Economic News

Morgan Stanley Warns Larger Stock Slide Could Be Coming

Thanks in large part to inflation fears, the U.S. markets saw some significant selloffs earlier this month. Although things on Wall Street have mostly returned to normal in the days since, some worry that those slides are just a prelude to a bigger crash coming. In fact, as CNBC reports, Morgan Stanley strategist Andrew Sheets described the recent corrections as an, “Appetizer, not the main course.”

In a note released on Monday, Sheets went on to say, “Our cycle models suggest that [developed markets] remain in the late stages of a late-cycle environment. Rising equities, rising inflation, tightening policy, higher commodity prices and higher volatility are (in our view) a pretty normal pattern if that view is correct.” As mentioned the latest correction came as the 10-year U.S. note yield reached a four year high. Additionally the Federal Reserve is widely expected to continue raising interest rates in the coming months. Still, Sheets notes that these impending issues have been offset by strong earnings reports pouring in from various companies. However, as Sheets explains, problems could present after Q1. “Past March, markets will need to digest rising … core inflation and declining [purchase manager indexes], economic surprises and (quite possibly) earnings revisions,” he wrote.

At the same time, there is also rising concern surrounding the U.S. bond market. Money writes that the average long-term government bond has fallen 6% so far this year while corporate bond funds have dipped 2% (5% since December). This is notable for a few reasons, the first being that bonds don’t typically rebound as quickly as stocks can. More importantly, bonds have traditionally been seen as safer bets when compared to stocks, leading investors to diversify their portfolios with them. Therefore a down bond market should scare investors as much as a stock crash.

So what’s behind the bond market slump? Jim Paulsen of the Leuthold Group explains, “Throughout 2017, positive economic reports boosted the stock market without aggravating inflation fears or yield pressures. Recently, however, good economic reports are starting to worsen inflation indicators, force bond yields higher and pressure the stock market.” The reason inflation is such a threat to bonds is that it can easily eat away at the already modest gains most bonds offer. Given the aforementioned inflation indicators, Paulsen concludes, “Investors should be prepared for an arduous correction in both stocks and bonds.”

Despite the apparent rebound the stock market at large has seen so far this week, it might not be the time to celebrate just yet. If some spectators are to be believed, there could be even bumpier days ahead as inflation concerns and other factors threaten both the stock and bonds markets. Put simply, strap yourself in.

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