The stock market’s not the economy. And the economy’s not the stock market.

Morgan Stanley’s Mike Wilson is “fond” of saying that.

The fact that the economy and the stock market are as disconnected as they often are is a testament to a lot of things, not least of which is the institution (several decades ago) of unapologetic shareholder capitalism.

The only stakeholders who matter in American-style capitalism are the stock owners, which means profit maximization trumps every other consideration, every time. That pathological obsession with the bottom line to the exclusion and, quite often, to the detriment, of workers, the environment and society more generally, facilitates a disconnect between the figurative and literal fortunes of America’s largest corporations and the people who work for them and patronize them.

I often think about reinventing myself as an iconoclast vis-à-vis the whole rotten thing, but… well, I hate to be ungrateful. “The game’s been good to me.”

Anyway, that’s a digression. Some of you (most of you by now, I hope) are here for the digressions (and the dark jokes and the depressing social commentary and the banner images) but for everybody else — for the pencil pushers, number crunchers, “serious” investors and “professionals” of different sorts — Mike Wilson!

“Often, a strong economy is not good for stocks, while a soft one can drive a very bullish tape,” Wilson explained, studiously, in his latest weekly published on Monday morning.

If you ask Mike, 2024‘s bullish tape is “classic” late-cycle. “When the economy is slowing from prior tightening by the Fed, the equity market often starts to get excited about the Fed reversing course and valuations rise in anticipation,” he said. “With P/E multiples and other valuation metrics now in the top decile, the question is, ‘Will valuations begin to fall faster than earnings growth and lead to a meaningful correction?'”

Mike’s answer is that in fact, that’s “already happening.” You can tell by the “extremely” narrow breadth on display across the US equity market. (See the unimaginative chart below.)

For most companies, multiples are contracting more than earnings are rising, “which is why stock picking has become so important for active investors this year,” Wilson wrote.

I don’t want to oversimplify this highly complex “science” — which should always be left to the “pros” in true, “Don’t try this at home” fashion, lest legions of overpaid capitalism symbiotes should have to trade in their Hermès ties for Walmart name tags like the one the system’s forcing you to don every day — but if you were determined to be a “stock picker” in 2024, you could’ve done pretty well simply by scanning headlines and buying what seems to be working. (“Hmm, this Nvidia thing sounds interesting.”)

Wilson doesn’t disagree. And hasn’t disagreed. He’s pushed a barbell of large-cap quality growth stocks with defensives for quite a while and said Monday that the market will likely continue to be defined by outperformance for large-cap quality “until something changes in the macro environment.”

What might that “something” be? Well, Mike offered three possibilities — “potential candidates,” as he put it. They are:

1. Inflation and growth reaccelerate in a way that leads the Fed to reconsider rate hikes
2. The liquidity picture deteriorates in a way that leads to equity outflows
3. A growth scare that is substantial enough to turn bad economic data into bad news for equity multiples across the board

He thinks the first one’s unlikely, and suggested the second is too given “the various liquidity provisions still in place,” from RRP to an “overfunded” TGA to the onset of the QT taper which, you’re reminded, was instituted with a lower cap on Treasury runoff than expected.

As for the third risk (a “growth scare”), that’s in play, Wilson suggested. “We think this is the most likely risk, and our conversations with clients echo this view,” he wrote. “Under this outcome, large cap quality should outperform moderately on a relative basis but defensives are likely to do even better – i.e., go down less.”

So, there’s 700 words to tell you the largest companies with the best balance sheets will probably do ok in a downturn and that defensives should do “even better” in an adverse economic environment. Like I said: Leave this stuff to the pros. It’s too complicated for the rest of us idiots.