Morgan Stanley Chief Investment Officer Bearish for 2019

Mark Wilson

In spite of all the ups and downs that the market has seen since its low on December 26, we’re still sitting up over 20% since then. The bears haven’t gone anywhere though.

With the possible exception of the 20% pullback that we saw in the latter part of 2019, this is the most concerned that the stock market has been about the near future in all of its current 10 year run upward.

It could even be argued that the level of concern today is even higher than it was last year. We did have concerns about the trade war with China, but that has really been ramped up lately and there are significant doubts that this deal will get done anytime soon. Every week and every month that goes by that we don’t get a deal, this not only increases the risk of the failure of negotiations, it also makes it more likely that the war will become escalated further.

There are a lot of cards yet to be played here, and even though we may doubt whether both sides will ever wish to go all in here, leading to a trade embargo on both sides, things certainly could get worse from here.

Given President Trump’s seeming love of tariffs, some of which may be just a negotiating ploy, the most likely scenario that will further harm both the economies of both countries and the negotiations is further tariff escalations. Trump has already showed his next card and it’s a pretty big one, extending the scope of the tariffs in a big way. The rate could also be subject to becoming raised as well.

The economy actually ran too hot in 2019 and it was its cooling down that caused the Fed to stand aside for a while, but in their opinion at least, we experienced too much growth last year. GDP growth was in fact never higher during the last 10 years that the market has been driven by the bulls.

You don’t hear any of that talk anymore, as no one thinks we have excessive growth now, and many think it’s fallen off too much. The Fed, the only opinion that counts, seems to think it’s just about right, but at least close enough to being too slow for them to be getting ready to use a cut to stimulate things.

Aside from these two big issues, there is another one that is perhaps even bigger, and that’s how much people have backed off on their investments, where we started seeing more money going out of the market than coming in. Stock prices can still go up when this happens, and they have this year, but a gain in this environment is certainly more precarious than one that is more backed by grass roots investors.

There are also the fears that lower yields on treasuries may be portending an economic slowdown or even a recession, even though this just is reflective of bets that are being made in the bond market that may or may not be consistent with economic data and projections. Of the two indicators, the economic forecasts always trump ones from the bond market, so that should not be a concern to investors really, even though some scare easily enough that it is seen to be.

The Opinion of the Market Is the Only One That Counts

If people sell off because they are afraid of something, it doesn’t matter whether or not these fears are reasonable or irrational, because this serves as a stimulus that does invoke a response that shows up in charts just as validly as any other impetus to trading. We can have periods of mania or panic and we might tell ourselves that a certain move doesn’t make sense, but it does at the most fundamental level, which is people voting with their money.

This point does tend to become somewhat lost on a lot of analysts and commentators, and we might even want to say that the rally of 2019 might not make all that much sense really from a fundamental perspective. Whatever influences the supply and demand for stocks does have its say, and while these fundamental concerns do play a role, this is manifest only to the extent that the market cares about them and the weight they put on them.

It doesn’t take that much insight to figure out that, these days at least, interest rates are what the market cares about the most these days, and this has gone so far that we are now taking what would otherwise be awful news such as the prospect of those hideous Mexican tariffs and turning this on its ear, getting excited that this might produce a rate cut and then driving stock prices quite a bit higher.

The recent events should settle the matter with those who doubted how much we care about interest rates these days, and especially among those who think fundamentals themselves drive markets, when we’re prepared to trade a situation that has terrible economic consequences for mere hope of an interest rate cut.

It’s not even so much that we love rate cuts as it is that we’re prepared to look the other way entirely when it comes to the damage to the U.S. economy that a 25% tariff on Mexican imports would bring on.

When the Mexican tariffs were on, the market went up. When they got taken away, the market went up some more. Some are scratching their heads over this, but it actually does make sense, as the hope for the rate cuts may have been reduced but remain, and it’s obviously better that we don’t see these new tariffs.

The assurance that the Fed has our backs with all of this was the real driver of last week’s rally, not so much that they will do it in June or very soon. We’re not in the red zone or even in the yellow right now, but if something causes us to go there, the Fed has told us they are ready to help.

Plenty of Things May Bring Us Down, but a Rate Cut is Not One of Them

There are always those who are more concerned than the rest of us, and Mark Wilson, chief investment officer at Morgan Stanley, is known as one of the biggest bears in the forest. It does seem that the bears focus more on the negative, just like the bulls are prone to focus on the positive too much, and the real truth usually lies somewhere in the middle.

There’s certainly plenty of things to be worried about these days, and Wilson is particularly concerned about fundamental data “deteriorating.” He’s not even that worried about the China/U.S. trade battle, although he does tell us that this will make the situation worse.

There’s no question about how the economy has backed off from where we were last year, but if we just focus on that, we will miss an important element of the equation. We need to remember that growth was excessive last year and we really needed to see the economy cool down, but if all you look at is the economy, you will miss this.

The rate hikes last year achieved their desired result, as we were on a torrid pace for economic growth during the first half of last year, and the Fed intentionally took action to lower the very things that Wilson is citing as reasons why we are in so much trouble.

We really do need a view from above when we are looking to calculate how trends in economic growth will affect stock prices, and a big part of this requires us to get into the mind of the market and view whatever data that we are focused on from that perspective.

Perhaps as evidence of how much a bear Wilson really is, he views a possible interest rate cut as bearish and something that he believes will press the market downward. He thinks that this is “negative for stocks,” and however he came to this view, perhaps looking at situations where they have been applied when the economy is truly beat up such as it was in 2008, this does not correspond with our present reality at all.

Whatever negative economic trends that we will encounter going forward, even if things do continue to go downward as Wilson is predicting, will be met with a response that the Fed considers to be appropriate, and a rate cut will not only improve the mood of investors, which is plenty enough to cause a rally, it will also prop up the economy.

Of the two, the market response is the more important one by far, and as long as the economy is growing and investors are happy, this equals higher stock prices every time. It doesn’t even matter if it’s by 2% or 3% or 4%, and 2% is a perfectly fine number as we have seen throughout this 10-year rally, and we’ve even prospered with growth lower than this.

If we get to 3 like we were last year, or the 4 that we were earlier in the year, the economy will be provided a spanking and this will not only subdue it but subdue the mood of the market. We should actually be happy that growth is coming in so moderately these days and we’re seeing a backing off of the things that worry Wilson, because this means no more spankings for a while, and we saw what the ones last year did to us.

A bear market may come anyway, but it won’t be from a rate cut, it will be in spite of it. The only real knock against interest rate cuts is that they may not be sufficient to bring us out of truly nasty situations, or rather they may take a few years to do so, but they never hurt, nor could they really.

The Fed meets again on June 18-19, and whether or not they share Wilson’s concerns or anything close will be made known soon enough. Given that things haven’t really gone downhill much at all since the last meeting, they might just leave things unchanged right now even though they seem to be at least leaning toward a rate cut soon.

If they don’t cut rates, you can bet that we’ll see a selloff that day, perhaps even a big one, but in the end, it will take more than this or more than just what is happening now to take the wind out of the market’s sails in the way that Wilson is betting on.