Thoughts on the Market

Our South Asia Energy Analyst Mayank Maheshwari discusses the main drivers behind a shifting electric power landscape in his outlook for Asia energy.

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Welcome to Thoughts on the Market. I’m Mayank Maheshwari, Morgan Stanley’s South Asia Energy Analyst. 

There’s been an investment surge in renewable energy – to field the world’s rising demands for energy and power. With a new White House administration, however, there are questions about its future. Today I want to dig into the profound shifts impacting the production and consumption of power in Asia.

It’s Wednesday, November 20, at 9pm in Singapore. 

The world consumed 25 trillion units of power last year and Asia accounted for about half of that. Asia demand is booming like the rest of the world, and power consumption is at a tipping point. We forecast global power consumption will grow 26 per cent faster through 2030 than in the last decade. Somewhat similar to the US, we are actually seeing tightness in Asian power markets in coming years as well. But even today countries like India, Singapore, and increasingly Malaysia are seeing power demand grow at 1.5 to 2x faster than pre-COVID levels. 

So, what’s driving this rapid growth? Outside of the residential power demand, growth is driven by GenAI datacenters, re-shoring of manufacturing facilities, there are new semi-conductor investments that are coming through, and expanding new energy supply chains itself are actually adding to the tightness. 

Importantly though, regional differences in clean power costs and demand are stark. In Asia, power prices have steadily risen. Multiple regulators are acknowledging the tightness by extending the life of coal plants, building new gas and coal facilities, and even restarting nuclear power generation capacity – as clean power alone cannot by itself handle this surge in demand. 

Interestingly though, the cost to produce clean power has declined pretty rapidly in 2024 to below-trend levels after a period of significant inflation we saw post-COVID. On average, solar panel prices in Asia declined 50 per cent, and the cost of onshore wind declined 10 per cent – with energy storage costs deflating by a third to levels not seen in the past five years. 

However, this cost deflation has been a lot more uneven across regions, with the US and Europe seeing much smaller declines due to tariffs and other supply bottlenecks. Asia is hence seeing significant inflection in the economics for power generation companies, especially in South Asia, which had lagged China capacity adds over the last several years. 

Part of the deflation in the clean power supply chain comes from even the capacity overbuilds that we are seeing in geographies that are looking to build their own clean power supply chains. Regions such as India and Southeast Asia, where clean power demand is growing very quickly, are adding to the glut in capacity on clean power supply chains that we have already seen in China.

Amid all the clean power developments in Asia, COP29 announced a[n] updated climate goal. The UN climate conference being held in Azerbaijan this year aims for a 59 per cent to 67 per cent reduction in economy-wide greenhouse gas emissions by 2035. 

That’s the clean energy update from Asia for now. Listen in tomorrow, as my colleagues engage in a conversation about the impact of the US election results on the sector.

Thank you for listening. If you enjoy Thoughts on the Market, please leave us a review wherever you listen and share the podcast with a friend or a colleague today.

On the second part of a two-part roundtable, our panel gives its 2025 preview for the housing and mortgage landscape, the US Treasury yield curve and currency markets.

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Vishy Tirupattur: Welcome to Thoughts on the Market. I am Vishy Tirupattur, Morgan Stanley's Chief Fixed Income Strategist. This is part two of our special roundtable discussion on what's ahead for the global economy and markets in 2025.

Today we will cover what is ahead for government bonds, currencies, and housing. I'm joined by Matt Hornbach, our Chief Macro Strategist; James Lord, Global Head of Currency and Emerging Market Strategy; Jay Bacow, our co-head of Securitized Product Strategy; and Jim Egan, the other co-head of Securitized Product Strategy.

It's Tuesday, November 19th, at 10am in New York.

Matt, I'd like to go to you first. 2024 was a fascinating year for government bond yields globally. We started with a deeply inverted US yield curve at the beginning of the year, and we are ending the year with a much steeper curve – with much of that inversion gone. We have seen both meaningful sell offs and rallies over the course of the year as markets negotiated hard landing, soft landing, and no landing scenarios.

With the election behind us and a significant change of policy ahead of us, how do you see the outlook for global government bond yields in 2025?

Matt Hornbach: With the US election outcome known, global rate markets can march to the beat of its consequences. Central banks around the world continue to lower policy rates in our economist baseline projection, with much lower policy rates taking hold in their hard landing scenario versus higher rates in their scenarios for re-acceleration.

This skew towards more dovish outcomes alongside the baseline for lower policy rates than captured in current market prices ultimately leads to lower government bond yields and steeper yield curves across most of the G10 through next year. Summarizing the regions, we expect treasury yields to move lower over the forecast horizon, helped by 75 [basis points] worth of Fed rate cuts, more than markets currently price.

We forecast 10-year Treasury yields reaching 3 and 3.75 per cent by the middle of next year and ending the year just above 3.5 per cent.

Our economists are forecasting a pause in the easing cycle in the second half of the year from the Fed. That would leave the Fed funds rate still above the median longer run dot.

The rationale for the pause involves Fed uncertainty over the ultimate effects of tariffs and immigration reform on growth and inflation.

We also see the treasury curve bull steepening throughout the forecast horizon with most of the steepening in the first half of the year, when most of the fall in yields occur.

Finally, on break even inflation rates, we see five- and 10-year break evens tightening slightly by the middle of 2025 as inflation risks cool. However, as the Trump administration starts implementing tariffs, break evens widen in our forecast with the five- and 10-year maturities reaching 2.55 per cent and 2.4 per cent respectively by the end of next year.

As such, we think real yields will lead the bulk of the decline in nominal yields in our forecasting with the 10-year real yield around 1.45 per cent by the middle of next year; and ending the year at 1.15 per cent.

Vishy Tirupattur: That's very helpful, Matt. James, clearly the incoming administration has policy choices, and their sequencing and severity will have major implications for the strength of the dollar that has rallied substantially in the last few months. Against this backdrop, how do you assess 2025 to be? What differences do you expect to see between DM and EM currency markets?

James Lord: The incoming administration's proposed policies could have far-reaching impacts on currency markets, some of which are already being reflected in the price of the dollar today. We had argued ahead of the election that a Republican sweep was probably the most bullish dollar outcome, and we are now seeing that being reflected.

We do think the dollar rally continues for a little bit longer as markets price in a higher likelihood of tariffs being implemented against trading partners and there being a risk of additional deficit expansion in 2025. However, we don't really see that dollar strength persisting for long throughout 2025.

So, I think that is – compared to the current debate, compared to the current market pricing – a negative dollar catalyst that should get priced into markets.

And to your question, Vishy, that there will be differences with EM and also within EM as well. Probably the most notable one is the renminbi. We have the renminbi as the weakest currency within all of our forecasts for 2025, really reflecting the impact of tariffs.

We expect tariffs against China to be more consequential than against other countries, thus requiring a bigger adjustment on the FX side. We see dollar China, or dollar renminbi ending next year at 7.6. So that represents a very sharp divergence versus dollar yen and the broader DXY moves – and is a consequence of tariffs.

And that does imply that the Fed's broad dollar index only has a pretty modest decline next year, despite the bigger move in the DXY. The rest of Asia will likely follow dollar China more closely than dollar yen, in our view, causing AXJ currencies to generally underperform; versus CMEA and Latin America, which on the whole do a bit better.

Vishy Tirupattur: Jay, in contrast to corporate credit, mortgage spreads are at or about their long-term average levels. How do you expect 2025 to pan out for mortgages? What are the key drivers of your expectations, and which potential policy changes you are most focused on?

Jay Bacow: As you point out, mortgage spreads do look wide to corporate spreads, but there are good reasons for that. We all know that the Fed is reducing their holdings of mortgages, and they're the largest holder of mortgages in the world.

We don't expect Fed balance sheet reduction of mortgages to change, even if they do NQT, as is our forecast in the first quarter of 2025. When they NQT, we expect mortgage runoff to continue to go into treasuries. What we do expect to change next year is that bank demand function will shift. We are working under the assumption that the Basel III endgame either stalls under the next administration or gets released in a way that is capital neutral. And that's going to free up excess capital for banks and reduce regulatory uncertainty for them in how they deploy the cash in their portfolios.

The one thing that we've been waiting for is this clarity around regulations. When that changes, we think that's going to be a positive, but it's not just banks returning to the market.

We think that there's going to be tailwinds from overseas investors that are going to be hedging out their FX risks as the Fed cuts rates, and the Bank of Japan hikes, so we expect more demand from Japanese life insurance companies.

A steeper yield curve is going to be good for REIT demand. And these buyers, banks, overseas REITs, they typically buy CUSIPs, and that's going to help not just from a demand side, but it's going to help funding on mortgages improve as well. And all of those things are going to take mortgage spreads tighter, and that's why we are bullish.

I also want to mention agency CMBS for a moment. The technical pressure there is even better than in single family mortgages. The supply story is still constrained, but there is no Fed QT in multifamily. And then also the capital that's going to be available for banks from the deregulation will allow them – in combination with the portfolio layer hedging – to add agency CMBS in a way that they haven't really been adding in the last few years. So that could take spreads tighter as well.

Now, Vishy, you also mentioned policy changes. We think discussions around GSE reform are likely to become more prevalent under the new administration.

And we think that given that improved capitalization, depending on the path of their earnings and any plans to raise capital, we could see an attempt to exit conservatorship during this administration.

But we will simply state our view that any plan that results in a meaningful change to the capital treatment – or credit risk – to the investors of conventional mortgages is going to be too destabilizing for the housing finance markets to implement. And so, we don't think that path could go forward.

Vishy Tirupattur: Thanks, Jay. Jim, it was a challenging year for the housing market with historically high levels of unaffordability and continued headwinds of limited supply. How do you see 2025 to be for the US housing market? And going beyond housing, what is your outlook for the opportunity set in securitized credit for 2025?

James Egan: For the housing market, the 2025 narrative is going to be one about absolute level versus the direction and rate of change. For instance, Vishy, you mentioned affordability. Mortgage rates have increased significantly since the beginning of September, but it's also true that they're down roughly a hundred basis points from the fourth quarter of 2023 and we're forecasting pretty healthy decreases in the 10-year Treasury throughout 2025. So, we expect affordability to improve over the coming year. Supply? It remains near historic lows, but it's been increasing year to date.

So similar to the affordability narrative, it's more challenged than it's been in decades; but it's also less challenged than it was a year ago.

So, what does all this mean for the housing market as we look through 2025? Despite the improvements in affordability, sales volumes have been pretty stagnant this year. Total volumes – so existing plus new volumes – are actually down about 3 per cent year to date. And look, that isn't unusual. It typically takes about a year for sales volumes to pick up when you see this kind of significant affordability improvement that we've witnessed over the past year, even with the recent backup in mortgage rates.

And that means we think we're kind of entering that sweet spot for increased sales now. We've seen purchase applications turn positive year over year. We've seen pending home sales turn positive year over year. That's the first time both of those things have happened since 2021. But when we think about how much sales 2025, we think it's going to be a little bit more curtailed. There are a whole host of reasons for that – but one of them the lock in effect has been a very popular talking point in the housing market this year. If we look at just the difference between the effective mortgage rate on the outstanding universe and where you can take out a mortgage rate today, the universe is still over 200 basis points out of the money.

To the upside, you're not going to get 10 per cent growth there, but you're going to get more than 5 per cent growth in new home sales. And what I really want to emphasize here is – yes, mortgage rates have increased recently. We expect them to come down in 2025; but even if they don't, we don't think there's a lot of room for downside to existing home sales from here.

There's some level of housing activity that has to happen, regardless of where mortgage rates or affordability are. We think we're there. Turnover measured as the number of transactions – existing transactions – as a share of the outstanding housing market is lower now than it was during the great financial crisis. It's as low as it's been in a little bit over 40 years. We just don't think it can fall that much further from here.

But as we go through 2025, we do think it dips negative. We have a negative 2 per cent HPA call next year, not significantly down. We don't think there's a lot of room to the downside given the healthy foundation, the low supply, the strong credit standards in the housing market. But there is a little bit of negativity next year before home prices reaccelerate.

This leaves us generically constructive on securitized products across the board. Given how much of the capital structure has flattened this year, we think CLO AAAs actually offer the best value amongst the debt tranches there. We think non-QM triple AAAs and agency MBS is going to tighten. They look cheap to IG corporates. Consumer ABS, we also think still looks pretty cheap to IG corporates. Even in the CMBS pace, we think there's opportunities. CMBS has really outperformed this year as rates have come down. Now our bull bear spread differentials are much wider in CMBS than they are elsewhere, but in our base case, conduit BBB minuses still offer attractive value.

That being said, if we're going to go down the capital structure, our favorite expression in the securitized credit space is US CLO equity.

Vishy Tirupattur: Thank you, Jay and Jim, and also Matt and James.

We'll close it out here. As a reminder, if you enjoyed the show, please leave us a review wherever you listen and share Thoughts on the Market with a friend or colleague today.

On the first part of a two-part roundtable, our panel discusses why the US is likely to see a slowdown and where investors can look for growth.

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Vishy Tirupattur: Welcome to Thoughts on the Market. I'm Vishy Tirupattur, Morgan Stanley's Chief Fixed Income Strategist. Today in the podcast, we are hosting a special roundtable discussion on what's ahead for the global economy and markets in 2025.

I'm joined by my colleagues: Seth Carpenter, Global Chief Economist; Mike Wilson, Chief US Equity Strategist and the firm's Chief Investment Officer; and Andrew Sheets, Global Head of [Corporate] Credit Research.

It's Monday, November 18th, at 10am in New York.

Gentlemen. Thank you all for taking the time to talk. We have a lot to cover, and so I'm going to go right into it.

Seth, I want to start with the global economy. As you look ahead to 2025, how do you see the global economy evolving in terms of growth, inflation and monetary policy?

Seth Carpenter: I have to say – it's always difficult to do forecasts. But I think right now the uncertainty is even greater than usual. It's pretty tricky. I think if you do it at a global level, we're not actually looking for all that much of a change, you know, around 3-ish percent growth; but the composition is surely going to change some.

So, let's hit the big economies around the world. For the US, we are looking for a bit of a slowdown. Now, some of that was unsustainable growth this year and last year. There's a bit of waning residual impetus from fiscal policy that's going to come off in growth rate terms. Monetary policy is still restrictive, and there's some lag effects there; so even though the Fed is cutting rates, there's still going to be a little bit of a slowdown coming next year from that.

But I think the really big question, and you alluded to this in your question, is what about other policy changes here? For fiscal policy, we think that's really an issue for 2026. That's when the Tax Cut and Jobs Act (TCJA) tax cuts expire, and so we think there's going to be a fix for that; but that's going to take most of 2025 to address legislatively. And so, the fiscal impetus really is a question for 2026.

But immigration, tariffs; those matter a lot. And here the question really is, do things get front loaded? Is it everything all at once right at the beginning? Is it phased in over time a bit like it was over 2018? I think our baseline assumption is that there will be tariffs; there will be an increase in tariffs, especially on China. But they will get phased in over the course of 2025. And so, as a result, the first thing you see is some increase in inflation and it will build over time as the tariffs build. The slowdown from growth, though, gets backloaded to the end of 2025 and then really spills over into to 2026.

Now, Europe is still in a situation where they've got some sluggish growth. We think things stabilize. We get, you know, 1 percent growth or so. So not a further deterioration there; but not a huge increase that would make you super excited. The ECB should probably keep cutting interest rates. And we actually think there's a really good chance that inflation in the euro area goes below their target. And so, as a result, what do we see? Well, the ECB cutting down below their best guess of neutral. They think 2 percent nominal is neutral and they go below that.

China is another big curveball here for the forecast because they've been in this debt deflation spiral for a while. We don't think the pivot in fiscal policy is anywhere near sufficient to ward things off. And so, we could actually see a further slowing down of growth in China in 2025 as the policy makers do this reactive kind of policy response. And so, it's going to take a while there, and we think there's a downside risk there.

On the upside. I mean, we're still bullish on Japan. We're still very bullish on India and its growth; and across other parts of EM, there's some bright spots. So, it's a real mixed bag. I don't think there's a single trend across the globe that's going to drive the overall growth narrative.

Vishy Tirupattur: Thank you, Seth. Mike, I'd like to go to you next. 2024 has turned out to be a strong year for equity markets globally, particularly for US and Japanese equities. While we did see modest earnings growth, equity returns were mostly about multiple expansion. How do you expect 2025 to turn out for the global equity markets? What are the key challenges and opportunities ahead for the equity markets that you see?

Mike Wilson: Yeah, this year was interesting because we had what I would say was very modest earnings growth in the US in particular; relative to the performance. It was really all multiple expansion, and that's probably not going to repeat this year. We're looking for better earnings growth given our soft landing outcome from an economic standpoint and rates coming down. But we don't think multiples will expand any further. In fact, we think they'll come down by about 5 percent. But that still gets us a decent return in the base case of sort of high single digits.

You know, Japan is the second market we like relative to the rest of the world because of the corporate governance story. So there, too, we're looking for high single digit earnings growth and high single digits or 10 percent return in total. And Europe is when we're sort of down taking a bit because of tariff risk and also pressure from China, where they have a lot of export business.

You know, the challenges I think going forward is that growth continues to be below trend in many regions. The second challenge is that, you know, high quality assets are expensive everywhere. It's not just the US. It's sort of everywhere in the world. So, you get what you pay for. You know, the S&P is extremely expensive, but that's because the ROE is higher, and growth is higher.

So, you know, in other words, these are not well-kept secrets. And so just valuation is a real challenge. And then, of course, the consensus views are generally fairly narrow around the soft landing and that's very priced as well. So, the risks are that the consensus view doesn't play out. And that's why we have two bull and two bear cases in the US – just like we did in the mid-year outlook; and in fact, what happened is one of our bull cases is what played out in the second half of this year.

So, the real opportunity from our standpoint, I think this is a global call as well – which is that we continue to be pretty big rotations around the macro-outlook, which remains uncertain, given the policy changes we're seeing in the US potentially, and also the geopolitical risks that still is out there.

And then the other big opportunity has been stock picking. Dispersion is extremely high. Clients are really being rewarded for taking single stock exposures. And I think that continues into next year. So, we're going to do what we did this year is we're going to try to rotate around from a style and size perspective, depending on the macro-outlook.

Vishy Tirupattur: Thank you, Mike. Andrew, we are ending 2024 in a reasonably good setup for credit markets, with spreads at or near multi-decade tights for many markets. How do you expect the global credit markets to play out in 2025? What are the best places to be within the credit spectrum and across different regions?

Andrew Sheets: I think that's the best way to frame it – to start a little bit about where we are and then talk about where we might be going. I think it's safe to say that this has been an absolutely phenomenal backdrop for corporate credit. Corporate credit likes moderation. And I think you've seen an unusual amount of moderation at both the macro and the micro level.

You've seen kind of moderate growth, moderating inflation, moderating policy rates across DM. And then at the micro level, even though markets have been very strong, corporate aggressiveness has not been. M&A has been well below trend. Corporate balance sheets have been pretty stable.

So, what I think is notable is you've had an economic backdrop that credit has really liked, as you correctly note. We've pushed spreads near 20-year tights based on that backdrop. But it's a backdrop that credit markets liked, but US voters did not like, and they voted for different policy.

And so, when we look ahead – the range of outcomes, I think across both the macro and the micro, is expanding. And I think the policy uncertainty that markets now face is increasing both scenarios to the upside where things are hotter and you see more animal spirits; and risk to the downside, where potentially more aggressive tariffs or action on immigration creates more kind of stagflationary types of risk.

So one element that we're facing is we feel like we're leaving behind a really good environment for corporate credit and we're entering something that's more uncertain. But then balancing that is that you're not going to transition immediately.

You still have a lot of momentum in the US and European economy. I look at the forecasts from Seth's team, the global economic numbers, or at least kind of the DM economic numbers into the first half of next year – still look fine. We still have the Fed cutting. We still have the ECB cutting. We still have inflation moderating.

So, part of our thinking for this year is it could be a little bit of a story of two halves that we titled our section, “On Borrowed Time.” That the credit is still likely to hold in well and perform better in the first half of the year. Yields are still good; the Fed is still cutting; the backdrop hasn't changed that much. And then it's the second half of the year where some of our economic numbers start to show more divergence, where the Fed is no longer cutting rates, where all in yield levels are lower on our interest rate forecasts, which could temper demand. That looks somewhat trickier.

In terms of how we think about what we like within credit, we do think the levered loan market continues to be attractive. That's part of credit where spreads are not particularly tight versus history. That's one area where we still see risk premium. I think this is also an environment where regionally we see Asia underperforming. It's a market that's both very expensive from a spread perspective but also faces potentially kind of outsized economic and tariff uncertainty. And we think that the US might outperform in context to at least initially investors feeling like the US is at less relative risk from tariffs and policy uncertainty than some other markets.

So, Vishy, I'll pause there and pass it back to you.

Vishy Tirupattur: Thanks, Mike, Seth, and Andrew.

Thank you all for listening. We are going to take a pause here and we'll be back tomorrow with our year ahead round table continued, where we'll share our forecast for government bonds, currencies and housing.

As a reminder, if you enjoy the show, please leave us a review wherever you listen and share Thoughts on the Market with a friend or colleague today.

Our head of Corporate Credit Research Andrew Sheets explains why a stronger economy, moderate inflation and future rate cuts could prompt deal-making.

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Welcome to Thoughts on the Market. I'm Andrew Sheets, head of Corporate Credit Research at Morgan Stanley. Today I’ll discuss why we remain believers in a large, sustained uptick in corporate activity. 

It's Friday, November 15th at 2pm in London. 

We continue to think that 2024 will mark the start of a significant, multiyear uplift in global merger and acquisition activity – or M&A. In new work out this week, we are reiterating that view. While the 25 percent rise in volumes this year is actually somewhat short of our original expectations from March, the core drivers of a large and sustained increase in activity, in our view, remain intact. 

Those drivers remain multiple. Current levels of global M&A volumes are still unusually low relative to their own historical trend or the broader strength that we see in stock markets. The overall economy, which often matters for M&A activity, has been strong, especially in the US, while inflation continues to moderate and rate cuts have begun. We see motivations for sellers – from ageing private equity portfolios, maturing venture capital pipelines, and higher valuations for the median stock. And we see more factors driving buyers from $4 trillion of private market "dry powder," to around $7.5 trillion of cash that's sitting idly on non-financial balance sheets, to wide-open capital markets that provide the ability to finance deals. 

These high level drivers are also confirmed bottom up by boots on the ground. Our colleagues across Morgan Stanley Equity Research also see a stronger case for activity – and we polled over 60 global equity teams for their views. While the results vary by geography and sector, the Morgan Stanley Equity analysts who cover these sectors in the most depth also see a strong case for more activity. 

The policy backdrop also matters. While activity has risen this year, one reason it might not have risen as much as we initially expected was uncertainty about both when central banks would start cutting rates and the outcome of US elections. 

But both of those uncertainties have now, to some extent, waned. Rate cuts from the Fed, the ECB, and the Bank of England have now started, while the Red Sweep in US elections could, in our view, drive more animal spirits. And Europe is an important part of this story too, as we think the European Union’s new approach to consolidation could be more supportive for activity. For investors, an expectation that corporate activity will continue to rise is, in our view, supportive for Financial equities. 

Where could we be wrong? M&A activity does fundamentally depend on economic and market confidence; and a weaker than expected economy or weaker than expected equity market would drive lower than expected volumes. Policy still matters. And while we view the incoming US administration as more M&A supportive, that could be misguided – if policy changes dent corporate confidence or increase inflation. 

Finally, we think that a more multipolar world could actually support more M&A, as there’s a push to create more regional champions to compete on the global stage. But this could be incorrect, if those same global frictions disrupt activity or confidence more generally. Time will tell. 

Thanks for listening. If you enjoy the show, leave us a review wherever you listen and share Thoughts on the Market with a friend or colleague today.

While the market waits for the incoming Trump administration to present its policy agenda, our Global Head of Fixed Income and Thematic Research Michael Zezas maps out some areas of early investor interest, including regulation and the US Treasury market.

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Welcome to Thoughts on the Market. I’m Michael Zezas, Morgan Stanley’s Global Head of Fixed Income and Thematic Research. Today on the podcast we’ll be talking about key themes coming out of the US election.

It’s Thursday, Nov 14 at 10am in New York.

The US election is over, and now the work begins for President Trump and Republican leaders in Congress. They’ll continue to focus in the coming weeks on staffing key roles in the government and fleshing out the policy agenda. When it comes to the economic and markets outlook for 2025, those details will matter a lot – particularly the sequencing and severity of changes to tariffs, immigration, and tax policy. That means for us the next few weeks will be key to learning what next year will look like. But there are still some areas where there’s already some signal for investors to lean on. 

One is in the financial sector and relates to regulation. A potentially delayed or diluted approach to bank regulation resulting from the policies of the new administration is one reason that our Banks Analyst Betsy Graseck is flagging a more bullish outcome and substantial outperformance potential for the sector. Similarly, our global head of credit research, Andrew Sheets, notes this election outcome should boost M&A activity, where an expected 50 percent pick-up in volumes next year could reach 75 percent or more. 

Another area is industrials, a sector where companies tend to spend a lot on capital. The Republican sweep substantially increases the chances that key tax benefits reducing the cost of capital expenditures are extended in a timely fashion. 

And in the U.S. treasury market, there’s signs that the most volatile part of the increase in yields is behind us. While it's true that extending expiring tax cuts means deficits will be higher next year than they otherwise would have been, it's basically just an extension of current policy – so any incremental impact to growth and inflation expectations being priced into this market is still an open question. This should be helpful to fixed income markets finding their footing into year end. 

But, as we started off with, there’s a lot to be learned in the coming weeks, and we’ll flag here what you need to know and how it may impact the direction of markets. 

Thanks for listening. If you enjoy the show, please leave us a review wherever you listen to podcasts and share Thoughts on the Market with a friend or colleague today.

As President-Elect Trump’s new administration takes shape, all eyes are on fiscal policy that may follow. Our Global Chief Economist Seth Carpenter uses the United Kingdom’s recent election as a guide for how markets could react to a policy shift in the US.  

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Welcome to Thoughts on the Market. I'm Seth Carpenter, Morgan Stanley's Global Chief Economist, and today I'll be talking about the US election and fiscal policy and what lessons we might be able to draw from the fiscal experience in the UK. 

It's Wednesday, November 13th at 10am in New York.  

In a lot of our recent research, the US election has figured prominently, and we highlighted three key policy dimensions that the US administration is going to have to confront. Immigration, tariffs, and, of course, fiscal policy. We're going to keep elections as a theme, but it might be useful to draw some comparisons to the UK to see what lessons we might have for the US. 

We think the experience in the UK, which recently proposed a new fiscal budget months after an election, is relevant mostly because of the time between taking power and the budget being presented. While markets are in the business of anticipating changes, the process of actually creating policy is a lot more cumbersome and time consuming. 

In this week, where we've seen lots of expectations already being priced in, it's probably useful to try to think about that process of forming policy in the UK and see what lessons it implies for the US.  

Back in May, the UK elected a new government, changing party control after 14 years. A key moment for markets came just over a week ago, though, when the new government's presentation of their budget for the next fiscal year came up. 

Now, we should remember, the trust government had faced a market test when the announcement of their budget proposals led to a big sell off in interest rates. As a result, markets were keenly attuned this time to the new labor government's budget, particularly because the US fiscal position requires a primary balance to stabilize the debt to GDP ratio. And in particular, when their debt costs rise, when interest rates go up, the primary balances that are needed keep increasing if they want to keep the debt stable. 

Now, the new labor government proposed to fill a funding gap through tax increases while simultaneously increasing Government investment spending. To manage some of the communication challenges here, many of these proposals, especially about the tax increases, they were made public in advance. The likelihood of additional government spending was also well known, and UK rates had moved higher for months leading up to the formal presentation of the budget. 

But, markets reacted on the day of the budget reveal, despite all of that prelude. The degree of front loading of the investment spending was seen as a surprise in markets, as was the Office of Budget Responsibility's concurrent assessment that the policy would lead to higher growth, higher inflation, and as a result, a need for higher interest rates. 

Now, conversations with clients have brought up the similarities of the US and the UK. US interest costs are steadily rising as the cost of the debt reprices to the current yield curve. And, over time, the ratio of interest expense on the debt relative to, say, the GDP of the country, well, that's going to continue to rise as well, and it will very soon eclipse its previous all time high. 

So, fiscal consolidation would be needed in the United States if we really want to see a stabilized debt to GDP ratio. Markets will need to assess the credibility of fiscal policy and the scrutiny will increase the higher the interest burden gets. The budget process for the US is much less clear cut than that in the UK and deliberations and debates will likely happen over most of 2025. And there's an additional question of how much revenue tariffs might be able to generate on a sustained basis. History suggests that trade diversion tends to limit those revenue gains. All of these facts taken together suggest that the outlook for US fiscal policy will continue to evolve for quite some time.  

Well, thanks for listening, and if you enjoy this show, please leave us a review wherever you listen to podcasts and share thoughts on the market with a friend or a colleague today.

Our Chief Asia Economist Chetan Ahya discusses the potential impact of tariffs on China and other Asian countries following the US election.

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Welcome to Thoughts on the Market. I’m Chetan Ahya, Morgan Stanley’s Chief Asia Economist. Today on the podcast – with a Republican White House now in place, tariffs are the key issue that will matter to Asia.

It’s Tuesday, November 12, at 2 PM in Hong Kong. 

With the US election results in, the question now is not if there will be tariff hikes, but when and how much. Will China alone see rising tariffs, or will there be universal tariff imposed on all imports to the US? 

The previous president Trump administration imposed several tariffs on Chinese imports beginning in 2018. And looking back, our learning is that weaker corporate confidence weighed more heavily on Asia’s growth outlook than the direct effect of tariffs on exports. Just to elaborate on the point on direct impact of tariffs: Despite the tariffs imposed on China during that period, what we observed is that China’s market share in global goods exports improved after the US started to impose tariffs on imports from China. 

Looking forward, let’s consider a scenario of 50 per cent tariffs on China alone. The hit to global and China corporate confidence may not be as large as it was in 2018 and 2019. This is in part because US-China trade tensions have persisted for several years now. Companies have invested in diversifying their supply chains since then, and the US share in China's exports has declined since 2017. Given all this, the drag on China’s exports may be less than the 1 percentage point that we saw last time. 

The rest of Asia would also experience a slowdown, but we think the overall drag on growth would be less significant this time. The effects on individual economies would differ based on their exposure to China. We think Australia and Indonesia will be more exposed. Korea, Taiwan, Malaysia, and Thailand would be moderately exposed. And India and Japan would be less exposed given a low share of export to China. 

But what happens if the US imposes 50 per cent tariffs on China and a 10 per cent universal tariff on the rest of the world? In this scenario, the damage to corporate confidence and the global capex and trade cycle would be much larger. The drag could be similar or greater than what we saw in 2018 and 2019. Asia excluding China has now become more dependent on the US as a source of end-demand. Global supply chains might have to be rewired yet again. This would cause a significant disruption to the corporate sector and a material impact on Asia’s growth trajectory. 

Of course, the final effect of US tariffs on Asia growth would also depend on the scale of policy support. Asia’s policy makers could allow their currencies to depreciate in response to a strong dollar. Then, against a backdrop of weaker currencies, Asia’s central banks could be constrained in their ability to cut rates immediately – similar to what happened in 2018-[20]19. 

Hence, they would prefer to take a fiscal easing first. Back in 2017-[20]19, Asia's fiscal deficit widened in aggregate by 1.1 percentage point as policymakers sought to provide some cushion to growth downside. Once currencies stabilize, they will take up monetary easing.

Things may move quickly once Trump takes office in January, and we will continue to keep you updated. 

Thanks for listening. If you enjoy the show, please leave us a review wherever you listen and share Thoughts on the Market with a friend or colleague today.

With the Republican party poised to clinch control of the White House and Congress, our CIO and Chief US Equity Strategist says markets are readying for a lighter regulatory environment, supportive tax policy and a possible rebound in investor enthusiasm.

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Welcome to Thoughts on the Market. I'm Mike Wilson, Morgan Stanley’s CIO and Chief US Equity Strategist. Today on the podcast I'll be talking about the results of last week’s election and its impact on equity markets.

It's Monday, Nov 11th at 11:30am in New York.

So let’s get after it.

Our work leading up to the election showed that stocks likely to benefit from a Republican sweep did not actually see material outperformance up and through November 5th. In other words, this political outcome was not fully priced. As a result, this allowed for significant outperformance of Financials, Industrials, and other cyclicals last week. We see further follow through to the upside in quality cyclicals as prospects for a lighter regulatory environment, supportive tax policy and a potential rebound in animal spirits should rise following the election outcome. These developments came on the back of a macro backdrop that was already becoming more supportive of cyclical outperformance – and why we upgraded this cohort to overweight in early October. We continue to be sellers though of tariff-exposed consumer stocks and renewable energy stocks. 

Our upgrade to Financials in early October was rooted in our view that expectations were low going into earnings season while positioning remained light. Our work since then showed that the majority of the group's outperformance into the election could be explained by strong earnings revisions as opposed to rising odds of a Trump win in prediction markets. Now that we have the election results in hand, it appears that expectations for de-regulation are also driving performance upside in addition to improving fundamentals.  

While the 2016 playbook would suggest small caps and lower quality equities could see a period  of outperformance following the election, there are a couple of important differences worth considering. First, several of these areas of the market are exhibiting a negative correlation to interest rates today whereas they were showing a positive correlation in 2016. In other words, in today's later cycle environment, these cohorts' adverse sensitivity to rising rates is greater than it was in that period. Should rates see more upside post the election, there is likely less upside this time for small caps and lower quality cyclicals. Furthermore, relative earnings revisions breadth for small cap cyclicals is negative today, whereas it was positive in 2016. Finally, even with the increase in animal spirits following the 2016 election, small caps' relative performance peaked in early December of that year, just one month after the election.

While the momentum remains to the upside for US equity markets led by quality cyclicals, it's  worth considering the potential risks. The first one is a material move higher in interest rates driven by a rising term premium. The 50 basis point rise in term premium so far has not been enough to worry equity investors yet. However, should the term premium accelerate materially from here driven by fiscal sustainability concerns, equity valuations would likely face headwinds. Second, one of the more popular views in the macro community is for a stronger dollar. If such strength continues into year-end, it could provide a headwind to multinationals' Earnings growth for 2024 and 2025.

 A final risk to the positive price momentum is simply price itself. Over the past several months, the price change of the S&P 500 has distanced itself from the fundamentals. More specifically, the year-over-year change in the S&P has rarely been this disconnected from earnings revision breadth and business confidence surveys. However, given the positive reaction to the election so far in markets and from many business leaders, perhaps animal spirits can take earnings guidance higher – which is necessary to maintain the current trajectory in equity markets, especially since that is now expected by stock prices.  

Thanks for listening. If you enjoy the podcast, leave us a review wherever you listen, and share Thoughts on the Market with a friend or colleague today.

Our head of Corporate Credit Research Andrew Sheets provides an overview of uncertainty around policy following the election of a Republican administration.

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Welcome to Thoughts on the Market. I'm Andrew Sheets, head of Corporate Credit Research at Morgan Stanley. Today I’m going to talk about the US election - the implications in the past, present and future. 

It's Friday, November 8th at 2pm in London. 

The US Election is over, and the result was relatively clear. Republicans won control of the Presidency, the Senate, and on current projections, are likely to narrowly take the House of Representatives. The so-called ‘sweep’ will provide significant leeway to enact policy. 

There is going to be lots of time over future weeks and months, and even years, to discuss what all of this is going to mean. But for now, I want to offer a few thoughts on the impact across the past, the present and the future. 

Looking back, the US election has been a very well-known uncertainty that has hung over this market all year. The polling was close between two candidates with very different policy priorities. To the extent the simply not knowing was holding some investors back, or that investors were worried about a contested outcome, or even worse, political unrest – that issue has now passed. The relief from that passing may help explain some of the recent positive market reaction. 

For the present, we now sit in this curious middle-place where the uncertainty of the result is behind us, but any uncertainty from policy changes have not yet arrived. Coupled with still strong US economic data, another interest rate cut from the Federal Reserve yesterday, and the tendency of markets to perform well in November and December, and the path of least resistance in the near term may be for markets to continue to trade well.

The future, however, may have just become less certain. Credit likes moderation and stability, and we think the current economic mix, with US GDP growth and inflation at both around 2.5 per cent, while the unemployment rate sits near historic lows at 4.2 per cent, has been a good one for credit. It’s been a major driver of our optimistic spread forecasts this year. 

Yet based on exit polls, US voters were not happy with this economy, and voted for change. The question, which will now dominate investor conversations, is how much of what the new administration has said they will do, will end up happening – on everything from tariffs, to taxes, to immigration. 

I can assure you that there’s a very wide investor expectations around this. The ambiguity isn’t necessarily a problem now, but we expect these questions to harden as we get into early next year. And given the likely sweep, the odds for larger changes in policy, especially much looser fiscal policy, have risen significantly. Whatever your average expectation for the US economy over the next 24 months now is, we think the bands around that have widened, and that’s also true globally, from Latin America, to Europe, to Asia. 

To be a little more specific about these wider bands: To the downside, there are now scenarios where tariffs and deportations push up inflation and weaken growth. And to the upside, there are scenarios where potentially lower taxes and looser regulation could drive higher stock markets and more corporate animal spirits. 

But for credit, both of these present challenges: tight spreads are absolutely not priced for stagflation, while animal spirits and more corporate aggression aren’t necessarily a great story if you’re a lender. A more benign, middle scenario is, of course, still possible, and we’re keeping an open mind. But the future has now become more uncertain. 

Thanks for listening. If you enjoy the show, please leave us a review wherever you listen and share Thoughts on the Market with a friend or colleague today.

Our panel of analysts discusses the health of the US consumer through the lens of spending, credit use and home ownership. 

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James Egan: Welcome to Thoughts on the Market. I'm James Egan, Morgan Stanley's co-head of Securitized Product Strategy, and today we're going to take a look at the state of the US consumer from several different perspectives.

Recent economic data suggests that the US economy is strong, and that inflation is on a downward trend. Yet, some of the underlying performance data is a little bit weaker. To understand what's happening, I'm joined by my colleagues Arunima Sinha and Heather Berger from the Global and US Economics teams.

It's Thursday, November 7th, at 10am in New York.

Now, the macro data on the consumer has looked pretty strong. Arunima, can you give a little bit more detail here? And specifically, how has consumer spending in the US been trending relative to where it was last year?

Arunima Sinha: So, a good place to start, Jim, would be just to see where consumption spending was last year. And there it ended on a strong note. And in the first three-quarters of 2023, the average quarterly analyzed growth for consumption was just under 3 per cent. And that's where we are this year. We've seen solid growth rates in all three quarters this year, with the third quarter at 3.7 per cent. A particularly interesting aspect has been that the spending on goods has actually accelerated this year, with the third [quarter] number at a blistering 6.0 per cent on a quarterly basis.

We have chalked this down to labor income growth remaining robust; and we did an analysis which showed that past growth in labor income boosts real consumption spending. Over this year, labor compensation has been growing strongly. So over 6 per cent in the first quarter and about 3.5 per cent in quarters two and three.

And so, we continue to expect that that solid labor income growth is going to continue to boost real consumption spending.

James Egan: All right. So, if I'm hearing you correctly – good spending, holding up; services, holding up. What about discretionary versus non-discretionary spend?

Arunima Sinha: That's a great question, Jim, especially because discretionary spending is 70 per cent of all nominal personal consumption spending in the US. So just for context, what does discretionary include? It's going to be all the spending on durable goods, some non-durables, and then non-essential services such as health and transport, financial services, etc. And what we also saw – that a larger share of labor income is now being spent on discretionary items relative to the pre-COVID phase.

So where are growth rates running? Discretionary spending is running strong on both a nominal and a real basis. So, on a nominal basis, we have about 5.5 to 6 per cent year on year, over this year, and over 3 per cent on a real basis. And these are largely in line with pre-COVID rates, if a little bit stronger now.

For non-discretionary spending – that's the spending on food at home, and clothing, energy, and housing services – nominal spending has been decent. So, 4 per cent year on year on the first three quarters this year, and real spending has been a little bit less than the pre-COVID rate. So, between 0.5 per cent to 1 per cent. And so, this suggests what we expected to see, which is there's likely greater price sensitivity among consumers for these non-discretionary categories.

What do we see going forward? We think that those increases in labor income are going to continue to provide boosts to discretionary spending. And one of the interesting aspects that we found was that lending standards seem to matter for discretionary spending. So, there's been some slowing down and the tightening of lending standards – and that could provide a further tailwind to discretionary spending.

James Egan: Alright, that all sounds pretty positive and makes sense as to why we're getting so many questions about economic data that looks very healthy from a consumer perspective. But then, Heather. Other consumer data is showing a little bit more weakness. Arunima just mentioned credit standards. What are we seeing from the performance perspective on the consumer credit side?

Heather Berger: Well, as you mentioned, the consumer credit data has shown more weakness, as more consumers are missing payments on their loans. We initially saw delinquency rates start to pick up in loans concentrated towards consumers with lower credit scores, such as subprime auto loans and unsecured personal loans, as those consumers were more affected early on by high inflation and then rising rates.

Delinquency rates for those lower credit score loans are near the highest we have on record in some cases. In the past year, though, we have also seen that delinquency rates have picked up in loans aimed at consumers with higher credit scores, such as credit cards and prime auto loans. The weakness in these is not as extreme as in subprime, but the delinquency rates of the loans taken out recently is still relatively high historically. 

James Egan: So, it sounds like what you are describing is that there are pockets of consumers that are feeling more weakness than others.

Heather Berger: Yes, exactly. And so, on the prime consumer side, even if these consumers have higher credit scores or higher incomes, if they took out loans recently, they likely did so at higher rates, and they're really feeling the pressures of higher debt service costs.

We can also see some of the bifurcation between low income and high-income consumers. In some of the more detailed economic data, we have a breakdown of 2023 spending by income group, which is a bit outdated but still useful to see the narrative – and what it shows is that in 2023 higher income consumers made up near the largest share of discretionary spending as they have historically. For lower income consumers, their spending has shifted more towards essentials, with shelter increasing the most as a share of their spending from the prior year.

Now, Jim, we really think that the housing backdrop has played a role here, so can you explain a bit more of what's going on there?

James Egan: Yes, now my co-head of Securitized Product Strategy, Jay Bacow, and I have been on this podcast a few times talking about the role that the housing market is playing in the economy right now. We've really talked about the lock in effect. And when we're thinking about the role that housing plays in the consumer specifically, we're talking about lower income households, more discretionary spending, shelter increasing that's not happening at the higher end, and we think that's the lock in effect.

A majority of homeowners were able to get low fixed rate mortgages for 30 years with 3 or 4 per cent mortgage rates. The effective mortgage rate would be on the outstanding market right now is, average is 4 per cent. Prevailing rates are north of 6 per cent right now. So that has helped that higher end consumer who is more likely to be a homeowner – 65 per cent of the US households are homeowners – maintain that lower level.

But I don't want to gloss over that entirely. Other costs of homeownership are increasing. For instance, property taxes and insurance costs are up. Homeowners have realized swelling home equity amounts amid record home price growth in recent years; perhaps giving them more confidence to spend, but that equity hasn't exactly been easy to access.

Now, second lean and HELOC balances have been increasing; but the amount of equity that's being withdrawn falls well shy of previous highs, which were set back in 2009. And that's despite the fact that the overall equity in the housing market is $20 trillion larger today than it was back then. While the equity itself should provide a buffer for homeowning consumers from ultimately defaulting, these dynamics could be resulting in some of the short-term delinquency increases that we think we're seeing in products like Prime Auto, for example.

But Arunima, can you tie a bow on this for us? What does all of this mean for the consumer moving forward?

Arunima Sinha: Moving forward Jim, we really just see a solid consumer. So, for the end of this year, our forecast is real consumption spending growing at 2.6 per cent; at the end of next year at over 2 per cent. And that really is tied to our view on the labor market – that it's going to continue to decelerate, but not in any sudden ways.

So that's it. We are seeing a strong consumer, and we are going to be watching for pockets of weakness.

James Egan: All right. Arunima, Heather, thanks for taking the time to talk.

Arunima Sinha: Thanks so much for having me on, Jim.

Heather Berger: Great talking to you both.

James Egan: And to our listeners, thanks for listening. If you enjoy Thoughts on the Market, please leave us a review wherever you listen and share the podcast with a friend or colleague today.