‘Grizzly Bear’ Has One Question: ‘Is It Done Going Down?’

“The question is whether it’s done going down,” Morgan Stanley’s Mike Wilson, who Bloomberg hyperbolically described as a “grizzly bear,” wrote Tuesday.

He was referring to stocks, but only tangentially. What’s “going down” is ISM manufacturing, and if the economy is merely experiencing a mid- to late-cycle slowdown, it should stop right where it is, at 53.

June’s ISM print, which landed in thin, pre-holiday trading last week, was variously pitched as evidence to support a recession narrative that’s close to becoming consensus. On the heels of Friday’s data, the Atlanta Fed’s GDPNow tracker fell further into contraction territory.

I playfully suggested America’s supply executives might’ve missed their calling as top-down equity strategists considering how collectively  prescient they were (figure below).

On Tuesday, Morgan’s Wilson said the S&P “is trading right where it should be based on this PMI reading.”

But there’s a problem. The new orders to inventories spread is a very good leading indicator for the ISM headline, and “on that score, the data is not encouraging for those looking for a soft landing,” Wilson observed.

The figure on the left (below) illustrates the point.

A recession, which Wilson incorporates in his bear case, would likely find headline ISM dropping into the low 40s, he said, noting that “if we overlay that outcome onto our S&P 500 versus PMI chart, it suggests we could reach 3,000 late this year.” The figure on the (right) shows that hypothetical.

Of course, Wilson is laser focused on the prospect of a “messy earnings season.” Even in a soft landing scenario (which many observers now view as very remote), Morgan Stanley thinks NTM EPS estimates would fall as low as $225 (from bottom-up $249 currently). That implies fair value of between 3,400 and 3,500 on the S&P.

It’s not all bad news, though. Thanks to H1’s ~25% multiple compression, the valuation leg of the bear market is at least mostly complete, even if, as noted here, there’s still scope for additional de-rating.

“Every investor can decide for themselves what the right earnings multiple should be in the context of the macro economic environment,” Wilson remarked, adding that although the slowdown “is even worse than we expected,” stock prices “should be determined more by earnings than the macro going forward.”

I’m not sure that’s very encouraging. The risk to earnings is asymmetrically skewed to the downside.