Morgan Stanley's Wilson sees 'highly likely' chance of 10% pre-election correction

Traders should brace for a significant pullback in the stock market as uncertainty swirls around the US presidential campaign, corporate earnings and Federal Reserve policy, according to Morgan Stanley’s Mike Wilson.

“I think the chance of a 10% correction is highly likely sometime between now and the election,” Wilson said in an interview with Bloomberg Television Monday. The third quarter is “going to be choppy.”

The S&P 500 Index opened the week at all-time highs and will hit its 35th closing record this year if it ends Monday in the green. Expectations that the Fed will cut rates twice this year and excitement around artificial intelligence have propelled the benchmark to a 17% gain since January after its 24% surge in 2023. Indeed, even a long-time bear like Wilson has tempered his tone from the past few years.

But a rising number of Wall Street pros have begun to grow cautious heading into the third quarter, a seasonally turbulent period, particularly amid signs the rally is overheating. 

Goldman Sachs Group Inc.’s Scott Rubner said Monday that he’s modeling a painful two-week stretch starting in August if corporate earnings disappoint. Andrew Tyler at JPMorgan Chase & Co.’s trading desk said he’s bullish with “slightly less conviction” from recent weakening economic data. And Citigroup Inc.’s Scott Chronert has sounded the alarm on a potential pullback. 

“Your likelihood of upside from now until year end is very low, much lower than normal,” Morgan Stanley’s Wilson said, placing the odds of stock prices closing the year higher than they are now at 20% to 25%.

The strategist — whose bearish outlook in 2023 failed to materialize — capitulated somewhat earlier this year, lifting his target for the S&P 500 to 5,400 points by mid-2025 from 4,500 through December. Although the index has already eclipsed that, the shift was dramatic since at the time his outlook was among the lowest on Wall Street.

Bearish views have become dangerous for equity strategists, as US stocks keep setting records. The relentless rally has already claimed one of the Street’s most prominent skeptics, as Marko Kolanovic departed from JPMorgan last week.

“In the beginning of the year, we moved away from being too bearish. But at the end of the day, this is a tough gig,” Wilson said. “That’s not an excuse, it’s what we get paid to do. Sometimes we get it right, sometimes we get it wrong. It doesn’t put any pressure on me to do my job any different.”

“The way we get paid by institutional clients is give them a good analysis, a good framework, so they can make their decisions on how they should be investing and that process will never change,” he added.

In this sense, Wilson thinks investors shouldn’t be particularly concerned about a pullback from these levels. Rather, he said it could create opportunities to buy into the market. For now, he suggests focusing on individual stocks rather than indexes.

Wilson and his team continue to recommend high-quality growth names, and quality in general: large-caps, companies with good balance sheets, and those that can deliver on earnings. Momentum will continue, but the problem is it’s hard to find shares in those categories that are cheap, he said.

“If they were to come in 10%, then we’d probably get interested again,” he said.