Morgan Stanley strategists, in their year ago outlook, expressed concerns about a late-cycle economic backdrop and elevated valuations
While the COVID-19 pandemic led to social and economic uncertainties all around the world, a senior Morgan Stanley strategist said that the upcoming year could bring a change in the narrative. Andrew Sheets, Chief Cross-Asset Strategist for Morgan Stanley Research, said that the upcoming year could bring a return to normal from an investment perspective, after a year of chaos. Even as challenges remain, the global recovery is sustainable, synchronous and supported by policy, following much of the ‘normal’ post-recession playbook, Sheets said in a Global Investment Outlook 2021 report.
The expected normal outlook rests on sustaining the V-shaped recovery which began in May this year, leading to a 6.4 per cent global GDP growth in 2021 and price appreciation for a wide range of asset classes, he said. Morgan Stanley expects 25-30 per cent earnings growth across major equities markets. Sheets said that in 2010, investors questioned the market rebound’s sustainability, but that period marked the start of a long bull market. “The lesson from 2010, which we think also applies to 2021, is that the cycle usually wins out,” he added. The report has chalked out a few key takeaways from the 2021 global investment outlook.
1. Global earnings set to surge
Morgan Stanley strategists, in their year ago outlook, expressed concerns about a late-cycle economic backdrop and elevated valuations. “We’ve now transitioned to an early-cycle environment, which implies strong profit growth that we believe is not yet priced into markets, despite the market’s recent rally,” Sheets said. The strategy team is forecasting 25% to 30% earnings per share growth across regions in 2021, though they see the greatest potential for double-digit returns in developed markets. Mike Wilson, Chief US Equity Strategist forecasts that the S&P 500 could reach 3900 by the end of 2021. Wilson believes that with additional fiscal stimulus and business reopenings, earnings growth could be explosive and surprise to the upside.
2. Valuations are reasonable but uneven
The report noted that the market will enter 2021 on the heels of a post-recession rally. According to the strategists, the global equity valuations look reasonable by many measures, including risk premium relative to historical volatility, and the MSCI World index relative to the Global Purchasing Managers’ Index, a key indicator of manufacturing activity. Moreover, COVID-19 cases and geopolitical uncertainty appear to be muting investor sentiment. Though earnings growth should be consistently elevated, valuations appear uneven. Sheets said that coming out of 2010, US small-cap stocks nearly doubled the return of the S&P 500.
3. Solid equity returns across all developed markets
Morgan Stanley strategists forecast solid equity returns across all developed markets over the next 12 months. The current price of S&P 500 index is 3537, Morgan Stanley has given a new target price for December 2021 of 4175 in the bull case which is 18 per cent more, 3900 in base case which is up 10 per cent while 3375 in bear case implying a 5 per cent fall. In the case of MSCI Europe index, the current price is 1562. Morgan Stanley has pegged a target price of 1870 (20 per cent upside) in bull case, 1730 (11 per cent upside) in base case and 1410 (10 per cent fall) in bear case. While currently, the TOPIX index is at 1726 level, new target prices are 2000 (up 16 per cent) in bull case, 1870 (8 per cent) in base case and 1300 (25 per cent fall) in bear case.
4. Follow the early-cycle playbook
“Coming out of a recession, we think it pays to buy stocks with the lowest expectations,” Sheets said. The report noted that smaller companies typically lead coming out of recessions, and additional fiscal stimulus measures would likely be more supportive for smaller firms. The early-cycle playbook also favors high-quality cyclicals, such as US and European financials, materials, and segments hard hit by COVID-19 lockdowns, such as travel and leisure.