For just the fifth time in nearly a quarter century, the forward earnings growth forecast for the S&P 500 is negative.

If you ask the man typically identified by the mainstream financial media as Wall Street’s most ardent bear, that may constitute a “moment of recognition” for an equity market which hasn’t yet discounted growth risks.

2022’s grinding, “crashless” bear market for stocks was mostly a de-rating story as yields rose and the Fed rapidly turned the screws in a belated attempt to put the inflation genie back in the lantern. But as Morgan Stanley’s Mike Wilson wrote Monday, “at no point did the valuation reflect the earnings risk we think is now approaching.”

Wilson has repeatedly warned that the ERP is too low and vulnerable to an abrupt reset.

When US equities troughed last year, the ERP “did not increase as we typically witness when growth concerns have been priced in the past,” Wilson wrote, noting that all (and then some) of the valuation reset in 2022 came courtesy of rising yields.

For Morgan Stanley, it’s a challenge to turn constructive unless and until there’s convincing evidence that equities have priced in earnings risk, the bulk of which the bank still believes is ahead of the market, not behind it.

The S&P came into June on the brink of an ostensible bull market thanks almost entirely to the so-called “Magnificent 7,” which together constitute the vast majority of the index’s YTD gains. Indeed, those seven stocks (FAAMG + Tesla and Nvidia) now comprise nearly 30% of index market cap, close to levels witnessed in late 2021, just before it all fell apart.

As the figure on the right above from Wilson makes clear, Morgan Stanley is waiting for a “moment of recognition,” and Wilson said Monday that such turning points “typically occur when the forward NTM EPS forecast for the S&P 500 goes negative on a YoY basis.” That’s where we are right now, as the figure below shows.

Opinions vary on the trajectory for corporate profits from here. We’re currently in a very mild earnings recession, and consensus generally believes the inflection is just a quarter or two away.

As for the broader economy, it’s certainly the case that many observers anticipate a downturn of some kind, even as those expecting a deep recession are, as ever, in the minority.

Wilson said Monday that around half of investors the bank talks to expect a mild recession beginning late in 2023, but “most” clients appear to believe equities discounted the downturn early, where that means last October’s lows.

Wilson doubts it. “While anything is possible, it would be unprecedented for the equity market to have discounted an economic recession this far in advance of its arrival,” he wrote.