Wall Street is closely watching the Federal Reserve’s key interest rate decision on Wednesday, with market uncertainty about the extent of the potential cut. As of Monday, the CME FedWatch tool indicated a 59% probability of a 50-basis-point cut. Morgan Stanley research suggests that while this would be the best-case scenario for stocks, the Fed must balance growth concerns.
Chief Investment Officer Mike Wilson highlighted that the ideal situation would be a 50bp rate cut without alarming the market about economic growth. “An ‘insurance cut’ ahead of macro data could stabilize the market,” Wilson noted.
Rising labor market issues have added pressure on the Fed to lower rates, with the bond market indicating the need for a monetary policy shift to avoid economic disruptions. However, some analysts suggest a more aggressive cut could signal deeper economic troubles.
Morgan Stanley advised investors to shift toward defensive and high-quality stocks, which historically outperform in similar situations. Despite hopes for a soft landing and a 15% earnings-per-share growth into 2025 for the S&P 500, internal market data shows a move towards defensive stocks, reflecting fears of economic deceleration.
Defensive sectors like utilities and consumer staples, which perform well irrespective of economic conditions, are seeing strong demand. Wilson noted that defensive stocks have outperformed cyclicals, a trend last seen during the previous recession. Morgan Stanley’s bias toward defensive and large-cap stocks aligns with past patterns of Fed cuts.