Morgan Stanley switches to Neutral on Defensive vs Cyclicals by Investing.com

Morgan Stanley has revised its stance to neutral on defensive versus cyclicals, the bank announced on Monday.

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

Defensives tend to perform well in the three to twelve months following the Federal Reserve’s first interest rate cut. However, they often see an initial initial performance in the first month after cutting.

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

“Taking profits from recent defensive performance makes sense in the absence of knowing the outcome of the next earnings report,” strategists wrote.

They believe labor market data will be the most important factor in how stocks move through the end of the year.

A strong labor report, characterized by a drop in unemployment rates and above-consensus payroll numbers, could signal a risk-on environment, favoring cyclical values. Conversely, weaker-than-expected labor force data and a rise in the unemployment rate “are likely to be met with risk-cutting,” the strategists note.

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

“This is a theme that demonstrates consistent performance after the first Fed tapering. Additionally, the magnitude of large-cap relative earnings revisions remains supportive and this cohort tends to outperform small-caps in a mid-cycle environment through the end of the period,” the strategists explained.

They also maintain an overweight position in industrials, seeing it as the best positioned among cyclicals due to favorable earnings revisions, soft valuation and upbeat structural factors.