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Trump’s election victory has sent the US stock market to new highs.
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Morgan Stanley says three risks could disrupt the ongoing Trump trade.
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The company says investors should keep a close eye on bond yields and the U.S. dollar.
Stock investors have embraced Donald Trump’s return to the White House, but the post-election rally is not entirely without risk.
So far, US indices have hit new highs as investors look ahead to what Trump’s promised policies mean for earnings growth. But while market momentum remains solidly upward, Morgan Stanley outlined three risks that could tip this around.
Firstly, a significant one jump in government bond yields According to the bank, this could cause unrest among equity investors.
Trump’s election has already pushed interest rates higher as Wall Street expects his policies to boost inflation and keep interest rates high. When it became clear that Trump had won last week, the 10-year bond rose by as much as 21 basis points to 4.47% on November 6.
So far this hasn’t been enough to discourage stock investors, but Morgan Stanley suggests further gains could spell trouble for stocks. For example, concerns about the government’s rising budget deficit could lead to higher interest rates, the bank said.
JPMorgan analysts share this outlook, noting that the stock market rally will tire once bond yields approach 5%.
Second, The strength of the US dollar could spell trouble for large-cap stocks.
After the election, the Bloomberg dollar index rose the most in four years, reaching its highest point since November 2023.
As with bond yields, the dollar is rising on the prospect that US interest rates will remain higher for longer under Trump. Meanwhile, foreign currencies fell against the dollar on concerns that the newly elected president will impose sweeping tariffs on all U.S. trade.
“If dollar strength continues at its current pace through year-end, it could slow multinational earnings per share growth for the fourth quarter of 2024 and 2025,” Morgan Stanley wrote, later adding added: “This would likely be felt more strongly in the large cap indices (where mega-cap companies tend to have higher exposure to foreign sales) than in the average stocks. Therefore, the broadening beneath the surface may continue even if the dollar appears to face headwinds.”
Third, shares are becoming more and more expensive.
As this year’s bullish investors rushed to gain exposure to market themes related to artificial intelligence, the S&P 500 has moved further away from its fundamentals.
“More specifically, year-over-year change in the S&P has rarely been so decoupled from the scope of earnings revisions,” the analysts wrote, adding: “Again, this is more of a consideration for the major indices than for average stocks, but “It does suggest that more upside is likely dependent on data confirming a reacceleration in growth.”
But this shouldn’t be taken as a warning sign to turn bearish, Piper Sandler analysts said in October. Even with the S&P overvalued by 8% last month, a downturn catalyst would have to emerge to crush market momentum. This could be a sudden increase in interest rates or inflation.
Read the original article on Business Insider
