Stocks are following the same playbook they did in 2006, and rate cuts might not be the rocket fuel investors are hoping for, Morgan Stanley’s CIO says

• The outlook for stocks looks similar to 2006, Morgan Stanley's Mike Wilson said in a note.
• This is because markets expect a rate cut as the economic cycle slows.
• Investors hoping for 1984-style stock gains will likely be disappointed, Wilson warned.

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The stock market is following the same playbook as 17 years ago, and investors hoping the Fed's rate cuts will lead to another huge rally in stocks may be slightly disappointed, according to Morgan Stanley chief investment officer Mike Wilson.

Wilson highlighted the strong rally in stocks so far this year, with the S&P 500 up 19% since the start of 2023. The benchmark just finished November with its best performance of the year in a sign that investors are They are becoming optimistic. he prospect of rate cuts by the Federal Reserve.

But investors could be getting their hopes up, as markets are anticipating rate cuts in the future. last stage of the economic cycle, a time when growth tends to slow and the economy is at risk of falling into a recession. That could set stocks up for lower-than-expected returns as the Federal Reserve cuts interest rates. This dynamic was on display in 2006 and later in 2018, when late-cycle cuts in both years led to stock returns of around 14% over the next 12 months.

Those gains are slight compared to early- and mid-cycle rate cuts, which have traditionally generated higher returns. This was the case in 1984, when lower rates sent stocks up 25% over the next year, and in 1994, when stocks returned 34% in the year after a rate cut.

"The 12 months after 2006 and 2018 offered attractive returns, but those (late cycle) return environments appear modest compared to the 1984 and 1994 cases," Wilson said in a note Monday.

"In our view, 2023 has represented a late period in the cycle. This is why quality large caps have outperformed and why Friday's rally in small caps and of lower quality is maintained in the medium term," he added later.

Morgan Stanley strategists said they were open to changing their thesis from the last cycle, but pointed to weakening conditions in the labor market, with the Conference Board Employment Trends Index moving downward over the past year. This is inconsistent with mid-cycle years like 1984 and 1994, when the index saw a slight increase.

Wilson has been one of the most bearish forecasters on Wall Street this year and has repeatedly warned that stock gains are part of a bear market rally. That will keep stocks relatively stable in 2024, Wilson predicted in his 2024 outlook, unlike other banks, which are betting on The S&P 500 sets a new all-time high.