The Fed is in the “Danger Zone Where Bad Stuff Happens” , says Morgan Stanley

Morgan Stanley
Morgan Stanley

It seems that the Federal Reserve will likely pivot away from its hawkish monetary policy as global US dollar liquidity is now in the “danger zone where bad stuff happens,” Morgan Stanley’s Mike Wilson said in a note.

Just like the Bank of England had to intervene last week by purchasing long-dated bonds to control soaring gilt yields, the Fed will also likely have to intervene similarly, whether that means a pause in rate hikes or full-out quantitative easing.

“The first question to ask is, when does the US dollar become a US problem? Nobody knows, but more price action of the kind we’ve been experiencing will eventually get the Fed to back off,” Wilson said.

According to Wilson, the earnings decline will be led by several macro risks that firms have been forced to navigate in recent months, including China’s COVID lockdowns, a soaring US dollar, higher interest rates, and weakness in Europe’s economy. 

“We suspect the uncertainty that these factors foster will lead to both guidance pulls and lowered guidance, both headwinds for forward earnings estimates,” Wilson said. And the expected decline in earnings expectations could be big because so far, forward earnings estimates have fallen by just 1% since mid-June.