15 Stocks to Weather a 14% Drop in S&P 500 From Morgan Stanley

  • Morgan Stanley’s chief equity strategist Mike Wilson predicted the last three market crashes.
  • He’s bearish on stocks and thinks the S&P 500 still has another 14% to fall by the end of the second quarter.
  • He shares 15 defensive plays to weather the bear market and provide upside when the bull returns.

It’s been seven successive negative weeks for the S&P 500 and it’s just on the precipice of a

bear market

, having dropped 16% since the start of this year, now sitting around the 3,973 level.

But that doesn’t mean it’s a “buy the dip” situation, according to Morgan Stanley’s chief equity strategist Mike Wilson.

“However, given the risks to growth are just emerging, it’s too early to get bullish,” said Wilson in a May 23 research note.

Deutsche Bank chart of consecutive negative weeks for S&P 500

Deutsche Bank chart of consecutive negative weeks for S&P 500

Deutsche Bank

Wilson turned bearish on the stock market early last year when he made a call that the S&P 500 could correct 10% to 20% due to a “fire” and/or “ice” scenario.

A “fire scenario” is one in which red-hot inflation causes the

Federal Reserve

to tighten monetary policy aggressively, while an “ice scenario” is one in which economic growth decelerates, hitting stock valuations and earnings expectations.

Both scenarios are in the process of playing out and Wilsonsays stocks have further to fall, as the bear case becomes consensus amongst most market participants.

Stocks have fallen sharply this year on the back of the Federal Reserve hiking interest rates and implementing a more hawkish approach to monetary policy. At the same time, Russia’s invasion of Ukraine and China’s COVID outbreak, as well as surging inflation and slowing growth have become additional headwinds for the market.

“We think 3400 is a level that more accurately reflects the earnings risk ahead and expect that level to be achieved by the end of 2Q earnings season,” Wilson said. “Until then, vicious bear market rallies should be used to lighten up on the areas most vulnerable to the oncoming earnings reset.”

Waning consumer demand is playing a key role in Wilson’s current bear case. He references a recent Morgan Stanley survey of around 2,000 US consumers which found more than half of consumers were planning to cut back on spending over the next six months due to inflation.

An even higher share of lower income consumers are expecting to reduce spending, according to the survey.

A chart demonstrating low consumer vacation intentions from Morgan Stanley research note

A chart demonstrating low consumer vacation intentions from Morgan Stanley research note

Morgan Stanley

Wilson was one of the first strategists to warn about the impact of excess inventories being held by companies that were preparing for a boom in consumer demand from excess savings built up over the pandemic. He expects this to weigh on companies profit margins.

“While we think the margin pressure and waning low end consumer demand dynamics have been largely understood by the market, we think the excess inventory element and the associated risk to pricing is less understood and is just now beginning to be reflected in stock prices,” Wilson said.

Morgan Stanley clients have turned more bearish as of late, accepting that a slowdown of growth in the

technology sector

is possible and that inflation won’t be short-lived, according to Wilson. However, he believes that many still aren’t fully pricing in risks.

“Many still think there is a Fed put but they acknowledge the strike price is now lower and agree with our long-standing view that it’s somewhere below 3500 on the S&P 500,” Wilson said. “This would be down approximately 15% y/y which is a level that will start to have a negative wealth effect and slow demand, a necessary condition for the Fed to get inflation under control.”

Despite the negative sentiment, clients are still asking Wilson what stocks to buy in this current market environment or in the case of a full market reset.

Using a GARP screen, Wilson’s team has picked out 15-high quality names that can weather the bear market and provide upside at the other end.

Here is a list of the stocks he recommends snapping up as the market starts to bottom out.

Stocks to buy

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