Morgan Stanley moves to neutral on Defensives vs Cyclicals

Investing.com -- Morgan Stanley (NYSE:MS) has revised its stance to neutral on Defensives versus Cyclicals, the bank said Monday.

Strategists said this tactical move comes after the significant outperformance of Defensives, which has pushed their valuations to extended levels, and highlighted the importance of waiting for more clarity on upcoming labor market data before taking any decisive actions in the market.

Defensives tend to perform well over a three-to-twelve-month period following the Federal Reserve’s first rate cut. However, they often see initial underperformance within the first month after the cut.

This dynamic is particularly relevant now, Morgan Stanley notes, given the Fed’s larger-than-expected 50-basis point cut.

“Taking profits on the recent outperformance of defensives makes sense in the absence of knowing the outcome of the next labor report,” strategists wrote.

They believe the labor market data will be the most important factor in terms of how equities perform through year-end.

A strong labor report, characterized by a drop in unemployment rates and above-consensus payroll numbers, could signal a risk-on environment, favoring cyclicals. In contrast, weaker-than-expected labor data and a rise in the unemployment rate “are likely to be met with risk-off price action,” strategists note.

Meanwhile, Morgan Stanley remains confident in its preference for large-cap over small-cap stocks, which tend to outperform in a mid-to-late cycle environment.

“This is a theme that demonstrates consistent outperformance post the Fed's first cut. Further, large-cap relative earnings revisions breadth remains supportive and this cohort tends to outperform small caps in a mid-to-late cycle environment,” strategists explained.

They also maintain an overweight position in the Industrials sector, viewing it as the best positioned among cyclicals due to favorable earnings revisions, undemanding valuation and bullish structural drivers.