Alvaro, thanks a lot for taking the time to talk.

Alvaro Serrano: Great speaking with you, Bruce.

Bruce Hamilton: And thanks for listening. If you enjoy Thoughts on the Market, please leave us a review wherever you listen and share the podcast with a friend or colleague today.

Our Global Head of Fixed Income and Thematic Research outlines the potential impact the upcoming U.S. elections could have on increasing treasury yields, US-China policy and Japan’s current trajectory.

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Welcome to Thoughts on the Market. I'm Michael Zezas, Morgan Stanley's Global Head of Fixed Income and Thematic Research. Along with my colleagues bringing you a variety of perspectives, today I'll be talking about overseas investors' view on the US election.

 It's Wednesday, Mar 20th at 10:30 am in New York.

 I was in Japan last week. And as has been the case with other clients outside the US, the upcoming American elections were a key concern. To that end, we’re sharing the three most frequently asked questions, as well as our answers, about the impact of the U.S. election on markets coming from clients outside the US.

First, clients are curious what the election could mean for what’s recently been a very rosy outlook for Japan. The central bank is taking steps toward normalizing monetary policy which, combined with corporate reforms, is driving renewed investment. And it doesn’t hurt that multinationals are finding it more challenging to do new business in China due to U.S. policy restrictions. In our view, regardless of the election outcome, these positive secular trends will continue. While its true that Republicans are voicing greater interest in tariffs on US friend and foe alike, in our view there are other geographies more likely to bear the impact of stricter trade policy from the US – such as Europe, Mexico, and China; areas where there’s clearer overlap between US trade interests and the geopolitical preferences of the Republican party.

Second, clients wanted to know what the election would mean for US-China policy. The first thing to understand is that both parties are interested in policies that build barriers protecting technologies critical to US economic and national security. For Democrats, this has meant a focus on extending non-tariff barriers such as export and investment restrictions; many of which end up affecting the trade relationship between the US and China, and over time have resulted in US direct investment tilting away from China and toward the rest of the world.  Republicans support these policies too. But key party leaders, including former President and current candidate Trump, also want to use tariffs as a tool to negotiate better trade agreements; and, potentially as a fall back, to harmonize tariff levels between countries. So, the election is unlikely to yield an outcome that eases trade tension between the US and China. But an outcome where Republicans win could create more volatility for global trade flows and corporate confidence, creating more economic uncertainty in the near term. 

Third and finally, clients wanted to know if there were any election outcomes that would reliably change the trajectory of US growth, inflation, and accordingly the trajectory for treasury yields. In particular there was interest in outcomes that could cause yields to move higher. Our take here is that there’s been no solidly reliable outcome that points in that direction -- at least not yet. While it's likely that a potential Trump presidency would favor tax cuts and tariffs, it’s not clear that either of these definitively lead to inflation. Cutting taxes for companies with healthy balance sheets doesn’t necessarily yield more investment. Tariffs increase the cost of the thing being tariffed, but that could lead to prices of other goods in the economy suffering from weaker demand. Relatedly, the idea that a more dovish Fed could enable inflation is not a foregone conclusion because – as we’ve discussed on prior episodes – the President's ability to influence monetary policy is more limited than you might think.

Still, because of the pileup of these factors, it wouldn’t be surprising to see rates rise at some point this year on election risk perceptions. But it's not clear this would be a sustained move, and so it's not causing us yet to recommend clients’ position for it. For clients looking for more reliable market moves from the election, we’re still focused on key sectoral impacts: sectors like industrials and telecom which could benefit from tax cuts in a Republican win scenario; and sectors like clean tech which benefit in a Democratic win scenario, on greater certainty for the spend of energy transition money in the IRA.  

Of course, as markets change and price in different outcomes, interesting macro markets opportunities will emerge -- and we’ll be here to tell you all about it.

Thanks for listening. Subscribe to Thoughts on the Market on Apple Podcasts, or wherever you listen, and leave us a review. We’d love to hear from you.

Our Chief Asia and Emerging Market Equity Strategist reviews an up-and-down first quarter for markets across the region, and gives an update on which sectors investors should be eyeing. 

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Welcome to the Thoughts on the Market. I’m Jonathan Garner, Morgan Stanley’s Chief Asia and Emerging Market Equity Strategist. Along with my colleagues bringing you a variety of perspectives, today I'll be talking about our key investment views in Asia. It's Tuesday, Mar 19th at 9 am in Singapore.

It's been quite a first quarter in Asian equities with a wide degree of dispersion in market returns. At one end of the spectrum Japan’s Nikkei index is up 16 percent. At the other end, despite a recent rally, the Hang Seng index in Hong Kong is down 2 percent for the year. Meanwhile, the AI thematic has helped Taiwan into second place regionally, with a 10 percent gain; but Korea has risen by a lot less.

Our highest conviction views remains that we’re in the midst of multi-year secular bull markets in Japan and India, whilst at the same time China is in a secular bear market. So, let’s lay out the building blocks of those theses.

Firstly, Japan’s Return on Equity Journey. We think that markets – like stocks – reward improvement in profitability or ROE. The drivers of the ROE improvement are numerous but include domestic reflation, a weaker Yen, a productive capex cycle and improved capital management by Japan’s leading firms. And these together have led to improving net income margins in two-thirds of industries versus a decade ago. 

We forecast robust EPS growth of around 9 percent in 2024, with similar growth in 2025. Now that’s assuming our foreign exchange strategists’ USD/JPY forecast of 140 for the fourth quarter of this year is accurate. This week the BOJ – the Bank of Japan – is considering whether to exit its Negative Interest Rate Policy and abolish or flex yield curve control. If it does so, that will be a sign – along with recent strong wage gains – that Japan has definitively exited deflation.

Secondly, India’s Decade. Multipolar world trends are supporting foreign direct investment (FDI) flows and portfolio flows to India, whilst positive demographics from a rapidly growing working age population are also supporting the equity market. India is holding national elections in May, and we will be watching the policy framework thereafter. But our base case is little change; success that India has achieved in macro-stability is underpinning a strong capex and profits outlook.

Finally, China’s Deflationary Challenge. China continues to battle what we’ve termed its 3D challenge of Debt (now standing at 300 per cent of GDP), Demographics and Deflation. And profitability has fallen steadily in recent years – so going in the opposite direction from Japan; approximately halving since the middle of the last decade, whilst earnings have missed for nine straight quarters. We think more forceful countercyclical measures are needed to boost demand in China given incipient balance sheet recession due to headwinds from property and local government austerity.

Finally, to summarize some of our sector and style views. We still like Korea and Taiwan’s semiconductors, into an expected 2024 recovery in traditional product areas such as smart phone, as well as the new theme of AI related demand. We are positive on Financials in India, Indonesia and Singapore; Industrials in India and Mexico; and Consumer Discretionary in India. On the quant and style side, we’re neutral on value versus growth as we expect the path to lower yields to be bumpy – as inflation risk remains. And we have recently recommended investors to reduce momentum exposure for risk management purposes given the strong outperformance year to date.

Thanks for listening. Subscribe to Thoughts on the Market on Apple Podcasts or wherever you listen – and leave us a review. We’d love to hear from you.

Our CIO and Chief Equity Strategist discusses the continued uncertainty in the markets, and how investors are now looking at earnings growth and improving valuations.

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Welcome to Thoughts on the Market. I'm Mike Wilson, Morgan Stanley’s CIO and Chief U.S. Equity Strategist. Along with my colleagues bringing you a variety of perspectives, today I'll be talking about the risk of higher interest rates and equity valuations. 

It's Monday, March 18th at 11:30 am in New York. 

So let’s get after it.

Long term interest rates peaked in October of last year and coincided with the lows in equities. The rally began with the Treasury's guidance for less coupon issuance than expected. This surprise occurred at a time when many bond managers were short duration. When combined with the Fed’s fourth quarter policy shift, there was a major squeeze in bonds. As a result, 30-year Treasury bonds returned 19 per cent over the October-December 2023 period, beating the 14 per cent return in the S&P 500. Nearly all of the equity return over this period was attributable to higher valuations tied to the fall in interest rates.

Fast forward to this year, and the story has been much different. Bond yields have risen considerably as investors took profits on longer term bonds, and the Fed walked back several of the cuts that had been priced in for this year. The flip side is that the growth data has been weaker in aggregate which argues for lower rates. Call it a tug of war between weaker growth and higher inflation than expected.

There is also the question of supply which continues to grow with the expanded budget deficit. From an equity standpoint, the rise in interest rates this year has not had the typically negative effect on valuations.  In other words, equity investors appear to have moved past the Fed, inflation and rates – and are now squarely focused on earnings growth that the consensus expects to considerably improve.  

As noted in prior podcasts, the consensus earnings per share (EPS) growth estimates for this year are high, and above our expectations – in the context of sticky cost structures and falling pricing power as fiscal spend crowds out both labor and capital for the average company. In our view, this crowding out is one reason why fundamentals and performance have remained relatively muted outside of the large cap, quality winners. We have been expecting a broadening out in leadership to other large cap/quality stocks away from tech and communication services; and recently that has started to happen. Strong breadth and improving fundamentals support our relative preference for Industrials within broader cyclicals.

Other areas of relative strength more recently include Energy, Materials and Utilities. Some of this is tied to the excitement over Artificial Intelligence and the impact that will have on power consumption. The end result is lower valuations for the index overall as investors rotate from the expensive winners in technology to laggards that are cheaper and may do better in an environment with higher commodity prices.  

Thanks for listening. Subscribe to Thoughts on the Market on Apple Podcasts or wherever you listen --and leave us a review. We’d love to hear from you. 

Our Head of Corporate Credit Research explains why leveraged loans would benefit if bumpy inflation data leads the Federal Reserve to delay interest rate cuts.

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Welcome to Thoughts on the Market. I'm Andrew Sheets, head of Corporate Credit Research at Morgan Stanley. Along with my colleagues bringing you a variety of perspectives, today I’ll be talking about the ramifications of the fed rate cuts, and what it could mean for credit – and what would benefit if rates stay higher for longer. It's Friday, March 15th at 2pm in London.

The big story in markets this week was inflation. U.S. Consumer Price inflation continues to moderate on a year-over-year basis, but the recent path has been bumpier than expected. 

And as U.S. Economic growth in the first quarter continues to track above initial expectations, there’s growing debate around whether the U.S. economy is still too strong to justify the Federal Reserve lowering rates.

Morgan Stanley’s economic base case is that these inflation readings will remain bumpy – but will trend lower over the course of the year. And if we couple that with our expectations that job growth will moderate, we think this still supports the idea that the Federal Reserve will start to lower interest rates starting in June.

Yet the bumpiness of this recent data does raise questions. What if the Federal Reserve lowers rates later? Or what if they lower rates less than we expect?

For credit, we think the biggest beneficiary of this scenario would be leveraged loans. For background, these represent lending to below-investment grade borrowers, similar to the universe for high yield bonds. But loans are floating rate; their yields to investors rise and fall with central bank policy rates.

Coming into 2024, there were a number of concerns around the levered loan market. Worries around growth had led markets at the start of the year to imply significant rate cuts from the Fed. And that’s a double whammy, so to speak, for loans; as loans are both economically sensitive to that weaker growth scenario and would see their yields to investors decline faster if there are more rate cuts. Meanwhile, an important previous buyer of loans, so-called Collateralized Loan Obligations, or CLOs, had been relatively dormant.

Yet today many of those factors are all looking better. Estimates for US 2024 GDP growth have been creeping up. CLO activity has been restarting. And some of this recent growth and inflation data means that markets are now expecting far fewer rate cuts – which means that the yield on loans would also remain higher for longer. And that’s all happening at a time when the spread on loans is relatively elevated, relative to similar fixed rate high yield bonds.

A question of whether or not U.S. inflation will be sticky remains a key debate. While we think inflation resumes its improvement, we like leveraged loans as a high yielding, floating rate instrument that has a number of key advantages – if rates stay higher, for longer, than we expect.

Thanks for listening. Subscribe to Thoughts on the Market on Apple Podcasts, or wherever you listen, and leave us a review. We’d love to hear from you. 

Morgan Stanley’s chief economists have their quarterly roundtable discussion, focusing on the state of inflation across global regions, the possible effect of the US election on the economy and more.

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Seth Carpenter: Welcome to Thoughts On the Market. I'm Seth Carpenter, Morgan Stanley's Global Chief Economist. On this episode, on this special episode of the podcast, we'll hold our second roundtable discussion covering Morgan Stanley's global economic outlook as we look into the second quarter of 2024.

It's Thursday, March the 14th at 10 am in New York.

Jens Eisenschmidt: And it's 2 pm in London.

Chetan Ahya: And 10pm in Hong Kong.

Seth Carpenter: Excellent. So, things around the world have changed significantly since our roundtable last quarter. US growth is notably stronger with few signs of a substantial slowdown. Inflation is falling, but giving some hints that things could stay -- maybe -- hotter for longer.

In Europe, things are evolving mostly as anticipated, but energy prices are much lower, and some data suggest hope for a recovery. Meanwhile, in China, debt deflation risks are becoming a reality. And the last policy communication shows no sign of reflation. And finally, Japan continues to confirm the shift in equilibrium, and we are expecting the policy rate change imminently.

So, let's dig into these developments. I am joined by the leaders of the economics team in key regions. Ellen Zentner is our Chief US Economist, and she's here with me in New York. Chetan Ahya is our Chief Asia Economist, and Jens Eisenschmidt is our Chief Europe Economist.

Ellen, I'm going to start with you and the US. Have the stronger data fundamentally changed your view on the US economy or the Fed?

Ellen Zentner: So, coming off of 2023, growth was just stronger than expected. And so, carrying that into 2024, we have revised upward our GDP forecast from 1.6 per cent Q4 over Q4 to 1.8 per cent. So already we've got stronger growth this year. We have not changed our inflation forecast though; because this could be another year of stronger data coming from supply side normalization, and in particular the labor market -- where it's come amid higher productivity and decelerating inflation. So, I think we're in store for another year like that. And I would say if I add risks, it would be risk to the upside on growth.

Seth Carpenter: Okay, that makes sense. But if there's risk to the upside on growth -- surely there's some risk that the extra strength in growth, or even some of the slightly stronger inflation that we've seen, that all of that could persist; and the Fed could delay their first cut beyond the June meeting, which is what you've got penciled in for the first cut. So how do you think about the risks to the timing for the Fed?

Ellen Zentner: So, I think you've got a strong backdrop for growth. You've got relatively easy financial conditions. And Fed policymakers have noted that that could pose upside risks to the economy and to inflation. And so, they're very carefully parsing every data point that comes in. Chair Powell said they need a bit more confidence on inflation coming down. And so that means that the year over year rate on core PCE -- their preferred measure of inflation -- needs to continue to take down.

I think that the risk is more how long they stay on hold -- than if the next move is a hike, which investors have been very focused on. Do we get to that point? And so certainly if we don't see the next couple of months and further improvement, then I think it just does lead for a longer hold time for the Fed.

Seth Carpenter: All right. A risk of a longer hold time. Chetan, how do you think about that risk?

Chetan Ahya: That risk is important to consider. We recently published on the idea that Asian central banks will have to wait for the Fed. Even though inflation across Asia is settling back into target ranges, central banks appear to be concerned that real rate differentials versus US are negative and still widening, keeping Asian currencies relatively weak.

This backdrop means that central banks are still concerned about future upside to inflation and that it may not durably stay within the target. Finally, growth momentum in Asia excluding China has been holding up despite the move in higher real rates -- allowing central banks more room to be patient before cutting rates.

Seth Carpenter: I got it. Okay, so Jens, what about for the ECB? Does the same consideration apply if the Fed were to delay its cutting cycle?

Jens Eisenschmidt: I'm glad you're asking that question, Seth, because that's sort of the single most asked question by our clients. And the answer is, well, yes and no. In our baseline, first of all, to stress this, the ECB cuts before the Fed, if only by a week. So, we think the ECB will go on June 6th to be precise. And what we have heard, last Thursday from the ECB meeting exactly confirms that point. The ECB is set to go in June, barring a major catastrophe on growth or disappointments on inflation.

I think what is key if that effect cuts less than what Ellen expects currently; the ECB may also cut less later in the year than we expect.

So just to be precise, we think about a hundred basis points. And of course, that may be subject to downward revision if the Fed decides to go later. So, it's not an idle or phenomenon. It's rather a rather a matter of degree.

Seth Carpenter: Got it. Okay, so that's really helpful to put the, the Fed in the context of global central banks. But, Ellen, let me come back to you. If I'm going to look from here through the end of the year, I trip over the election. So, how are you thinking about what the US election means for the Fed and for the economy as a whole?

Ellen Zentner: Sure. So, I think the important thing to remember is that the Fed has a domestic directive. And so, if there is something impacting the outlook -- regardless, election, geopolitics, anything -- then it comes under their purview to support the economy. And so, you know, best example I can give maybe is the Bush Gore election, when we didn't know who was going to be president for more than two months.

And it had to go to the Supreme Court, and at that time, the uncertainty among households, among businesses on who will be the next president really created this air pocket in the economy. So that's sort of the best example I can give where an election was a bit disruptive, although the economy bounced back on the other side of that.

Seth Carpenter: But can I push you there? So, it sounds like what you're saying is it's not the election per se that the Fed cares about. the Fed's not entering into the political fray. It's more what the ramification of the election is for the economy. Is that a fair statement?

Ellen Zentner: Absolutely. Absolutely fair.

Chetan Ahya: One issue the election does force us to confront is the prospect of geopolitical tension, and in particular the fact that President Trump has discussed further tariffs. For China, it is worth considering the implications, given the current weakness.

Seth Carpenter:  That’s a really good point, Chetan, but before we even get there, maybe it's worth having you just give us a view on where things stand now in China. Is there hope of reflationary fiscal policy?

Chetan Ahya: Unfortunately, doesn’t seem like a lot right now. We have been highlighting that China needs to stimulate domestic demand with expansionary fiscal policy targeted towards boosting consumption. And it is in this context that we were closely watching policy announcement during the National People's Congress a couple of weeks ago.

Unfortunately, the announcement in NPC suggests that there are very limited reflationary policies being implemented right now. More importantly, the broad policy focus remains firmly on supporting investment and the supply side; and not enough on the consumption side. So, it does seem that we are far away from getting that required reflationary and rebalancing policies we think is needed to lift China back to moderate 2 to 3 per cent inflation trajectory.

Jens Eisenschmidt: I would jump in here and say that part of the ongoing weakness we see in Europe and in particularly Germany is tied to the slowdown in global trade and the weakness Chetan is talking about for China.

Seth Carpenter: Okay, Jens, if you're going to jump in, that's great. Could you just let us know where do you think things go in Europe then for the rest of this year and into next year?

Jens Eisenschmidt: So, we see indeed a small rebound. So, things are not looking great on numbers. But, you know, where we are coming from is close to recessionary territory; so everything that's up looks will look better.

So, we have 0. 5 on year and year growth rates; 1 percent next year; 0.5 for this year. In terms of quarterly profiles -- so, essentially we are hitting at some point later this year a velocity between 0.2 to 0.3, which is close to potential growth for the Euro area, which we estimate at 1.1.

Seth Carpenter: Got it. Okay, so outside of the U. S. then. China's week. Europe's lackluster Chetan, I gotta come back to you. Give us some good news. Talk to us about the outlook for Japan. We were early adopters of the Japan reflation story. What does it look like now?

Chetan Ahya: Well, the outlook in Japan is the exact opposite of China. We are constructive on Japan's macro-outlook, and we see Japan transitioning to a moderate but sustainable inflation and higher normal GDP growth environment.

Japan has already experienced one round of inflation and one round of wage growth. But to get to sustained inflation, we need to see wage growth to stay strong and more evidence of wage passing through to inflation. In this context, we are closely watching the next round of wage negotiations between the trade unions and the corporate sector.

We expect the outcome of first round of negotiations to be announced on March 15th, and we think that this will reflect a strong acceleration in wage growth in Japan. And that, we think, will allow Japan's core inflation to be sustained at 1.5 to 1.75 per cent going forward.

This rise in inflation will mean higher normal GDP growth and lower real interest rates, reviving the animal spirits and revitalize the corporate sector. We do see BOJ moving from negative rates to positive rates in March 19th policy meeting and later follow up with another 15 bps (basis points) hike in July policy meeting. But we think overall policy environment will remain accommodative supporting Japan's reflation story.

Seth Carpenter: All right, that does make me feel a little bit better about the global economy outside of the US. But I'm seeing the indication from the producers, we've got to wrap up. So, I'm going to go to each of you, rapid fire questions. Give me two quick risks to your forecast. Ellen for the US…

Ellen Zentner: All right. If we're wrong and the economy keeps growing faster, I think I would peg it on something like fiscal impulse, which has been difficult to get a handle on. Maybe throw in easier than expected financial conditions there that fuel the economy, fuel inflation. I think if we slow a lot more then it's likely because of some stresses in the banking sector.

Let's think about CRE; we say it's contained, maybe it's not contained. And then also if companies decide that they do need to reduce headcounts because economic growth is weaker, and so we lose that narrative of employee retention.

Seth Carpenter: Got it. Okay, Jens, you're up. Two risks.

Jens Eisenschmidt: The key upside risk is clearly consumption. We have a muted part for consumption; but consumption isn't really back to where it has been pre-COVID or just barely so. So, there's certainly more way up and we could be simply wrong because our outlook is too muted.

Downside, think of intensification of supply chain disruptions. Think about Red Sea. The news flow from there is not really encouraging. We have modeled this. We think so far so good. But if persists for longer or intensified, it could well be a downside risk because either inflation goes up and/or growth actually slows down.

Seth Carpenter: Perfect. All right, Chetan, let me end with you and specifically with China. If we are going to be wrong on China, what would that look like?

Chetan Ahya: We think there are two upside risks to our cautious view on China's macro-outlook. Number one, if global trade booms, that helps China to use its excess capacity and enables it to de-lever and lift its inflation. And number two, if we see a shift in the reflationary and rebalancing policies, such that there is aggressive increase in social expenditure on things like healthcare, education, and public housing. This would help households to unlock precautionary saving, boost consumption demand, and get China out of current deflationary environment.

Seth Carpenter: Got it. Ellen, Chetan, Jens, thank you each for joining us today. And to the listener, thank you for listening. If you enjoy the show, please leave us a review wherever you listen to the show and share thoughts on the market with a friend or a colleague today.

Our Freight Transportation & Airlines Analyst unboxes the latest trends around parcel transit times and systems in the U.S. and their impact on the future of e-commerce supply chains.

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Welcome to Thoughts on the Market. I’m Ravi Shanker, Morgan Stanley’s Freight Transportation analyst. Along with my colleagues bringing you a variety of perspectives, today I’ll discuss what’s happening in the eCommerce parcel delivery space. 

It’s Wednesday, March 13, at 10 AM in New York.

Most people love the convenience of online shopping. You click, you pay. Next thing you know, your doorbell rings. Turns out, we’ve become so used to this kind of instant gratification that many customers now abandon an online cart – if the delivery process takes too long. 

eCommerce parcel delivery companies are taking notice of consumers' growing impatience and are putting a lot of effort into making parcel transit shorter, faster and tighter. A couple of factors drive this trend. First, we have the retailers’ desire to store inventory at more locations; closer to the end-consumer versus the centralized, nationalized distribution centers of the old model. Second, connecting those inventory locations quickly, easily and cheaply by truck rather than long-haul transportation modes like air or rail. As a result, companies can offer consumers one-day or same-day delivery in a highly cost-effective manner.

This means a shift from long-distance transit via air towards ground transportation – be it express or non-express ground. Such a transition could be a drag on margins at major parcel companies. These players are fully aware of the risk; and they’re making their own structural changes and downsizing their air business. However, even as big parcel companies are trying to keep up with the times and evolving consumer pressures, the transition from long-haul air to short-haul truck makes parcel delivery a less complex operation to run – and that may attract more competitors over time.

Another factor at play is the continued popularity of curbside pickup, also known as Click And Collect or even delivery from the store – these are options that became ubiquitous during the pandemic. Even post-pandemic, major retailers have been attempting to move inventory closer to customers and lowering the cost to ship to homes by treating their physical brick and mortar stores as last-mile fulfillment options.

As inventories have been getting leaner over the last few quarters, Click & Collect, Ship from Store, and other similar services have seen their popularity rise. Indeed, several retailers have expanded their physical footprint to accommodate these options. Or they have leveraged their current stores to offer more of these capabilities.

We think this could have a significant impact on eCommerce supply chains for incumbent parcel companies. In the current long-distance eCommerce supply chain model, the long-haul middle-mile portion accounts for the bulk of the profitability for a parcel carrier. By substituting that middle-mile parcel move with regular inventory channel fill, parcel companies could be effectively excluded from the process, in our view. Given their entrenched long-haul networks, it could be difficult for the parcel companies to be consistently profitable doing last-mile deliveries alone. Instead, this last mile delivery market could go to delivery companies, regional delivery providers, or even in-house delivery solutions.

This is a rapidly evolving landscape, and we’ll continue to keep you updated on major new developments.

Thanks for listening. If you enjoy the show, please leave us a review wherever you listen and share Thoughts on the Market with a friend or colleague today.

Our roundtable of experts recaps highlights from the 2024 Morgan Stanley Technology, Media & Telecom Conference, including AI innovation, trends in live entertainment and the need for operational efficiency.

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Michelle Weaver: Welcome to Thoughts on the Market. I'm Michelle Weaver, Morgan Stanley Research's US thematic strategist. I'm joined by Ben Swinburne, who leads coverage of the media and entertainment, advertising, and cable and satellite industries, and Kieran Kenny, who covers internet. Along with my colleagues, bringing you a variety of perspectives, today we'll discuss some key themes from Morgan Stanley's recently concluded Technology, Media, and Telecom Conference in San Francisco.

It's Tuesday, March 12th, at 10am in New York.

Ben, Kieran, we have to lead off on AI. It was a tech conference. As we've written about in the past, most companies want to either be AI enablers or AI adopters. And we believe that 2024 will be the year of the adopters. We scraped transcripts of the presentations at the conference and found that AI was mentioned 155 times.

There was a particular focus on Generative AI or Gen AI. And one of the means of adopting AI that was repeatedly mentioned was using chatbots for customer service. And chatbots can easily handle commonly asked questions without needing a customer service person to speak live. Kieran, can we start by talking about some of the most interesting ways companies and internet are adopting AI?

Kieran Kenny: So, there's a wide range of use cases so far. What we're seeing more recently is growing adoption for, to your point, AI assistance for customer support types of use cases. We're also seeing increased adoption from advertisers; for generative AI, for image and text creation for advertisements. And in the video game space, we're also seeing demand for generative AI based content creation tools -- to give you a sense of some of the use cases. The most common use case, though, is adoption of generative AI coding assistant tools, which we're seeing that pretty pervasively across the internet space.

Michelle Weaver: Great. And I know you've done a bunch of work around AI. What are some of the areas you think we'll see the quickest AI driven efficiency gains?

Kieran Kenny: I think most likely you'll see the efficiency gains come first in the code assistant use cases. That when we go through and scan company disclosures for efficiency gains related to generative AI and look through some of the empirical studies -- code assistant tools tend to show the most consistent productivity gains in the 20 to 50 per cent range. And because R&D expenses are such a large percent of revenue for internet. It's on average 25 percent. There's a really strong incentive for companies to adopt those tools to drive productivity amongst their software engineers. So, we think that's the area you're likely going to see the benefits first.

Michelle Weaver: Great. Thanks, Kieran. Ben, what do you think some of the most interesting ways companies in your coverage are leveraging AI?

Benjamin Swinburne: I would echo some of the points that Kieran made, particularly around content creation and dealing with customers.

You know, in the content creation area, we're seeing AI leveraged in creative services. So, creating content for marketing purposes is an area we're seeing the ad agencies look for opportunities. In the audio industry, we've seen AI used to more efficiently and more effectively translate podcasts and audio books to different languages, which can be then distributed around the world.

One leading streaming audio company has an AI DJ that they used to drive recommendations for listeners. And on the customer front, we're seeing a lot of companies in the cable industry, basically distribute AI tools into their call centers and into their network diagnostics -- so they can predict where network failures may happen before they happen. Or help call center agents better help customers with issues more effectively using, you know, AI and big data.

Michelle Weaver: Great. Super interesting. I'm sure that's just the tip of the iceberg, too, in terms of what we'll see with AI adoption. Ben, I also noticed that there was a lot of discussion from media companies around live events and whether that's high demand for concert tickets, streaming services offering live events, or demand for theme parks. Can you tell us a little bit about consumer experiences in the media space?

Benjamin Swinburne: Yeah, absolutely. I mean, we believe that there are secular drivers of consumer spending towards experiences, for a variety of reasons. And we're seeing that happen; show up in the results and outlook for a number of companies in our coverage. We had some really positive commentary from a number of companies in the theme park space around current trends, which are pacing better than expected from the conference. We've seen leading streaming companies increase their investment in live content, particularly live sports, which is uniquely powerful and driving customer acquisition and attracting advertising dollars.

And probably no place is consumer spending continuing to grow and grow off record levels as quickly as they are in concerts. Where we really see -- while it's a minority of the population that drives the concert industry. Our survey work and what we heard at the conference last week is that consumers value that live communal experience more than ever. And we're seeing that show up in financial results.

Michelle Weaver: The last theme I want to talk about is operational efficiency and profitable growth. Our research has shown that companies that demonstrate high operational efficiency have outperformed on a relative basis over the past two years; and operational efficiency and cost cutting came up repeatedly and fireside conversations with the phrase ‘do more with less’ being used quite a few times. And it was clear that at the conference companies are very aware of the importance of being the best operators, given the expectations for more tepid economic growth in 2024.

Kieran, what did you hear about profitable growth or the importance of efficiency within internet?

Kieran Kenny: For many of our companies, including one of the largest social media slash advertising companies in the space, 2023 was very much a year of efficiency. But that focus is persisting through 2024 and is likely to continue going forward. So, I think a lot of companies are pointing to that one social media company as the North Star of their ability to operate with a leaner cost structure, to be more disciplined in their investments. And ultimately do that in a way where hopefully it can reaccelerate revenue growth and not be detrimental to revenue growth. So, efficiency and AI, well they go hand in hand. Both of those are two of the biggest focus areas for internet companies broadly.

Michelle Weaver: Ben, same question for you. What did you hear about the importance of efficiency in the media world?

Benjamin Swinburne: Yeah, we’re seeing focus on efficiency, both in sort of an offensive and a defensive posture. I mean, there are companies who are seeing accelerating revenue growth, demonstrating real pricing power in their business who are also reducing headcount and focusing on operating leverage. So, there's no question that efficiency, particularly in the technology industries, has probably never been a bigger focus than it is right now.

We're also seeing companies that are heavily driven by -- you know, service companies driven by labor costs looking at offshoring. That's a big theme in our space. Probably more on the defensive side, companies facing real secular challenges on the revenue front are looking for efficiencies, particularly around content spending. That typically shows up in a shift to more unscripted content, which is less expensive or producing more content offshore with lower cost of production.

Michelle Weaver: Ben, Kieran, thank you for taking the time to talk. And thanks for listening. If you enjoy the show, please leave us a review wherever you listen to podcasts and share thoughts on the market with a friend or colleague today.

Matt Cost of the firm’s U.S. Internet team shares his key takeaways from the 2024 Morgan Stanley Technology, Media & Telecom Conference, including the online ad market’s rebound and the future of property tech.  

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Welcome to Thoughts on the Market. I’m Matt Cost, from the Morgan Stanley US Internet team.

Along with my colleagues bringing you a variety of perspectives, today I’ll talk about some key trends that emerged in conversations with internet companies at Morgan Stanley’s 2024 Technology Media and Telecom Conference in San Francisco.

It’s Monday, Mar 11th at 8am in New York.

So, we had a busy four days at the conference last week. It was our biggest gathering yet for what’s really the marquee TMT event of the year. And we brought together companies and investors from all over the world for keynotes and meetings and a lot of moments in between to connect with industry insiders about the latest trends in their space.

I want to start with talking about AI. It was a big topic for almost every company we saw. But I’d say that for me, the video game companies stood out the most. Some C-suite executives that we spoke to talked about how their companies could become up to 30 per cent more efficient, as they leverage new AI tools to build and operate their games. But they also talked about the need to reinvest those efficiencies to make sure their products are the biggest, the best, and the most competitive they can be.

This is against a video game market backdrop that remains more mixed though we did hear about some green shoots in mobile games; since there are a number of newly launched games there that are getting good traction – which is actually something we haven’t seen in a few years at this point. On the M&A front, after a wave of game industry consolidation we’ve seen over the past few years, we did hear companies acknowledge that scale matters more than ever – if you want to compete in this space.

When it comes to the advertising companies, it’s clear that we’ve seen a marked improvement in the health of the online ad markets since October and November of [20]23, but there are still pockets of strength and weakness, particularly for smaller players where competition is the most intense.

We’re also seeing a major focus on privacy, which has been a long-term trend in the space. But in the near term, the industry does expect browser cookies to go away later this year. And investors are trying to decide who that might hurt – and in some cases who it might potentially help. And when it comes to AI in the ad space, we’ve heard a mostly positive story about the potential for more personalized and better targeted ads in the future.

Finally on the property tech side. Despite the fact that the residential real estate market is still pretty subdued in the US, many players in the space feel that two years into higher mortgage rates, they have leaner business models that set them up well to benefit when the market does come back. We also heard greater confidence from companies that they don’t expect to see major disruption from the ongoing legal disputes around real estate broker commissions. But that does remain one of the uncertainties in the space that investors are the most focused on into 2024 and beyond.

For more on the Morgan Stanley TMT conference, check out the episode tomorrow, where my colleagues will dive deeper into thematic takeaways from this year's event.

Thanks for listening. If you enjoy the show, please leave us a review wherever you listen. And share Thoughts on the Market with a friend or colleague today.

Our Head of Corporate Credit Research cites near-term and long-term factors indicating that investors should expect a major boost in merger and acquisition activity.

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Welcome to Thoughts on the Market. I'm Andrew Sheets, head of Corporate Credit Research at Morgan Stanley. Along with my colleagues bringing you a variety of perspectives, I'll be talking about trends across the global investment landscape, and how we put those ideas together.

It's Friday, March 8th at 2:00pm in London.

Usually, company activity follows the broader trends in markets. But last year, it diverged. 2023 was generally a strong year for economic growth and the stock market. But Mergers and Acquisition activity was anemic. By our count, global M&A activity in 2023, adjusted for the size of the economy, was the lowest in 30 years. 

We think that’s going to change. There are both near-term and longer-term reasons why we think the buying and selling of companies can pick up. We think we’re going to see the return of M&A.

Near term, we think corporate confidence, which is essential to any large transaction, is improving. While stocks and the economy were ultimately strong last year, a lot of 2023 was still dominated by fears of rising yields, elevated inflation and persistent expectations of recession. Recall that as recently as October of 2023, the median stock in the S&P 500 was actually down about 5 per cent for the year.

All of those factors that were hitting corporate confidence, today are looking better. And with Morgan Stanley’s expectation for 2024, and economic soft landing, we think that improvement will continue. But don’t just take our word for it. The companies that traffic directly in M&A were notably more upbeat about their pipelines when they reported earnings in January.

Incidentally, this is also the message that we get from Morgan Stanley’s industry experts. We recently polled Morgan Stanley Equity Analysts across 150 industry groups around the world. Half of them saw M&A activity increasing in their industry over the next 12 months. Only 6 per cent expected it to decline.

But there’s also a longer run story here.

We think we can argue that depressed corporate activity has actually been a multi-year story. If we think about what factors historically explained M&A activity, such as stock market performance, overall valuations, volatility, Central Bank policy, and so on – the activity that we’ve seen over the last three years has undershot what these variables would usually expect by somewhere between $4-11 trillion. We think that speaks to a multi-year hit to corporate confidence and increased uncertainty from COVID and its aftermath; as that confidence returns, some of this gap might be made up.

And there are other longer-term drivers. We believe Private Equity firms have been sitting on their holdings for an unusually long period of time, putting more pressure on them to do deals and return money to investors. Europe is just starting to emerge from an even longer-drought of activity, while reforms in Japan are encouraging more corporate action. We are positive on both European and Japanese equity markets. 

And other multi-year secular trends – from rising demand in AI capabilities, to clean energy transition, to innovation in life sciences – should also structurally support more M&A over the next cycle.

Mergers and Acquisition activity has been unusually low. We think that’s changing, and investors should expect much more of this activity going forward.

Thanks for listening. Subscribe to Thoughts on the Market on Apple Podcasts, or wherever you listen, and leave us a review. We’d love to hear from you.

Morgan Stanley’s Europe Telecom Analyst outlines three factors pointing to a boom, the obstacles to overcome and the associated industries most likely to benefit.

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Welcome to Thoughts on the Market. I'm Emmet Kelly, head of Morgan Stanley's European Telecom team. Today, I'll be talking about the rise of data centers in Europe.

The subject of data centers has, until now, largely been confined to the U.S. However, we believe that this is all about to change; and we also think the market significantly underestimates the size and scope of this potential growth in Europe.

Why do we believe that the European data center market is set for such strong growth? Well, we've identified three reasons.

The first reason is cloud computing. The primary driver of data center demand today is cloud and digitalization.

Cloud represents the lion's share of data center growth in Europe on our numbers. Roughly 60 percent of growth by 2035. The second driver is AI. What's interesting is training AI models needs to be done within a single data center, and that's driving demand for large data center campuses across the globe.

The third driver is data sovereignty. Data sovereignty is becoming increasingly important to both companies and also to consumers. Essentially, consumers want their data to be stored at home, and they want this to be subject to local law. A common parallel I've received is: would you want your bank account to be stored in a different country? The answer is probably no. And therefore, we believe that data will be increasingly near-shored across Europe

So what's limiting European data center growth today? There are a number of hurdles in place and these bottlenecks include energy, capital, planning permission, and also regulation

So how do we get around that? Well, having chatted with my colleagues in the utilities and renewables teams, it's been quite clear that Europe needs to invest a lot of money in renewable energy, up to 35 billion euros over the next decade in Europe. This will bring a lot of onshore wind, offshore wind, solar and hydro energy to the market.

In terms of the big data center markets in Europe, we've identified five big data center markets, commonly referred to as FLAP-D.

Now this acronym does not roll off the tongue, but it does stand for Frankfurt, London, Amsterdam, Paris, and Dublin. Today, there are constraints in three of those markets, in Ireland, in Frankfurt and also in Amsterdam. We therefore believe that London and Paris should see outsized growth in data centers over the next decade or so.

We also believe we'll see the emergence of new secondary data center markets.

So, who stands to benefit from the explosive growth of European data centers? Among the key beneficiaries, we would highlight the picks and shovels. I'm talking about electric engineering, construction. I'm talking capital goods. We've also got the hyperscalers, the large providers of cloud computing and storage services. And then there is the co-locators as well. Beyond this, it's also worth looking at private capital and private equity companies as being positively exposed too.

Thanks for listening. If you do enjoy the show, please leave us a review on Apple Podcasts and share thoughts on the market with a friend or colleague today.

Our Global Head of Fixed Income shares some startling data on decarbonization, the widespread use of AI and longevity.  

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Welcome to Thoughts on the Market. I'm Michael Zezas, Morgan Stanley's Global Head of Fixed Income and Thematic Research. Along with my colleagues bringing you a variety of perspectives, today I'll be talking about key secular themes impacting markets.

It's Wednesday, Mar 6th at 10:30 am in New York.

We kicked off 2024 by highlighting the three secular themes we think will make the difference between being ahead of or behind the curve in markets – longevity, AI tech diffusion, and decarbonization. 

How’s it going so far? We’ve got some initial insights and opportunities at the sector level worth sharing, and here they are through the lens of three big numbers.

The first number is €5 trillion – that’s how much our global economics and European utilities teams estimate will be spent in Europe by 2030 on efforts to decarbonize the energy system. These attempts will boost both growth and inflation, though by how much remains unclear. A more concrete investment takeaway is to focus on the sectors that will be on the receiving end of decarbonization spending: utilities and grid operators.

The second set of numbers are US$140 billion and US$77 billion – these are our colleagues' total addressable market projections for smart-chemo, over the next 15 years, and obesity treatments, by 2030. In terms of our longevity theme, we see companies increasingly investing in and achieving breakthroughs that can extend life. While the theme will have myriad macro impacts that we’re still exploring, the tangible takeaway here is that there are clear beneficiaries in pharma to pursue.

The last number we’re focusing on is US$500 billion. That’s the opportunity associated with a fivefold increase in the size of the European data center market out to 2035. That should be driven by the need to ramp up to deal with key tech trends, like Generative AI.

So, while those numbers drive some pretty clear equity sector takeaways, the macro market implications are somewhat more complicated. For example, on longevity, a common client question is whether health breakthroughs will have a beneficial impact for bond investors by shrinking fiscal deficits. 

Among US investors, for example, one theory is that breakthroughs in preventative care will reduce Medicare and Medicaid spending. But even if that proved true, we still have to consider potential offsetting effects, such as whether new healthcare costs will arise. After all, if people are living longer, more active lives, they might need more of other types of healthcare, like orthopedic treatments. 

Simply put, the macro market impacts are complicated, but critical to understand. We remain on the case. In the meantime, there’s clearer opportunities from our big themes in utilities, pharma, and other key sectors.

Thanks for listening. Subscribe to Thoughts on the Market on Apple Podcasts, or wherever you listen, and leave us a review. We’d love to hear from you.