(Bloomberg) - A weaker dollar will improve the earnings outlook for US stocks, potentially turning around the massive rotation that’s been underway in global markets since start of the year, according to Morgan Stanley strategists including Michael Wilson.
The S&P 500 (^GSPC) fell into a technical correction earlier his month as it declined more than 10% from February highs. While it has staged a modest bounce, it’s still down 3.6% for the year, compared with a gain of more than 8% for the pan-European Stoxx 600 equity index.
But that could change in the “near-to-intermediate term,” Wilson and his team wrote.
“Relative performance versus international developed equities can swing back in favor of the US,” they said. A weaker dollar “should offer a tailwind for US revisions,” driving capital back to the US, they said. Bloomberg’s dollar spot index is down 3.8% from its January peak.
Investors have slashed holdings of US stocks by the most on record, according to a Bank of America Corp. survey in March, while piling into their European counterparts amid optimism that the region’s fiscal expansion will unlock billions in defense and infrastructure spending.
Underlying this rotation was the bleak outlook for US earnings. Analysts’ downgrades have outpaced upgrades since the start of the year, according to a Citigroup Inc. index. But there are already signs of a shift in this trend, according to Wilson.
Adjustments for the so-called Magnificent Seven tech stocks that drove last year’s rally may already have bottomed at around 0%, which could help attract flows back to the US, he said.
“One of the reasons why we’ve seen capital rotate to international markets is that the high-quality leadership cohort of the US equity market began to underperform,” Wilson said. “Thus, if this group regains relative strength we could see a rotation back to the US.”
Bloomberg’s Magnificent 7 Index has declined 14% year-to-date amid worries about valuations and the sustainability of high spending on he development of artificial intelligence. Collectively, the seven stocks are now near the cheapest they’ve been in more than two years relative to the broader US market.
The team sees scope for a “tradeable rally” in the S&P 500 from around 5,500, a level the index nearly touched earlier this month. Oversold momentum indicators, stronger seasonal performance and quarter-end flows would also support a rebound, though volatility would likely persist, the strategists wrote.
While “lower-quality, higher beta” stocks have led the S&P 500’s most recent rebound in will continue to do so in the near term, the Morgan Stanley strategists still advocate holding higher-quality shares in core portfolios to benefit from an improvement in the intermediate-term outlook.
By Julien Ponthus
With assistance from Michael Msika
March 24, 2025
