Morgan Stanley anticipates further upside for U.S. equities, but advises investors to remain patient as the path forward may be uneven.
The firm’s cross-asset strategy team, led by Serena Tang, projects the S&P 500 to reach 6,500 by the second quarter of next year—a roughly 9.5% increase from current levels. However, the timing of these gains hinges on a combination of factors that are unlikely to materialize in the near term: meaningful Federal Reserve rate cuts, deregulatory policy momentum, and a softening U.S. dollar.
The team emphasized that while the broader market outlook remains constructive, near-term catalysts are limited. Treasury yields are holding within a narrow range, and geopolitical and trade-related uncertainties continue to weigh on corporate guidance and investor confidence. As a result, the market may struggle for direction until macro conditions evolve more decisively.
In its latest asset allocation update, Morgan Stanley upgraded its view on U.S. equities to Overweight from Neutral, citing relative strength amid a globally decelerating—but still expanding—economic environment. The team maintained an Equal Weight rating on global equities overall, but noted that U.S. markets are better positioned to benefit from anticipated monetary easing and pro-growth policy shifts.
Markets have already staged an impressive rebound since early April. The S&P 500 has gained 6.6% month-to-date and now stands nearly 19% above its April lows, a rally largely attributed to stronger-than-expected first-quarter earnings and easing investor concerns over the immediate economic impact of U.S. tariff policy. According to LSEG data, earnings for S&P 500 companies are projected to rise more than 14% from a year earlier—an improvement of nearly five percentage points compared to earlier forecasts.
However, forward guidance from corporate leaders suggests that profit growth will moderate over the balance of the year. Consensus expectations call for earnings growth to slow to approximately 6.9% in the second quarter, with single-digit increases projected for Q3 and Q4.
Morgan Stanley does not expect equities to retest April lows, barring a material deterioration in trade conditions or macro surprises. “The market’s sharp drawdowns earlier this year were largely driven by tariff-related headline risk,” the firm wrote. “Absent additional shocks, the downside appears limited in the near term.”
Still, the rate environment remains a key constraint on equity valuations. Treasury yields have risen from their spring lows but have largely plateaued in recent weeks. The 10-year Treasury yield stood at 4.535% on Wednesday morning, up 36 basis points from early April, while 2-year yields pushed above 4%, reflecting persistent uncertainty around inflation and Fed policy direction.
Fed officials have reinforced their cautious stance, signaling little urgency to begin rate cuts. Speaking at the Mortgage Bankers Association conference earlier this week, New York Fed President John Williams said the central bank would likely not have sufficient clarity on the economic outlook until later in the year. “It’s not going to be that in June we’re going to understand what’s happening here, or in July,” he noted. “It’s going to be a process of collecting data, getting a better picture, and watching things as they develop.”
According to Morgan Stanley, the turning point may arrive in the fourth quarter. The firm expects the Fed to hold rates steady through the summer but sees a shift in policy expectations building toward the September FOMC meeting, when updated forecasts for growth and inflation will be released. The team is projecting a series of quarter-point cuts beginning in 2026, with seven total reductions anticipated over the year.
“Substantial monetary easing is ahead,” the strategists wrote. “Combined with the effects of expected deregulation, we believe this policy environment will support higher equity valuations and extend the current bull market.”
The firm sees this easing cycle pulling 10-year Treasury yields down to approximately 3.45% by mid-2026—nearly a full percentage point below current levels. That move, they argue, would create a more favorable backdrop for risk assets, particularly U.S. large-cap equities.
Morgan Stanley’s call comes at a time when investor sentiment remains fragile. Despite the S&P 500’s recent gains, fund flows have been uneven, and many advisors remain cautious amid political volatility and slowing global trade. However, Tang and her team believe that patient investors will be rewarded as inflation recedes and policymakers shift toward more accommodative postures.
“Equity markets may remain range-bound in the near term, but the fundamental supports for a second-leg rally are forming,” the team wrote. “Earnings resilience, dovish policy pivot, and improving clarity on trade all point toward further upside into 2025.”
For advisors navigating client portfolios through this transition, the message is clear: maintain U.S. equity exposure, particularly in sectors that stand to benefit from lower rates and reduced regulatory burdens, but prepare for a slower grind higher rather than a rapid breakout. The anticipated policy tailwinds—monetary and fiscal—are likely to take shape over several quarters, not weeks.
In the meantime, Morgan Stanley suggests maintaining a balanced approach, with attention to duration risk and sector allocation. Rate-sensitive areas such as technology, industrials, and consumer discretionary could outperform if yields fall as expected, while defensives may underperform relative to the broader market.
Overall, the firm’s updated outlook supports a constructive stance on U.S. equities, though it comes with a caveat: timing matters, and the recovery in valuations will likely be gradual, driven by incremental shifts in policy, inflation data, and earnings clarity.
“We see a path to meaningful equity upside,” Tang concluded, “but investors need to recognize that the next phase of this market cycle will require both conviction and patience.”
