Market expectations are lower this year.
U.S. equities are off to a promising start in 2019. However, an equally impressive start to 2018 ultimately resulted in the market’s worst year in a decade. The Morgan Stanley analyst team, led by Michael Wilson, recently put together its 2019 Equities Outlook, which investors can use as a guide in what could be another volatile year for the stock market. Market expectations may not be as high as they were headed into 2018, but they may not be as pessimistic as the fourth quarter sell-off suggests. Here are eight things Morgan Stanley says investors can expect in 2019.
Expect disappointing earnings reports.
Traders have been treated to some spectacular earnings growth in 2018, but Wilson says earnings growth will likely fall short of consensus expectations next year. In fact, Wilson says there is a greater than 50 percent chance the S&P 500 index will experience an “earnings recession,” or two consecutive quarters of negative year-over-year earnings per share growth. Wall Street is expecting full-year S&P 500 EPS growth of 21.7 percent in 2018 and 8.7 percent in 2019. Morgan Stanley is predicting full-year EPS growth will slow to just 4.3 percent next year.
GDP growth may be lackluster.
Lapping corporate tax cuts will take some of the wind out of the sails of U.S. GDP growth in 2019, but Wilson says GDP growth may slow much more than investors anticipate. After gaining 2.3 percent in 2017, U.S. GDP growth peaked at 4.2 percent in the second quarter of 2018, its highest level in nearly four years. Morgan Stanley is projecting GDP growth to drop from 3.1 percent in the fourth quarter of 2018 to just 1 percent by the third quarter of 2019 before recovering to 1.7 percent by the fourth quarter.
Expect a pause in interest rates.
The Federal Reserve has taken heat for its decision to aggressively raise interest rates throughout 2018, a move that could hurt earnings growth. Fed Chair Jerome Powell now says interest rates are currently “just below” what he considers a neutral level and that the Fed can afford to be patient, a dovish shift from when he said rates were “a long way” from neutral in October. Wilson says slowing growth will force the Fed to pause its quarterly rate hike schedule by June, a move that should help offset the potential stock market impact of declining earnings.
Value stocks are coming back.
Value stocks have taken a back seat to growth stocks in recent years. Over the past decade, the Vanguard Growth ETF (ticker: VUG) gained 255 percent compared to just a 150 percent for the Vanguard Value ETF (VTV). Wilson says trading value stocks will finally regain popularity as many investors concerned about a potential recession will rotate out of growth stocks and into the relative safety of value stocks. In an environment of lackluster earnings growth, stock selection becomes more critical, and Wilson says relative value will be a major differentiator between market leaders and laggards in 2019.
The bear market may roll.
Wilson isn’t predicting a full-scale bear market just yet, but he says the trend of a “rolling bear market” will continue in 2019. In a typical bear market, the S&P 500 declines by at least 20 percent. In a rolling bear market, only certain market sectors and groups of stocks experience a 20 percent decline at a time, while relatively stronger equities help keep the overall market decline above the 20 percent threshold. The tech and energy sectors dipped into bear market territory in late 2018, but utilities and consumer staples are helping support the market.
Earnings multiples should stabilize.
Wilson says the earnings multiple contraction that the S&P 500 has experienced in recent months should bottom out, and stability should return to the S&P 500’s forward price-earnings ratio. The S&P 500’s forward P/E peaked at around 18.5 in December 2017 ahead of U.S. corporate tax cuts, but it has since dropped to around 15, which Wilson says is the low end of its historical range given the current interest rate environment. Morgan Stanley is predicting the market’s forward P/E will stabilize and expand slightly to 15.5 by the end of 2019.
Tech stocks are expected to underperform.
Wilson says Morgan Stanley is overweight defensive stocks and cyclical value stocks in 2019. He says investors should stay away from stocks with high earnings expectations and high valuations, many of which can be found in the tech sector. Wilson says valuations in the tech sector have exceeded earnings growth, creating a unique vulnerability in the sector. The tech sector earnings multiple relative to the overall S&P 500 is now two standard deviations above its long-term average. Instead of tech stocks, Wilson prefers trading energy stocks, consumer staples, financials and utilities in 2019.
Expect another range-bound year.
Some big 2018 market moves have ultimately resulted in very little overall progress.The S&P 500 slowly worked its way to an all-time high of 2,940 in September, but the recent sell-off eliminated all of those gains. Wilson says sluggish earnings growth will likely trend for another range-bound year for stock prices in 2019. Morgan Stanley has a year-end target of 2,750 for the S&P 500 and is expecting the index to stay mostly between 2,650 and 2,825 throughout the year.
Stock market trends to expect in 2019
Investors can expect these trends in the stock market this year:
— Expect disappointing earnings reports.
— GDP growth may be lackluster.
— Expect a pause in interest rates.
— Value stocks are coming back.
— The bear market may roll.
— Earnings multiples should stabilize.
— Tech stocks are expected to underperform.
— Expect another range-bound year.
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8 Stock Market Trends to Expect in 2019 originally appeared on usnews.com
