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Global Insight
November 13, 2022 06:01 PM GMT
2023 Global Strategy Outlook
The Year of Yield
Less growth, inflation, and policy tightening mean the US dollar peaks and high grade
bonds and EM outperform. US stocks, HY, and metals lag. It's a good year for 'income'
investing.
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Global Insight
Contributors
2
Morgan Stanley & Co. International plc+
Morgan Stanley & Co. LLC
Morgan Stanley & Co. International plc+
Andrew Sheets
Serena W Tang
David S. Adams, CFA
Strategist
Strategist
Strategist
+44 20 7677-2905
+1 212 761-3380
+44 20 7425-3518
Andrew.Sheets@morganstanley.com
Serena.Tang@morganstanley.com
David.S.Adams@morganstanley.com
Morgan Stanley & Co. LLC
Morgan Stanley & Co. International plc+
Morgan Stanley & Co. International plc+
Jay Bacow
Max S Blass
Theologis Chapsalis, CFA
Strategist
Strategist
Strategist
+1 212 761-2647
+44 20 7677-9569
+44 20 7425-3330
Jay.Bacow@morganstanley.com
Max.Blass@morganstanley.com
Theologis.Chapsalis@morganstanley.com
Morgan Stanley Asia Limited+
Morgan Stanley & Co. LLC
Morgan Stanley & Co. LLC
Min Dai
Guneet Dhingra, CFA
James Egan
Strategist
Strategist
Strategist
+852 2239-7983
+1 212 761-1445
+1 212 761-4715
Min.Dai@morganstanley.com
Guneet.Dhingra@morganstanley.com
James.F.Egan@MorganStanley.com
Morgan Stanley Asia Limited+
Morgan Stanley & Co. International plc+
Morgan Stanley & Co. LLC
Jonathan F Garner
Vasundhara Goel
Matthew Hornbach
Equity Strategist
Strategist
Strategist
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+44 20 7677-0693
+1 212 761-1837
Jonathan.Garner@morganstanley.com
Vasundhara.Goel@morganstanley.com
Matthew.Hornbach@morganstanley.com
Morgan Stanley & Co. International plc+
Morgan Stanley & Co. International plc+
Morgan Stanley & Co. International plc+
Stephan M Kessler
James K Lord
Eric S Oynoyan
Quantitative Analyst
Strategist
Strategist
+44 20 7425-2854
+44 20 7677-3254
+44 20 7425-1945
Stephan.Kessler@morganstanley.com
James.Lord@morganstanley.com
Eric.Oynoyan@morganstanley.com
Morgan Stanley & Co. LLC
Morgan Stanley & Co. International plc+
Morgan Stanley & Co. International plc+
Vishwas Patkar
Phanikiran L Naraparaju
Martijn Rats, CFA
Strategist
Strategist
Equity Analyst and Commodities Strategist
+1 212 761-8041
+44 20 7677-5065
+44 20 7425-6618
Vishwas.Patkar@morganstanley.com
Phanikiran.Naraparaju@morganstanley.com
Martijn.Rats@morganstanley.com
Morgan Stanley Asia Limited+
Morgan Stanley & Co. LLC
Morgan Stanley & Co. International plc+
Kelvin Pang
Srikanth Sankaran
Graham Secker
Strategist
Strategist
Equity Strategist
+852 2848-8204
+1 212 761-3910
+44 20 7425-6188
Kelvin.Pang@morganstanley.com
Srikanth.Sankaran@morganstanley.com
Graham.Secker@morganstanley.com
Morgan Stanley & Co. International plc+
Morgan Stanley & Co. LLC
Morgan Stanley & Co. LLC
Amy Sergeant, CFA
Mark T Schmidt, CFA
Vishwanath Tirupattur
Commodities Strategist
Strategist
Strategist
+44 20 7677-6937
+1 212 296-8702
+1 212 761-1043
Amy.Sergeant@morganstanley.com
Mark.Schmidt1@morganstanley.com
Vishwanath.Tirupattur@morganstanley.com
Morgan Stanley & Co. International plc+
Morgan Stanley & Co. LLC
Morgan Stanley Asia Limited+
Marius van Straaten
Andrew M Watrous
Gilbert Wong, CFA
Commodities Strategist
Strategist
Quantitative Strategist
+44 20 7677-5632
+1 212 761-5287
+852 2848-7102
Marius.Van.Straaten@morganstanley.com
Andrew.Watrous@morganstanley.com
Gilbert.Wong@morganstanley.com
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Global Insight
Contents
5 Cross-Asset Strategy: Respect Sequencing,
Embrace Income
40 Global Volatility: Ahead of the Cycle
41 Global Quant: Diversify Through the Transition
11 Top Trades Across Asset Classes
44 Sustainability: Impact and Alpha in Focus
12 Global Equities: Still Finding a Trough, but EM
and Japan Leading the Way Up
47 What We Debated
18 G10 Rates: A Countertrend Rally Awaits
48 How Consistent Are Our Forecasts?
22 FX: The Fever Breaks...and So Does USD
49 Expected Returns and Risk/Reward
25 Global EM Fixed Income: Time for a Rebound
50 Morgan Stanley Key Economic Forecasts
28 Global Credit: Banking on Income
51 Morgan Stanley Global Currency Forecasts
32 Global Securitized Products: The Price Is Right
52 Morgan Stanley Government Bond Yield/Spread
Forecasts
36 Munis: Positioning for the Turn
53 Valuation Methodology and Risks
37 Commodities: A Third Year of Outperformance?
Morgan Stanley Research
3
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Global Insight
The Year of Yield
Respect sequencing, embrace income: EM bottoms and yields and
the US dollar peak as markets first price less uncertainty around the
policy path. The S&P 500, cyclicals, metals, and HY trough later as
confidence in growth takes more time. Opportunities for 'income'
For individual investors, our market outlook should be seen in the context of a long investment horizon that
abound, especially in high-quality bonds, where Treasuries, Bunds, IG
is underpinned by a comprehensive financial plan. Your clients' financial plan should reflect the goals they
credit, agency MBS, CLO AAAs, and US municipals all offer high sin-
are looking to achieve over time and a disciplined approach to asset allocation, saving and withdrawals.
gle-digit returns. Sell vol.
Global equities – EM and Japan lead, styles disperse: Similar to
prior cycles, EM troughs before the US and Japan enjoys idiosyncratic
tailwinds. This sequencing drives differing style preferences;
embrace semis/hardware and SMID stocks in EM, stay defensive in
the US, own financials and energy in Europe. We see the S&P 500 at
3,900 at end-2023.
G10 rates – overweight duration: Markets look ahead to slowing
inflation and an end to hikes/start of cuts. We see the UST 10-year at
3.50% and the DBR 10-year at 1.50% at end-2023. Curves across the
globe steepen, BTPs tighten, and UKTs underperform.
G10 FX – dollar peak: The dollar peaks as uncertainty around tightening abates. EUR outperforms as investment flows resume. EUR/
GBP and NZD/USD outperform. We see the DXY at 104 by end-2023.
EM fixed income – time for a rebound: A peak in DM policy rates and
the dollar coincides with an EM easing cycle. EM local and hard currency bonds post strong returns. We receive BRL 2-year and pay CNY
5-year NDIRS.
Corporate credit – IG stable, HY has unfinished business: Lower
rate vol helps IG while HY widens to reflect an extended default cycle.
Stay up in quality: IG > HY > loans. We see a 4.0-4.5% US HY default
rate and prefer Main to CDX IG.
Securitized products – less supply, safe income: Spreads on agency
MBS, CLOs, and auto ABS are the widest since the pandemic.
Technicals should improve. CRE underperforms.
Commodities – still energy over metals: Weak 1Q growth keeps
prices muted early, but oil outperforms gold and copper (again) on
better fundamentals. We see Brent at US$110 at end-2023 (~30%
above the forward).
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Global Insight
Cross-Asset Strategy: Respect Sequencing,
Embrace Income
Andrew Sheets
Phanikiran Naraparaju
Andrew.Sheets@morganstanley.com
Phanikiran.Naraparaju@morganstanley.com
+44 20 7677-2905
+44 20 7677-5065
Morgan Stanley & Co. International plc+
Morgan Stanley & Co. International plc+
Serena Tang
Soham Sen
Serena.Tang@morganstanley.com
Soham.Sen1@morganstanley.com
+1 212 761-3380
+91 22 6514-3422
Morgan Stanley & Co. LLC
Morgan Stanley India Company Private Limited+
Key investment ideas
• Respect sequencing: As growth/inflation slow and central banks pause, assets more
sensitive to rate uncertainty will bottom first. EM > DM, bonds > stocks. Vol lower. DXY
peaks.
• Embrace an income/value barbell: Both valuations and the cycle support a barbell of
high-quality 'income' (high grade bonds, US defensive equities) with 'value' (EM stocks and
bonds, EU banks/energy, Japan equities, EM tech/semis).
In 2022 the training wheels came off as enormous fiscal and monetary
Exhibit 1:
policy support ended, then reversed. The result was a tempest; if it
2022 was unprecedented
1871
ended today, 2022 would be the first year that US stocks and long-term
Underperformance in both bonds and equities is rare –
1891
1911
1931
1951
1971
1991
2011
60%
bonds are both down more than 10% in the last 150 years...and both
The losses of 2022 make it tempting to look back – in awe, in frustration, in anger. Don’t. We expect 2023 to look different for the
economy and markets: growth will be worse, inflation will be lower,
and cross-asset returns – especially in fixed income – will look much
better. Cheaper starting valuations, wrought by this year’s poor per-
40%
Equity Annual Return
markets are down much more than 10%.
20%
0%
-20%
2022 YTD
-40%
-60%
-40%
-30%
-20%
-10%
0%
10%
20%
30%
40%
Bond Annual Return
formance, are a big part of this story.
Source: Bloomberg, NBER, Jordà-Schularick-Taylor Macrohistory Database, Morgan Stanley Research;
Note: Data back to 1871. Bond return is return on long-maturity UST. As of November 9, 2022.
Weaker growth – cooler inflation – policy pause
Exhibit 2:
This outlook is a close collaboration with Morgan Stanley economists, who see a deeper global slowdown arriving early next year
(1Q23). Europe goes into recession, China waits until spring to end
Covid-zero, and the US barely skirts recession as housing activity
US
Euro Area
China
Morgan Stanley growth, inflation and policy forecasts
GDP (%YoY)
2023 4QE
0.3
-0.1
5.1
Core Inflation (%YoY)
2023 4QE
2.9
2.5
1.2
Policy Rate (%)
4QE 2023 4QE 2024
4.375
2.375
2.500
2.000
2.000
2.000
Source: Morgan Stanley Research forecasts
plummets. The silver lining is that this weakness is short and shallow;
global growth bottoms around March/April, and improves thereafter.
Morgan Stanley Research
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Global Insight
Slower growth masks a larger 'mix shift' in consumption. The post-
Exhibit 3:
Covid rebound saw a remarkable boom in goods relative to services
headwind to EPS
(a lot of households bought BBQs but stopped going to the dentist,
so to speak). That was great for corporate profitability, which is more
goods-sensitive. As this normalizes, we expect a payback that will be
Further normalization of goods versus services is a
US PCE
135
Goods
Overall
Services
125
tough for profits, a reason why our forecasts for US and European
115
EPS look cautious versus our GDP estimates or consensus.
105
95
Inflation moderates and central banks pause
85
75
Jan-17
Slower growth is a function of tighter monetary policy. The last 12
Jan-18
Jan-19
Jan-20
Jan-21
Jan-22
Source: Bloomberg, Morgan Stanley Research
months have seen the largest change in the fed funds rate since 1981,
in the ECB target rate since the eurozone was created, and the
broadest tightening of global central bank policy since at least 1980.
Exhibit 4:
DM policy rates to pause their rise, then reverse over
2023-24
Average of US and EU Policy Rate (%)
That tightening was so aggressive because inflation kept beating
expectations. Going forward, this changes. Our economists expect
core inflation to moderate across EM and DM, allowing the global
tightening cycle to pause, then reverse.
4.0
3.5
3.0
2.5
2.0
1.5
1.0
Why does inflation finally retreat? Skepticism here is understandable; inflation forecasting hasn’t exactly covered itself in glory. But
we see several specific supports:
MS Forecast
0.5
0.0
-0.5
Jan-22
Jun-22
Nov-22
Apr-23
Sep-23
Feb-24
Jul-24
Dec-24
Source: Bloomberg, Morgan Stanley Research forecasts
• In the US, core goods prices can show outright declines as used car
Exhibit 5:
prices fall, overshooting goods consumption moderates (see above),
US Cycle Indicator
and high inventories invite discounting. Trends in shelter look more
1.0
balanced as rates on new leases cool.
0.5
Morgan Stanley cycle indicator – peaking out
0.0
-0.5
• In the eurozone, large base effects in food and energy should
-1.0
reverse, while our economists' forecast of a recession eases core
-1.5
price pressures.
-2.0
-2.5
1985
• Inflation in EM should generally improve, while inflation in DM Asia
is already more muted.
1990
1995
Expansion
2000
2005
Downturn
2010
Repair
2015
2020
Recovery
Source: Bloomberg, Datastream, Haver Analytics, Morgan Stanley Research; Note: Data as of October 31,
2022.
Less core inflation finally gives central banks license to pause (and
then reverse) the tightening cycle. We expect the Fed and ECB to
make their final hikes in January and March 2023, respectively, with
the Fed cutting by 4Q23. Meanwhile, several large EM central banks,
sees weaker growth, disinflation, and rate hikes end/reverse, all with
which were well out in front of their DM counterparts, start to ease
very different starting valuations. It seems reasonable to think we’ll
materially. By end-2023, we forecast that policy rates decline by
see different outcomes.
275bp in Brazil, 250bp in Hungary, and 475bp in Chile.
Yet one debate looms large: Should investors focus on the fact that
The battle between ‘downturn’ and 'the last hike’
a 'hot' economy slowing (the ‘downturn’ regime of our cycle indicator) tends to be tough for cyclical assets like equities and high yield
For markets, this presents a very different backdrop. 2022 was
( Exhibit 5 )? Or should they focus on the 'end of central bank hiking',
marked by resilient growth, high inflation, and hawkish policy. 2023
which has historically brought relief ( Exhibit 6 )?
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Global Insight
Two points are important:
Exhibit 6:
Both stocks and bonds tend to do well after the 'last'
1) The tension between 'slower growth is bad' and 'the end of hiking
Perf. Around Last Fed Hike (T0 = 100)
Fed hike
is good' often comes down to how bad the slowdown is. If a recession
120
can be avoided (our US base case), a downturn from ‘hot’ conditions
115
has mattered less (think 1995). If a recession arrives, the ‘end of
110
hiking’ is much less helpful (think 2000).
105
S&P 500
DXY
USD 10Y (Rtns)
Gold
100
2) This tension doesn’t matter as much to high-quality bonds, which
95
outperform more consistently when the Fed stops hiking. High grade
90
-260
bonds performed well in both 1995 and 2000.
-195
-130
-65
0
65
Business Days (Last Hike = 0)
130
195
260
Source: Bloomberg, Morgan Stanley Research; Note: Covers last Fed hikes – May 1981, Aug 1984, Feb
1989, Feb 1995, Mar 1997, May 2000, Jun 2006, Dec 2018.
Slowing growth and end of hiking mean that investors should be
overweight high-quality bonds on a cross-asset basis. Uncertainty
Embracing income
around how far growth falls in 1Q23 suggests that more patience is
warranted in US equities and high yield, especially if the S&P 500 hits
As investors wait for this sequencing to play out, they should
our strategists' near-term tactical target of 4,000-4,150.
embrace income. We think that this is an exceptional environment for
generating high single-digit returns from high-quality assets, an
Respect sequencing
opportunity that hasn’t presented itself for a long time.
To frame this a slightly different way, many assets can be filtered into
To show what we mean, imagine a 'multi-asset income' fund that puts
one of two categories:
equal amounts into each of the five common ‘income’ strategies: US
Aggregate bonds, EM hard currency debt, global high-dividend equi-
Category 1: Assets worried about a continued overshoot of policy
ties, EM FX and US TIPS. Outside a brief window in 2009, it's the
tightening and the uncertainty that comes with it. Treasuries, Bunds,
highest yield for 'income' in 18+ years.
US MBS, and US and EUR IG would all be examples, along with much
of EM (where DM rate and FX volatility have been primary concerns).
Exhibit 7:
Yield on a multi-asset income portfolio has rarely been
this attractive
Yield (%)
Category 2: Assets worried about the above, but that are also sensi-
7
tive to a worse outcome for growth and earnings. Cyclical equities,
6
high yield bonds, and leveraged loans would all be examples.
5
Average Yield of US Agg, EM Sovs, TIPS Real Yield,
High Dividend Stocks, EM FX Carry
4
We think that category 1 assets will trough before those in cate-
3
gory 2, as markets gain confidence around the 'end of tightening'
2
before a 'bottom in growth'. Investors should respect that
sequencing, and favor category 1 assets going into 2023. This means
that positioning for EM > US equities, IG > HY credit, a decline in DM
yields, and less cross-asset volatility is attractive.
1
Jan-04
Jan-07
Jan-10
Jan-13
Jan-16
Jan-19
Jan-22
Source: Bloomberg, Morgan Stanley Research
Several factors align to create the 'income' opportunity. Real and
nominal yields have risen sharply. Credit spreads have widened. Bank
This also shows up in our more ‘micro’ recommendations. EM equities
deleveraging has driven yields on MBS and securitized assets wider.
were one of the first asset classes to roll over in this cycle, with MSCI
Cross-asset implied volatility is high (meaning income for vol sellers).
EM peaking way back in February 2021. Falling well ahead of the S&P
Some commodity curves are steeply backwardated. Lower global
500, we think that EM stocks will trough ahead of the US, similar to
equities have meant higher dividend yields. Our equity strategists like
the 2001 and 2008 bear markets. It’s a reason why we now like early-
US defensives, EU banks/energy, and EM tech, all of which have high
cycle cyclicals within EM equities (OW semis, tech hardware), while
yields.
we still favor late-cycle defensives in the US (OW healthcare, staples,
utilities).
Morgan Stanley Research
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Global Insight
And all this is happening at a time when the
wind will start to be at this factor’s back. Less
growth, inflation, and tightening should support DM and EM bonds and lower cross-asset
volatility. Continued economic uncertainty
should create investor demand for high single-digit returns.
Who will buy the bonds?
What about quantitative tightening? Our
forecasts are taking some lead from
2018-19, where bond yields fell despite QT
because growth and inflation moderated.
But this is a genuine uncertainty. With little
historical precedent for QT, we’re skeptical
that anyone can make predictions with
much statistical precision.
Where we feel more confident is the question of 'who will buy bonds as central banks
back away?' Demand dynamics across
fixed income may surprise positively next
year, for several reasons:
• Households are underweight bonds as a
share of overall net worth relative to the last 70 years. With invest-
BBB rated bonds, for example. has increased by 300bp in the last
ment grade bonds yielding 5-7% across maturities, we think that it's
year, from 3.3% to 6.3%. This shifts the calculus for public bonds rela-
reasonable to expect households (and their financial advisors) to re-
tive to other assets.
engage.
Exhibit 8:
• Finally, bond supply may improve. Less housing activity will mean less
Households are OW equities and UW bonds
MBS production. Wider spreads will mean fewer CLOs. Higher yields
% of Household Net Worth
are already driving down corporate issuance, as many IG and HY com-
30%
Equities
Bonds
25%
panies were able to front-load their funding over the prior two years.
20%
Our recommendations
15%
10%
With all this in mind, our advice to global investors is as follows:
5%
0%
Dec-50
Dec-60
Dec-70
Dec-80
Dec-90
Dec-00
Dec-10
Dec-20
Source: Bloomberg, Morgan Stanley Research
• We expect positive returns across global equities, credit, and government bonds.
• Asset allocators will have seen bond portfolios fall by a similar
amount as public equities and much more than private equities,
•We expect high grade fixed income to outperform global equities
credit, or real estate this year. This may leave a bond underweight
(MSCI ACWI), especially through 1Q23, with significantly lower vola-
that still needs to be covered, especially as the speed of the fixed
tility. We no longer prefer cash.
income move made it easier for allocators to be patient.
• In equities, EM and Japan outperform while the US lags. Respect
• Strategic allocations to bonds should rise. The yield on long-dated
8
sequencing and embrace income by owning early-cycle cyclicals in
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Global Insight
High grade fixed income offers the best vol-adjusted return of all asset classes
Exhibit 9:
Valuation 20Y %-tile (Inverted)
High Return,
Cheap Valuation
100%
EM $ Sov
JPYUSD
90%
US IG
80%
US HY
Beta
Alpha
Hedge
70%
60%
US Munis
EURUSD
BRLUSD
US MBS
MSCI EM
EU IG
US CLO AAAs
UST 10Y
Nikkei
AUDUSD
50%
Bunds 10Y
Brent
40%
Eurostoxx
Gold
30%
CNYUSD
20%
Low Return,
10% Expensive Valuation
0%
-0.50
S&P 500
DXY
-0.25
0.00
0.25
0.50
0.75
1.00
MS Forecast Return (Vol-Adjusted)
Source: Bloomberg, Morgan Stanley Research; Note: We use average of 10-year realized and 1-year implied volatility (where available).
EM (tech hardware, semis), defensives in the US (staples, health-
Brent oil versus gold on a 12-month forward basis yields ~15%, and we
care, utilities) and value in Europe (banks/energy). Those sectors all
continue to like that strategy.
have above-average dividend yields. Below-consensus EPS forecasts
in the US and Europe leave more challenging risk/reward than other
markets into 1Q23.
The bear case – recession, tension, liquidity apprehension
• In high grade bonds we see broad-based strength. Treasuries,
Bunds, US IG, EUR IG, US municipals, CLO AAAs, and AAA auto ABS
Soft landings, where central banks tighten meaningfully without a
all allow investors to 'embrace income' with 6-8% forecast total
recession, are rare. In our bear case, the US does fall into recession,
returns, while 'respecting the sequencing' with assets that usually
Europe’s recession is more severe, and China reopens more cau-
bottom before equities do. EUR total returns outperform USD in gov-
tiously.
ernment bonds and credit.
Such a scenario could dovetail with more geopolitical tension. An
• In high yield bonds, we prefer EM hard and local currency debt
escalation of energy volatility would drive weaker European growth.
over DM high yield over loans. This is also a sequencing argument,
US-China tension over trade or security could reduce investment.
as we think that EM can benefit more from the end of tightening,
And potentially divided US government following the recent mid-
while the latter are more vulnerable to lower growth and higher
terms increases the risk of a repeat of the debt-ceiling showdowns of
interest costs. The structure is cheap versus the underlying; we
2011-12, events that were material drags on growth.
prefer CLO BBs (~15% yield) to high yield single Bs (~9.5% yield).
Weaker growth could also be driven by our inflation forecasts being
• In currencies, we think that USD has peaked and declines next year
too optimistic. If we’re wrong about improving dynamics in core
as fears about inflation and the tightening that comes with it ebb,
goods and shelter, the Fed would hike further for longer, leading to
while EM growth improves. USD is still a yieldy diversifier, but we see
more USD strength.
better places to ‘embrace income’ outside FX. Long EUR/GBP is a key
relative value view, while we're most positive versus end-2023 for-
Finally, QT, and the liquidity drain that comes with it, is a genuine
wards in CLP, NZD, SEK, and NOK.
uncertainty. There are a number of risk scenarios we’re keeping our
eye on.
• In commodities, we close the overweight we’ve held since last
year’s outlook. A weaker USD helps, but growth risks and better
opportunities elsewhere leave risk/reward more balanced. Owning
Morgan Stanley Research
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Global Insight
The bull case – party like it's 1995
Exhibit 10: Long-term expected returns for 60/40 portfolios back
Bears say soft landings are rare. But they happen. 1994 saw high infla-
USD 60/40 Stocks/Bond Portfolio LR Exp Rtns (%)
tion, a sharp rise in the fed funds rate, and the financial system under
14
strain. But then a funny thing happened. The Fed stopped hiking.
12
Growth slowed, with the US PMI falling sharply. It didn’t matter.
10
above the 20-year average
Stocks and bonds had an outstanding year.
Last 20Y Avg
8
6
The bull case revolves around how interlinked markets' concerns are.
If inflation moderates more quickly, central bank tightening and US
dollar strength are suddenly less scary. Policy could ease modestly,
at a time when cross-asset valuations have improved materially.
4
2
0
Jan-90
Jan-95
Jan-00
Jan-05
Jan-10
Jan-15
Jan-20
Source: Bloomberg, Morgan Stanley Research
Imagining the next market crisis
Vishwanath Tirupattur
About a month ago, the UK illustrated the potential for unexpected moves amid poor liquidity, with a once-in-300-year move in
long-term gilt yields. Where should investors watch for potential risks? To be clear, none of these are our base case expectations.
They are simply vulnerabilities in the system that investors ought to pay attention to, in our view.
Among a chorus of hawkish central banks, the dovish solo of the Bank of Japan stands out, with ongoing yield curve control (YCC)
and quantitative easing. The length at which both these policies have run increases the risk of market fragility if they were to
change materially. While such a change is not our base case, larger changes in the YCC cap are possible, especially with a change of
leadership. JGBs may look dormant, but they are absolutely critical in preventing DM yields from moving even higher.
Another unexpected shift in policy could come via quantitative tightening (QT), where the Fed is allowing US$60 billion of
Treasuries and up to US$35 billion of MBS to run off its balance sheet each month. As Seth Carpenter, Morgan Stanley's chief
global economist, noted, the Fed's plan is to shrink its balance sheet while avoiding a repo market squeeze like in September 2019.
Our economists' base case is that the first rate cut comes in December 2023 and that QT ends the next year. As Seth points out,
QT might end early if the economy goes into recession and the Fed is contemplating larger rate cuts, or if markets become
dysfunctional along the lines of March 2020 or the recent episode in the gilt market.
By at least one measure, the dysfunctionality has been steadily getting worse in parts of the UST cash market. Morgan Stanley's
Treasury Relative Opportunity Value Index (MSTVI on Bloomberg) assesses yield dispersion across UST cash relative to a spline
fitted curve. Increased dispersion reflects lower market depth and reduced willingness from dealers to hold on to less liquid offthe-run securities. This measure of dispersion remains elevated and is now well above the March 2020 levels, signifying challenged
liquidity conditions and market depth. As explained by Efrain Tejada, Guneet Dhingra, and Matthew Hornbach, persistent low
liquidity continues to place headwinds on the functioning of UST cash markets. The combination of elevated levels of implied rates
volatility with structural issues such as dealer intermediation constraints and the structure of the UST inter-dealer market means
that future market stresses could result in magnified moves in rates, particularly in the long end.
While the global financial crisis offers the starkest example, the role of credit markets as the source of market volatility is well
documented. Two developments give us a pause. First, the growth of the private credit market, much of which took place during a
period of much lower interest rates. Given the rate moves observed thus far, the potential for significant repricing in these markets
characterized by lack of transparency and limited liquidity raises concerns. Second, as noted by the IMF Financial Stability Report,
open-end investment funds account for approximately one-fifth of the assets of the nonbank financial sector. Credit ETFs offering
intra-day liquidity have grown notably in recent years. While the growth in electronic markets and portfolio trading are significant
mitigating factors, it is possible that significant redemptions from these funds, especially with less liquid credit instruments, could
be challenging and a potential source of a market accident.
10
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Global Insight
Top Trades Across Asset Classes
Exhibit 12: Top trades across asset classes
Source: Morgan Stanley Research; Note: These are our current trades. All previous trades from cross-asset strategy not reflected here are considered closed. For trades #2 and #3 we use the 75th percentile (i.e., above
average level) of historical rolling 12m returns for the trade. Otherwise, levels are based on Morgan Stanley Research forecasts.
Morgan Stanley Research
11
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Global Insight
Global Equities: Still Finding a Trough, but EM and Japan
Leading the Way Up
Michael J. Wilson
Graham Secker
Jonathan Garner
M.Wilson@morganstanley.com
Graham.Secker@morganstanley.com
Jonathan.Garner@morganstanley.com
+1 212 761-2532
+44 20 7425-6188
+65 6834-8172
Morgan Stanley & Co. LLC
Morgan Stanley & Co. International plc+
Morgan Stanley Asia Limited+
Key investment ideas
• Buy early-cycle EM and Japan equities for 11-12% returns: Valuations are clearly cheap
and cyclical winds are shifting in favor of EM as global inflation eases quicker than
expected, the Fed stops hiking in January (and starts cutting in 4Q), and the US dollar rolls
over. Global growth troughs in 1Q with a recovery led by Asia, helped by domestic demand
resilience. MSCI EM typically outperforms in early cycle and we see 12% price returns in
2023, with 11% for TOPIX.
• S&P 500 to finish at ~3,900, but it won't be a smooth ride: Consensus earnings are
simply too high for 2023, where our estimate of US$195 implies 16% downside to
consensus as companies hoard labor and see operating margins compress in a very slow
growth economy. Valuations at 17.1x/ERP of 204bp have front-run our lower US Treasury
yield outlook (3.5% by end-2023). We expect 2023 to be a rough start with a strong finish.
• Modest upside for European equities: We see European equities with a 6.3% total
return over 2023 as lower inflation drives a P/E re-rating from 11.5x to 13.3x. This should
ultimately more than offset the 10% EPS decline we expect from weaker top-line growth
and material margin disappointment. We prefer financials and energy over cyclicals.
• Recommendations: Financials and energy screen well, particularly in Europe. In Asia/EM,
we prefer Korea and Taiwan (for semis and hardware), as well as Japan, Saudi Arabia, and
Brazil, and look for quality growth and small/mid-caps to take leadership after some
momentum reversal. Stay defensive in the US via healthcare, utilities, and staples.
2022 has been a year of wrenching adjustment: Geopolitical shifts
Exhibit 13: MSCI ACWI N12M earnings yield versus median global
towards a multipolar world accelerated, while a surge in DM inflation
policy rate – aggregate equity valuations have further downside
saw the Fed enact the sharpest tightening cycle since the Volcker era
into early 2023 on the final phase of tightening
40 years ago, driving the US dollar back to early 1980s peaks. The
7%
adjustment to a higher inflation and interest rate environment has
6%
seen equities fall 20% year to date in aggregate, but many household
5%
names in tech/internet are still trading down more than 40% year to
4%
date as the crowded quality/growth theme unwound. That said, the
3%
selling has not been indiscriminate and a structural improvement in
2%
macro-stability/governance frameworks has been rewarded for
1%
Japan equities (in JPY terms) as well as in Brazil, India, and Indonesia.
0%
Jan-07
Median Central Bank Policy Rate %
Median Central Bank Policy Rate % - MS Forecast
MSCI ACWI N12M Earnings Yield % (RHS)
10%
8%
6%
Jan-10
Jan-13
Jan-16
Jan-19
Source: MSCI, Refinitiv, IBES, Morgan Stanley Research forecasts
12
12%
Jan-22
4%
Jan-25
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Global Insight
Our 2023 global macro outlook paints a much less daunting pic-
Exhibit 14: Fed Geopolitical Risk Index
ture for equity markets, despite the necessarily slow growth profile.
350
Current market concerns are anchored on inflation and that central
300
banks will keep hiking until the cycle ends with a deep recession (à la
250
Volcker), a financial accident en route, or perhaps worse – that they
200
leave the job half done, driving a structural de-rating (à la the 1970s).
150
But crucially, our economists forecast that US core PCE inflation will
100
fall to 2.4% annualized in 2H23, with the last Fed hike in January and
50
Fed Geopolitical Risk Index
0
Jan-06
policy easing starting as soon as 4Q23. As a result, our strategists see
US bond yields and the dollar in retreat through 2023, with our EM
Jan-08
Jan-10
Jan-12
Jan-14
Jan-16
Jan-18
Jan-20
Jan-22
Source: https://www.policyuncertainty.com/gpr.html, Morgan Stanley Research
strategists forecasting total returns of 7% on EM FX and 14% on EM
Exhibit 15: Global Supply Chain Index
sovereign credit.
Morgan Stanley Supply Chain Index (MSSCI)
3.0
However, a multipolar world is likely to see a structurally higher
2.5
geoeconomic risk premium compared with the effectively unipolar,
2.0
1.5
convergent era. Supply chains are being consciously decoupled as
1.0
national security concerns trump economic efficiency. This will lift
0.5
cost structures but should also create opportunities for diversifica-
0.0
tion enablers, including in India and ASEAN. The trend has started
-0.5
with leading edge and dual-use technologies in semiconductors and
-1.0
Jan-19
AI/quantum, but is increasingly impacting biotechnology, advanced
Source: Bloomberg, Morgan Stanley Research
Jul-19
Jan-20
Jul-20
Jan-21
Jul-21
Jan-22
Jul-22
materials, and the renewable supply chain, as well as the associated
FDI and portfolio flows.
Equity trough forming – EM to take early leadership: Equities are
forward looking, even in bear markets, and typically trough 3-6
The earnings adjustment is just starting in the US and Europe:
months before the economy – i.e., over the next three months or so,
Earnings forecasts are now just starting to be lowered in the US and
given our economists' view of a 2H23 recovery. New cycles also bring
Europe, following almost two years of downgrades in China and EM,
new leadership and after the longest EM equity bear market on
while Japan is holding on to a record-high earnings level, helped by favor-
record, we see a strong 12% price recovery over 2023 in our base case,
able JPY translation. We lower our forecast for S&P 500 EPS another 8%
albeit with the widest bear/bull skew of the major regions. TOPIX can
to US$195 in 2023 and stand 16% below consensus, with our 2023 fore-
also perform well at the start of a new cycle, particularly from low
casts for Europe 14% below consensus, versus just 2% below consensus
starting valuations, and we forecast 11% (16%) returns in JPY (USD)
for TOPIX and 7% above consensus for MSCI EM. Our forecasts for each
on our base case of still-accommodative monetary and fiscal policy
region imply a healthy 19% aggregate earnings recovery in 2024, led by
and a reopening tailwind. We see healthy 3% returns for Europe, with
the US as Fed policy and the US dollar ease, and positive operating
a valuation re-rating over 2023, while our 3,900 outlook for the S&P
leverage resumes.
Exhibit 16: Outlook for equity market earnings, valuations, and targets
Index
S&P 500
MSCI Europe
TOPIX
MSCI EM
Current
Price
3,956
1,740
1,937
890
Dec-2023
Prior
Base Case
Target
Index
Target
(Jun-2023)
(% Upside)
MS Top Down EPS YoY %
Consensus EPS Forecast
YoY %
2022
2024
2022
2023
2024
2023
3,900
3,900
219
195
241
221
232
253
-1%
-1%
5%
-11%
24%
6%
5%
9%
1,790
1,670
142
127
135
145
147
156
3%
-4%
15%
-10%
6%
18%
1%
6%
2,150
2,000
148
158
165
151
160
170
11%
3%
15%
7%
5%
19%
6%
6%
1,000
960
77
85
91
81
83
93
12%
8%
3%
10%
7%
8%
3%
12%
MS Base
Case N12M
P/E
Dec-2023
10 Year
Current
Avg.
Consensus
Consensus
N12M P/E
N12M P/E
16.1
17.1
17.3
13.3
11.5
14.3
13.0
12.1
13.9
11.0
10.8
11.8
Source: FactSet, Datastream, IBES, Morgan Stanley Research forecasts; Note: Data as of November 10, 2022.
Morgan Stanley Research
13
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Global Insight
500 implies -1% returns as valuations are
Exhibit 17: Shiller P/E valuations: Relative to 10-year inflation-adjusted earnings profiles,
not compensating sufficiently for the earn-
the US remains expensive (67th percentile post-2000), where EM is the cheapest (1st per-
ings risks.
centile), followed by Japan (14th) and Europe (43rd)
55x
TOPIX
S&P 500
MSCI Europe
MSCI EM
Sector positioning now diverging across
regions: In 2022 our equity strategy recom-
45x
mendations had converged on a shortgrowth, long-value, and defensives bias, but
35x
now we see greater divergence. In the US,
we retain a bias toward defensives,
25x
including healthcare, utilities, and staples. In
Europe, we see exceptional value in finan-
15x
cials and energy, with structural growth in
luxury and defense in utilities. In Japan, we
look for reopening and supply chain diversification beneficiaries, while in EM we move
5x
Jan-95 Nov-97 Sep-00 Jul-03 May-06 Mar-09 Jan-12 Nov-14 Sep-17 Jul-20
Source: Datastream, MSCI, FactSet, Morgan Stanley Research; Note: Data as of October 31, 2022. We are using US consumer price index (US
CPI All Urban) to calculate real earnings for S&P 500 and MSCI EM, while using Japan consumer price index (Japan CPI National Treasure) for
TOPIX. We are using last 10 years of real earnings to calculate Shiller P/E.
early cycle in favor of semis and tech hardware, alongside financials and industrials.
Exhibit 18: Equity sector and style preferences
Sector & Style
Preferences
Bear and bull cases – higher reward for
risk, unusually: Looking back over the long
MSCI Europe
Sector Preferences
TOPIX
OW: Commercial and Wholesale
Trade, Transport & Logistics,
Energy Resources
MSCI EM
OW: Semis, Tech Hardware,
Financials, Industrials
UW: IT, Service & Others, Electric
UW: Consumer Discretionary, Tech UW: Autos, Capital Goods,
UW: Real Estate, Utilities, Staples
Power & Gas, Construction &
Hardware
Chemicals, Construction, Retailing
Materials
run, global equities have shown little
1) Defensive 2) High Operational
Efficiency
respect for the 'Capital Assets Pricing
Model' theory, with US equities delivering
S&P 500
OW: Healthcare, Utilities, Consumer OW: Financials, Energy, Luxury
Staples
Goods, Utilities
Style Preferences
1) Prefer defensives to cyclicals; 1) Productivity & Innovation
2) Neutral Value versus Growth
Leaders
but incrementally adding to GARP 2) Self-Help Beneficiaries
3) Quality Growth
4) 12M Price Laggards
1) Quality Growth
2) Small Cap
3) 12M Price Laggards
4) APxJ/EM Best Business Models
structural outperformance with lower volatility. However, over the next 12 months we
see a positive skew to potential returns in
Source: Morgan Stanley Research
Exhibit 19: Base/bull/bear case outlook for global equities
EM and Japan, albeit with much wider risk/
reward ranges – largely attributable to
Index
Current
Price
uncertainty around China’s macro/regulatory outlook and the sustainability of
Japan’s reflationary policy stance. Europe is
S&P 500
MSCI Europe
3,956
1,740
managing the restructuring of commodity
supply chains better than feared but will
likely face a winter recession, while the US
TOPIX
MSCI EM
1,937
890
New Target Price - Dec 2023
(% from current levels)
Bull
Base
Bear
4,200
3,900
3,500
Old Target Price - Jun 2023
(% from current levels)
Bull
Base
Bear
4,450
3,900
3,350
6%
-1%
-12%
12%
-1%
-15%
2,060
1,790
1,485
1,980
1,670
1,350
18%
3%
-15%
14%
-4%
-22%
2,450
2,150
1,670
2,400
2,000
1,500
-23%
27%
11%
-14%
24%
3%
1,130
1,000
730
1,110
960
680
27%
12%
-18%
25%
8%
-24%
has the tightest skew between a 3,500 bear
case and 4,200 bull case for December
Source: Bloomberg, FactSet, IBES, Morgan Stanley Research forecasts; Note: Data as of November 10, 2022.
2023.
US: Tactical bull leads to final bear market lows in 1Q
that we have just experienced the harshest Fed tightening cycle in 40
years and a historically challenging year for bond returns. In other
2022 has been a year to forget for most investors as the Fed and
words, the Fed and rates was the story for 2022. 2023 should be
other central banks have expeditiously exited a 15-year period of
about earnings, the trajectory, and depth.
financial repression. This exit seemed obvious a year ago with inflation reaching generationally high levels and was key to our bearish
On that front, we remain well below the 2023 bottom-up consensus
view for this year. However, this is no longer an out-of-consensus
EPS forecasts for the S&P 500 (i.e., US$232), with a bear/base/bull
view. Instead, we find the infatuation with inflation and the Fed's
case skew of US$180/US$195/US$215. With the spread between
effort to control it more prevalent than ever. This is despite the fact
consensus and our EPS model at one of the widest levels on record,
14
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Global Insight
we think that it's only a matter of time before earnings estimates fall
Exhibit 20: Our leading earnings model suggests significant
in a more accelerative fashion that reflects the kind of downside
downside to EPS growth ahead...
expressed in our forecasts. The question is one of timing. With 3Q
60%
earnings season mostly behind us in terms of market cap, it's unlikely
50%
we are going to get there until next earnings season when most com-
40%
panies will be forced to guide for 2023 and the consumer is more
likely to fade post holidays. Bottom line, our more recent tactical
bullish call for the S&P 500 to reach 4,000-4,150 will ultimately roll
over, with the index likely making this bear market's low in 1Q23 as
Morgan Stanley Leading Earnings Indicator (Leading 1-Yr.)
Actual S&P 500 LTM EPS Growth Y/Y
R2: 0.8
30%
20%
10%
0%
-10%
-20%
2023 earnings revisions become more severe, and liquidity remains
-30%
tight from the Fed's hiking and QT programs.
-40%
Jan-01 Aug-03 Mar-06 Oct-08 May-11 Dec-13 Jul-16 Feb-19 Sep-21
In terms of how to outperform in this environment over the next 12
Source: FactSet, Bloomberg, Morgan Stanley Research; Note: Inputs: ISM Mfg. PMI, Conference Board
Consumer Confidence, housing starts, credit spreads. Weightings float over time based on rolling correlation of a given factor versus EPS growth.
months, our advice is to stay the course on our current recommendations of owning defensives and companies with high operational efficiency. Both of these strategies have worked well all year, and we
expect this to continue until the bear market lows are in. Even during
this tactical rally that has been led by the Dow and small-caps, defensives and high operational efficiency stocks have continued to outperform as well. As evidence, our Fresh Money Buy List has
outperformed the S&P 500 by 6.5% since October 13, suggesting that
investors can stay the course on the defensive playbook for now even
if this rally continues. It's also an indication that the bear market is
likely not over for the reasons we mentioned – i.e., earnings risk is high.
We also think that after a rough 1Q, the rest of 2023 could be quite
Exhibit 21: ...as does our new non-PMI leading earnings indicator
Morgan Stanley Non-PMI Leading Earnings Indicator (Leading 1-Yr.)
Actual S&P 500 LTM EPS Growth Y/Y
60%
R2: 0.7
50%
40%
30%
20%
10%
0%
-10%
-20%
-30%
-40%
Jan-01
Jan-04
Jan-07
Jan-10
Jan-13
Jan-16
Jan-19
Jan-22
Source: Haver Analytics, FactSet, Morgan Stanley Research; Note: Inputs: Philadelphia Fed economic
activity, Creighton U. business confidence, Chicago Fed supplier deliveries, Atlanta Fed wage tracker
(inverse signal), NFIB small bus. most important problem inflation (inverse signal), and
Brave-Butters-Kelley cycle component of monthly GDP. Weightings are fixed over time.
strong as the market begins to discount the next economic and earnings cycle. At that point, it is likely that we will pivot our sector and
stock recommendations significantly toward a more cyclical tilt and
Europe: Moderate upside as P/E recovery eventually
offsets 10% EPS decline
toward companies that have high operating leverage – something we
are avoiding at the moment. In many ways, it should be a repeat of our
At +15%, Europe has seen the biggest upgrades to EPS this year of any
recession playbook we used quite effectively in April 2020 when we
major region, but it has also seen the biggest P/E de-rating, with the
shifted aggressively to small-caps, consumer cyclicals, banks, and
market unwilling to reward earnings upgrades that have been almost
other early-cycle beneficiaries.
entirely driven by FX weakness and the energy sector. This de-rating
leaves Europe looking potentially attractive on a N12M P/E of 11.5x
Investors have been asking us if the recent outperformance of small-
(versus a long-term average closer to 14.3x), but with relative valua-
caps, industrials, and even financials suggests that it's time to make
tions looking less compelling on other metrics such as P/BV and divi-
that switch now. We think that it's premature as we need to wait for
dend yield, the real question concerns the sustainability of the
the full-blown recessionary-type earnings revisions to 2023 con-
region’s earnings trajectory.
sensus estimates to come through. We are upgrading staples to overweight and downgrading real estate to equal-weight. This leaves us
We expect an earnings downgrade cycle to commence soon and fore-
overweight healthcare, utilities, and staples. Our consumer discre-
cast a 10% EPS decline in 2023 (overall we are 14% below consensus
tionary and tech hardware underweights are unchanged.
for December 2023), with an economic recession driving down topline demand while the delayed impact of this year’s cost increases
hits margins with a vengeance – our margin lead indicator is pointing
to a year-on-year drop in profitability on a par with that seen in the
global financial crisis. Even adjusting for our weak EPS profile, our
Morgan Stanley Research
15
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Global Insight
base case 12-month index target does still offer 3% upside potential
here as we see scope for a N12M P/E re-rating from 11.5x to 13.3x on
Asia/EM and Japan: Strong year ahead as Asia/EM
leads a new cycle
the back of lower inflation, lower bond yields, and a conclusion of the
rate-hiking cycle. However, while our models point to reasonable
We upgraded our stance on Asia and EM equities on October 4 when
upside by December 2023, we are concerned that markets have fur-
enough of our bear market trough signals had fallen into place. EM
ther to fall in the short term as none of the key indicators that we
ex China has moved higher since then, helped by our top-rated
track are signalling a trough yet.
market, Korea, as well as overweight-rated Brazil and Saudi Arabia.
Taiwan has lagged but we remain overweight on a cyclical/valuation
We remain underweight most cyclical sectors in Europe as we see
outlook. In our view, there is substantial dry powder to be deployed
greatest downside risk to EPS forecasts here. For those wanting
into Asia/EM equities by asset allocators and long-only investors,
more positive macro risk, we continue to recommend an overweight
while hedge fund net positioning is also well below last 5-year aver-
position in energy and banks, with both sectors offering a compelling
ages. Style-wise, we expect a new cycle to see rotation toward
mix of low valuations and a solid earnings and capital return outlook.
quality growth and small/mid-cap equities, while we stay overweight
In anticipation of a peaking out of bond yields in due course, we have
semis and tech hardware, alongside select financials and industrials.
been adding more growth/GARP exposure to our portfolio recently
and are overweight luxury goods, medtech, and technology.
which is usually a good early-cycle marker
Exhibit 22: MSCI Europe likely to enjoy a P/E re-rating next year as
CPI reverses...
12
11
1,600
MSCI Korea Perf Rel to MSCI EM
MSCI EM Index - RHS
50%
1,400
45%
1,200
40%
1,000
35%
800
12
8
13
6
14
4
15
2
16
0
-2
Dec-12
55%
10
EMU CPI inflation
MSCI Europe N12M PE - inverted - rhs
10
Exhibit 24: 'Dr KOSPI' Korea has started outperforming MSCI EM,
17
30%
Jan-13
600
Jan-15
Jan-17
Jan-19
Jan-21
Source: FactSet, Morgan Stanley Research
18
Jun-14
Dec-15
Jun-17
Dec-18
Jun-20
Dec-21
Source: MSCI, IBES, Refinitiv, Morgan Stanley Research
The EM index is changing composition quickly as the caravan moves
on, with India leapfrogging to the second-largest market and now a
Exhibit 23: …but EPS will likely contract due to a weaker top line
16% EM index weight (almost double October 2020 levels). Our col-
and a material hit to margins
leagues see a structural boom ahead for India, as well as for over-
450
weight-rated Saudi Arabia, which has gained the second-most
12M Change In EBIT Margins (bp, 3MA)
350
Margin Lead Indicator
250
weight, followed by overweight-rated Brazil as excessive valuation
discounts close.
150
50
-50
-150
China equities have fallen from a 43% weight to 28% over the past
two years, a period where we have generally been cautious. From
here we see the potential for China equities to participate in an EM
rally, but we retain an equal-weight stance for now. The range of out-
-250
Jan-07 Jan-09 Jan-11 Jan-13 Jan-15 Jan-17 Jan-19 Jan-21 Jan-23
comes is wide, with a bull case entailing gradual institutionalization
Source: MSCI, FactSet, Haver Analytics, Refinitiv, Morgan Stanley Research
of a transparent and supportive business environment for major private corporations to allow ROE to rebound to reinstill investor confidence in China's long-term potential growth. The bear case implies
that the market loses confidence in earnings-based valuation
approaches and switches to focusing on asset valuation (price/book
at or below 1.0x) and dividend yield support (5%) amid ongoing regulatory pressure domestically and deteriorating geopolitical risks.
16
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Global Insight
Exhibit 25: MSCI EM weight changes since October 2020 – more
Exhibit 26: ROE profiles key to structural returns prospects –
diversified index, with India, Saudi Arabia, and Brazil gaining most
China has diverged from EM and now lags Japan
Weight in MSCI EM (%)
Latest (Nov 9, 2022)
45
Peak EM Concentration (Oct 30, 2020)
35
25%
20%
25
MSCI USA
MSCI EM
MSCI China
MSCI Europe
MSCI Japan
15%
15
10%
Russia
Malaysia
Indonesia
Thailand
Mexico
South Africa
Saudi Arabia
Brazil
Korea
Taiwan
India
-5
China
5
Source: FactSet, MSCI, Morgan Stanley Research
5%
0%
-5%
Dec-95 Dec-98 Dec-01 Dec-04 Dec-07 Dec-10 Dec-13 Dec-16 Dec-19
Source: FactSet, MSCI, Morgan Stanley Research; Note: Data as of end-October 2022. MSCI Japan ROE
has been adjusted for exceptional items for August to October 2022.
For Japan, we retain a constructive view into 2023, with earnings
upgrades and resilient local currency returns driven by stable
domestic growth/inflation/policy, a sharply weaker JPY, and self-help
driven by improving corporate governance. The international
reopening from last month should help to capitalize on a hyper-competitive JPY, while incremental capex reshoring should help to insulate industrials from the global slowdown. Our economists look for
only an incremental BoJ policy pivot, with YCC moving to the 5-year
point and a modest curve steepening, leaving our USD/JPY forecast
at 140 for end-2023. For USD-based investors, we no longer recommend hedging the FX exposure, given the downside skew to USD/JPY
scenarios over 2023.
Morgan Stanley Research
17
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Global Insight
G10 Rates: A Countertrend Rally Awaits
Matthew Hornbach
Guneet Dhingra
Koichi Sugisaki
Matthew.Hornbach@morganstanley.com
Guneet.Dhingra@morganstanley.com
Koichi.Sugisaki@morganstanley.com
+1 212 761-1837
+1 212 761-1445
+81 3 6836-8428
Morgan Stanley & Co. LLC
Morgan Stanley & Co. LLC
Morgan Stanley MUFG Securities Co., Ltd.+
Eric Oynoyan
Theologis Chapsalis
Andrew Watrous
Eric.Oynoyan@morganstanley.com
Theologis.Chapsalis@morganstanley.com
Andrew,Watrous@morganstanley.com
+44 20 7425-1945
+44 20 7425-3330
+1 212 761-5287
Morgan Stanley & Co. International plc+
Morgan Stanley & Co. International plc+
Morgan Stanley & Co. LLC
Key investment ideas
• We suggest an overweight stance on government bond duration as we expect yields
to end the year in line with or below their market-implied forwards, with additional
downside risks to yields dominating.
• In the US, we see both 2-year and 10-year yields ending 2023 at 3.50% – implying a
meaningful steepening of the yield curve. In Europe, we forecast 10-year Bund yields to
reach 1.50% after a peak posted at 2.50% last October. We forecast 10-year BTP/Bund
and Bono/Bund spreads at 175bp and 85bp, respectively. We also expect a compression
of the 10-year OAT/Bund spread to 40bp. In the UK, we expect gilts to underperform
other markets, most notably against EGBs. We also expect long gilts to cheapen on ASW.
In Japan, we expect JGB long-end yields to trade lower as global yields decline, with the
exception of 10-year yields, which should rise after the BoJ transitions to a 5-year YCC
target. In the dollar bloc, Australian and New Zealand yields move lower, given
continued deceleration in local housing markets and disappointing regional growth. The
Canadian yield curve bull steepens, reversing its current inversion.
• Top trades: In the US, we suggest owning a 3m10y butterfly to play the range, and long
6m6m CPI swaps. In Europe, we receive EUR 5y5y swap and sell Bobl ASW. In the UK, we
sell 50-year gilts on ASW, while in Japan we like JGB 20s40s flatteners.
What central banks gave, central banks took away. 2020 and 2021
For Fed policy, the market prices a peak target range at 5.00-5.25%
were about central banks providing the global economy a safety net
versus our economists' 4.50-4.75% forecast. The market prices the
with uber-accommodative interest rate and balance sheet policies.
ECB policy rate to reach 3.00% versus our economists' 2.50% peak
2022 was about central banks starting to aggressively pull that
rate. And the market prices the BoE policy rate to reach 4.75% in 2023
safety net away. 2023 will be about central banks finishing the job,
versus our economist at 4.00%. If these three major central banks
and 2024 will be about central banks starting to roll that safety net
stop short of delivering on market forwards, then associated bond
out again, on the forecasts of our economists.
markets should enjoy a countertrend rally.
Bond markets, which are forward-looking discounting machines,
In addition, as investors traverse a year sure to be filled with unexpected
already price in the final stages of what our economists think central
traps and pitfalls, their focus will increasingly shift to the outlook for
banks will do in 2023. In most cases, bond markets price in tighter poli-
2024 – when our economists expect central banks to start easing policy
cies than our economists project. Canada is an exception, where the
again. The prospect of easier central bank policies will bring with it new-
market price implies a peak rate near 4.50% versus our economist's
found demand for risk-free bond market duration, just at a time when
forecast at 4.75%
government bond supply – after adjusting for central bank activity – is
falling from its decade-long highs seen in 2021 and 2022.
18
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Exhibit 27: Central bank impact on supply
Global Insight
Exhibit 28: Issuance net of redemptions and central bank pur-
USD bn
500
chases
0
USD bn
3,000
-500
2,500
-1,000
US ($ bn)
AUD ($ bn)
NZ ($ bn)
CAN ($ bn)
Japan ($ bn)
UK ($ bn)
Euro ($ bn)
G7 Total
2,000
-1,500
1,500
-2,000
-2,500
US ($ bn)
AUD ($ bn)
NZ ($ bn)
-3,000
CAN ($ bn)
Japan ($ bn)
UK ($ bn)
-3,500
Euro ($ bn)
1,000
500
0
-4,000
-500
-4,500
07
08
09
10
11
12
13
14
15
16
17
18
19
20
21
22e 23e
Source: National Treasuries, national central banks, Morgan Stanley Research forecasts
-1,000
07 08 09 10 11 12 13 14 15 16 17 18 19 20 21 22e 23e
Source: National Treasuries, national central banks, Morgan Stanley Research forecasts
Of course, for central bank policies and bond markets alike, the path
of inflation and associated expectations will exert the most influ-
slowly as the inflation term premium as well as global central bank
ence. Investors remain deeply skeptical of the decline that econo-
actions like an end of the BoJ’s YCC get priced in.
mists forecast for consumer prices. If economists, after two years of
underestimating inflation, end up forecasting it correctly or even
We see a wide dispersion for yields in the bull and bear cases, with a
overestimating it, the meager bond market rally we forecast will end
skew toward lower yields in the bull case for Treasuries. The gap
up as more than just a countertrend rally.
between the bull and bear cases increases significantly toward the
end of 2023, with 10-year yields ending 2023 at 2.10% in the bull case
In the US, we expect Treasury yields to move lower gradually over
and 4.50% in the bear case, versus 3.50% in the base case. The skew
2023, led by declining 2-year yields. We see 10-year Treasury yields
favoring the bull case for Treasuries reflects our economists’ bear
trading around 3.75% by the middle of 2023, and around 3.50% by
case for the economy, where the Fed is seen cutting rates sharply to
the end of 2023. A conclusion of the Fed hiking cycle by the January
nearly 1% after lifting rates to as high as 6% earlier in 2023, versus
FOMC meeting and moderating inflation, alongside a soft landing for
delivering only a couple of additional hikes in the bear case.
the US economy, drive yields lower gradually. We see the 2s10s and
2s30s curves steeper than forwards by year-end, but see that con-
We see 5-year and 10-year real yields declining a little more than
centrated in 2H, and thus we don't suggesting positioning for steep-
nominal yields as Fed policy takes an easier route, while 5-year and
eners yet. Real yields fall a little bit more than nominal yields, and
10-year breakevens widen very slightly – and stabilize near levels
breakevens stay stable to slightly higher as the hiking cycle comes to
consistent with the Fed’s 2%Y inflation target. We see 10-year real
a close.
yields heading to ~1.25% by mid-2023, and back below 1% by the end
of 2023. We see 10-year breakevens staying around 2.50-2.60%
Our economists expect the Fed to reach a terminal rate of 4.625% by
through 2023.
the January FOMC meeting, and a pause in rate hikes at that terminal
level, with the first 25bp rate cut coming in December 2023. Our
In the euro area, we forecast a gradual decline in 10-year Bund yields
Treasury yield forecasts for the end of 2023 assume that the market
in 1H23 after a peak posted at 2.50% last October. The decline in euro-
prices a shallow rate cut cycle in 2024 – as the market grapples with
zone HICP inflation below 5%Y next summer and significantly lower-
the idea of Fed rate cuts, but also lingering inflation risks, as CPI ser-
than-expected 2023 eurozone GDP growth would warrant a lower
vices inflation remains elevated. As a result, the market continues to
ECB terminal rate than market expectations, in our view. The lower
price a notable term premium – and discounts the idea of rate cuts
path of short-term rates and the decline in inflation would more than
all the way back to neutral.
offset the negative impact of ECB QT, pushing our Bund model fair
value close to 1.50% by late 2023. We forecast the 10-year Bund yield
The Treasury yield curve steepens as 2-year yields decline the most,
at 1.60% in 2Q23 and 1.50% in 4Q23.
driven by the Fed’s pause as well as ultimately a rate cut in late 2023,
ending nearly 100bp below current market-implied forwards. The
It is worth noting that in the bear case (higher inflation with a pro-
2s10s curve steepens and comes out of inversion territory after being
longed ECB depo plateau until mid-2024) the 10-year Bund yield
inverted for more than a year. Long-end Treasury yields decline more
would actually peak in 2Q23 at 2.35% with the peak in EGB supply
before falling back in the second half of the year to 1.80%, while in the
Morgan Stanley Research
19
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Global Insight
bull case the Bund yield would fall to 1.20% by 4Q23. The 4Q23 10-
Also, the BoE's QT is more drastic than in other jurisdictions as the
year Bund forecast would be lower than the spot and the forward
crystallization of losses is likely to lead to additional issuance unlike
one in our base, bull, and bear cases.
the processes followed in the euro area and the US. In this respect,
we expect asset swap spreads, especially at the long end, to weaken
Regarding the curve, we think that the end of the ECB depo hikes in
toward the end of fiscal 2022-23.
1Q23 and the start of APP QT will favor a gradual steepening of the
2s10s slope from a low in 1Q23 towards 60bp in 4Q23 while the belly
We envision high RPI prints making the gilt market unattractive. At
of the curve will richen on rising speculation of an unwinding of some
the same time, buying front-end breakevens is likely to remain an
of the ECB depo hikes as soon as 1H24.
appealing investor proposition. From a cyclical aspect, flows are
likely to return to global fixed income markets in 2023 as growth
Regarding real yields, after a 200bp rise in 2022, 2023 should be
slows down and recession risks escalate. However, we expect gilts to
characterized by a gradual decline which will be behind the decline in
underperform other DM fixed income markets, most notably versus
nominal yields. Indeed, we expect the 10-year inflation breakeven to
EGBs in a market rally. We also expect underperformance versus
barely move from the current level as the absolute level of year-on-
swaps as supply normalizes in 2023 so we recommend selling 50-
year inflation, although falling by mid-2023, should remain very high
year gilts on an ASW basis.
compared to the ECB target.
Political u-turns have created unprecedented volatility in the UK
Our forecast assumes ECB QT to start in 1Q23, but it should be a very
market so there may be hesitation for more fiscal spending. However,
gradual PSPP tapering while PEPP redemptions will continue to be
this can change heading into the next general election given the pop-
fully reinvested with the ECB adopting PEPP flexibility. Should the
ularity of fiscal spending. Gilt investors will need to stay on their toes
ECB agree on QT from 1Q23, this would lower the pace of reinvest-
as politics and spending numbers are likely to further support curve
ments by 25% each half year, resulting in an APP reinvestment policy
and level volatility into 2023.
amounting to 75% in 1H23, 50% in 2H23, 25% in 1H24 with a complete
halt to reinvestment from 2H24.
In Japan, we expect JGB yields to trade lower alongside global yields,
with the exception of the 10-year JGB yield. We see the 10-year JGB
For euro area sovereign spreads, 2022 was about non-residents
yield underperforming on the curve, and the curve twist-flattening
reducing their peripheral exposure ahead of the end of PEPP/APP in
beyond the 10-year. Our economists expect the BoJ to shorten the
1H22 and a trading range in 2H22 owing to the TPI and PEPP flexibility.
long-term yield target from 10 years to 5 years in 3Q23 under the next
BoJ governor, as the combination of a positive output gap and higher
Going into 2023, we think that the constructive price action on core
wage growth convince it that the increase in prices is becoming sus-
duration, the underweight positioning from non-residents, the PEPP
tainable.
flexibility, and the attractive absolute level of 10-year BTP yields will
fuel a gradual tightening in EGB spreads. Lower concerns linked to
Meanwhile, markets appear to price in a decent chance for the BoJ to
Italian politics should also benefit BTPs. We forecast 10-year BTP/Bund
remove both NIRP and YCC within a year, particularly at the long end
and Bono/Bund spreads at 175bp and 85bp, respectively, by late 2023.
of the curve. That said, we don’t believe that the market can price in
the BoJ’s rate-hiking cycle, given our economists’ base case scenario
Regarding core/semi-core spreads, we expect a compression of the
that CPI ex fresh food is expected to go back below 2.0%Y, and global
10-year OAT/Bund spread to 40bp as the return of the bullish dura-
growth/inflation are also expected to slow down.
tion trend would be consistent with renewed demand for liquid longdated OATs, and OATs would benefit indirectly from stronger non-
With rates expectation expected to be anchored, we don’t see a mean-
core EGBs.
ingful rise in JGB yields even if the BoJ tweaks its YCC policy. We expect
long-end JGB yields to grind lower alongside lower global yields. We
In the UK, the gilt market will face ongoing challenges from high
believe that the demand from Japanese lifers also supports the
redemptions in the coming three years (at least £100 billion annu-
long-end JGBs valuation particularly into 1Q23 (Japanese fiscal
ally) at a time when the BoE will struggle to reinvest QE holdings
year-end), as they now have a constructive view on global duration.
back into gilts. In fact, QT means that maturing gilts will definitely not
be reinvested while the market will have to react to active sales.
We expect the 30-year JGB yield to end 2Q23 at 1.35% and 4Q23 at
1.30%. Meanwhile, we see the 10-year JGB yield trading higher at
20
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0.50% once the BoJ shortens the long-term yield target in 3Q23. Our
Global Insight
Exhibit 29: G10 central bank policy rates and Morgan Stanley pro-
near-term top trade is a JGB 20s40s flattener. While we see Japanese
jection
lifers actively purchasing 30-year+ JGBs into Japanese fiscal year-end,
%
4.0
we see the banking community remaining reluctant to purchase the
3.5
20-year point until there are clear signs that the Fed rate-hiking cycle
3.0
is over.
Morgan Stanley
projection
2.5
2.0
2.0
1.5
In the dollar bloc, we expect yield curves to drift lower during 2023
as a global growth slowdown weighs on inflation and central bank
policy expectations. Australian and New Zealand yields slide down-
1.0
0.5
0.0
-0.5
'02
wards as a continued deceleration in local housing markets and
slowing regional growth weigh on the medium-term hiking outlook.
We see the Canadian yield curve bull steepening, reversing its current
inversion as rate cuts in 2024 and beyond approach and the Federal
Reserve sounds increasingly cautious.
'04
'06
'08
'10
'12
'14
'16
G10 central bank policy rate
'18
'20
'22
'24
Source: Bloomberg, Morgan Stanley Research forecasts
Exhibit 30: EM central bank policy rates and Morgan Stanley pro-
jection
%
9
In Australia, we see short-end yields remaining relatively resilient
8
around 3% through 2023 as the Reserve Bank of Australia signals an
7
intention to assess the cumulative impact of the hikes it has already
6
delivered, constraining market pricing for the local terminal rate. Local
5
domestic growth and inflation hold up relatively well despite further
housing market softening, limiting term premium compression.
Morgan Stanley
projection
5.2
4
3
'02
The New Zealand curve similarly level-shifts lower as the Reserve
Bank of New Zealand guides the market towards an elevated near-
'04
'06
'08
'10
'12
'14
'16
'18
EM central bank policy rate (rhs)
'20
'22
'24
Source: Morgan Stanley Research forecasts
term terminal rate in line with market pricing. However, the RBNZ’s
official cash rate forecasts increasingly signal an earlier start to eventual cuts, allowing the curve to drift lower as the 2-year window
extends into 2025.
In Canada, we anticipate bull steepening in sympathy with the
Treasury curve as North American inflationary pressures subside.
2-year yields hover roughly 20bp below equivalent Treasury yields as
Bank of Canada communication mirrors rising Federal Reserve caution.
Morgan Stanley Research
21
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Global Insight
FX: The Fever Breaks...and So Does USD
Matthew Hornbach
James Lord
Matthew.Hornbach@morganstanley.com
James.Lord@morganstanley.com
+1 212 761-1837
+44 20 7677-3254
Morgan Stanley & Co. LLC
Morgan Stanley & Co. International plc+
Koichi Sugisaki
David S. Adams
David.S.Adams@morganstanley.com
+1 212 761-1481
Morgan Stanley & Co. LLC
Koichi.Sugisaki@morganstanley.com
+81 3 6836-8428
Morgan Stanley MUFG Securities Co., Ltd.+
Key investment ideas
• Inflation fever breaks: The 2022 USD strength has been driven by risk aversion, softening
growth, and monetary tightening. A break in the 'inflation fever' should aid a reversal in all
three, generating a weaker USD.
• Back to regime 1, USD weakness: Falling real yields and (modestly) wider breakevens
should bring us back to regime 1, last observed in 2Q-4Q20. This regime sees widespread
USD weakness, though the magnitude will be a function of: 1) How quickly inflation falls;
2) How much global growth rebounds; and 3) How quickly central banks unwind tightening.
• Top trades: Long NZD/USD targeting 0.67, long EUR/GBP targeting 0.93, and short USD/
THB targeting 35.0.
We think that USD is in its last leg higher and should peak this quarter,
Exhibit 31: We expect a return to 'regime 1' in 2023, which sees
to be followed by a decline through 2023. This brings the DXY to 104,
lower real yields, wider breakevens, and widespread USD weakness
which would reverse roughly half of the USD strength observed in 2022.
2.0
1.5
1.0
0.5
0.0
-0.5
-1.0
-1.5
Jan-20
A moderation in global inflation measures against a particularly bearish
consensus expectation should support risk-sensitive currencies, though
USD weakness is moderated by relatively elevated US interest rates and
lethargic growth, particularly outside the US.
2022 was a particularly positive year for USD, which was aided by various forces. Global growth expectations softened meaningfully amid
elevated headline inflation, trade bottlenecks, geopolitical concerns in
Europe, and Covid restrictions in Asia. The relative data standout was
the US, though a tight labor market and persistently high core inflation
prompted continued increases in Fed terminal rate expectations.
Tightening global financial conditions, weak investment prospects
abroad, and elevated risk-adjusted domestic returns rendered USD
3.3
Regime 1:
USD down
2.8
Regime 1:
USD down
Regime 2:
USD mixed
Jan-21
Jul-21
Jan-22
US 10y Real Yield (LHS)
Jul-22
Jan-23
1.8
1.3
Regime 3:
USD up
Jul-20
2.3
0.8
Jul-23
US 10y Breakeven (RHS)
115
110
DXY USD Index
105
100
95
90
85
Jan-20
Jul-20
Jan-21
Jul-21
Jan-22
Jul-22
Jan-23
Jul-23
the safest port in an increasingly complex storm. This largely corre-
Source: Bloomberg, Morgan Stanley Research forecasts
sponds with regime 3 of our four-regime USD framework, which sees
Much as in 2022, the most important number in 2023 is likely to be
real yields higher, breakevens tighter, risk asset prices lower, and
the inflation rate. Our economists see disinflationary pressures
USD universally higher ( Exhibit 31 ).
emerging, driven by the combination of monetary tightening and
22
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Global Insight
softening demand. This comes as expectations for inflation remain
Exhibit 33: 2023 and 2024 policy rates
meaningfully high.
MS G10 central bank policy rate forecasts (%)
5.0
We think that an unexpected break in the ‘inflation fever’ could be
4.0
meaningful for macro markets. USD’s attractiveness as ‘positive
3.0
carry insurance’ (that is, DXY-weighted USD carry is positive while
2.0
USD remains negatively correlated to equities) cuts both ways, and an
1.0
unexpected inflation resolution (or firming expectations for one,
0.0
anyway) should render USD’s safety as less necessary ( Exhibit 32 ). A
-1.0
recovery in financial asset prices in both stocks and bonds, reversing
End-2023
End-2024
JPY
SEK
EUR
NOK
AUD
GBP
USD
CAD
Source: Morgan Stanley Research forecasts
the weakness in 2022, implies similar reversals for USD as well.
Exhibit 32: USD's high carry and negative correlation to risk assets
have rendered it an attractive hedge against falling equities
will depend on a multitude of factors:
0.8
NOK
1y Weekly Corr: CCY/USD to S&P 500
(USD positive) to regime 1 (where real yields fall, breakevens widen,
risk assets gain, and USD falls), the magnitude of the USD decline
Current 1y FX Carry vs Equity Market Correlation
0.1
Thus, while it seems most likely that we will pivot from regime 3
• Just how quickly and consistently is inflation falling?
SEKGBP
NZD
EUR
AUD CAD
IDR
RON
PLN
THB
CHF
CZK
CNY
ZAR
JPY
PHP
MYR
• How much will global growth recover after inflation?
MXN
• How will the stance of monetary policy evolve, and will the
HUF
BRL
Fed’s out-hawkishness lead to out-dovishness next year?
COP
CLP
Inflation: We think that investors might be surprised by a sudden and
'Insurance Box':
-CCY Gains when SPX Falls
-CCY has positive carry
welcome drop in inflation, though one data point does not a trend
make. Just as we observed this summer with US CPI, the risk of a
‘headfake’ is high particularly in such an uncertain environment with
elevated economic volatility. We think that investors may end up
DXY
-0.6
-5.0
-2.0
1.0
4.0
7.0
10.0
FX Carry
Source: Morgan Stanley Research
being more easily convinced that inflation is likely to keep rolling
over the tighter that financial conditions are and the more weakness
that is seen in other data like the labor market.
The magnitude of the USD weakness depends on cross-cutting factors. Lower inflation rates likely generate higher risk asset prices,
Global growth: On a related note, the local and global growth back-
which tends to support risk-sensitive FX versus USD. Growing market
drops are important, but are also state-contingent. That is, in a high
expectations that the direction of travel for monetary policy is likely
inflation world, strong growth is ‘bad news’ not good, as it implies
looser, not tighter, justified by inflation coming off the boil, are
more demand-driven inflation. Investors might even welcome weak
helpful here, bringing down elevated US interest rates.
data in the near term as this raises the probability of disinflation. But
once the inflation fever conclusively breaks, the magnitude of the
The challenge, though, is that in many ways USD is still fairly attrac-
real growth rate will be an important factor determining how much
tive. Our US economists don’t expect the fed funds rate to fall much
USD weakness we ultimately get. The outcome of Covid-zero in
even as the Fed kicks off its cutting cycle late in 2023, with rates still
China will be an important binary risk factor.
above neutral until end-2024. This should keep US rates relatively
high in the G10 even though they are falling meaningfully ( Exhibit
Monetary policy: Just how quickly monetary policy can safely return
33 ). Global and local growth rates might beat dour expectations, but
to normal is important, both in absolute and relative terms. A low-
they still appear fairly anemic. And while the rate of change in risk
growth world implies that carry is more likely to play an important
appetite likely turns positive from negative, investors may be reluc-
role, and so economies offering rate advantages may benefit from
tant to fully abandon inflation concerns and thus the safety of USD.
capital inflows, particularly if the growth outlook isn’t seen as being
impaired by high policy rates. With the fed funds rate likely to be at a
15-year high for most of the forecast horizon (even if it’s falling slowly
in 2024), the dispersion of risk-adjusted carry abroad may be key.
Morgan Stanley Research
23
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Global Insight
Given how dour market expectations are, we think that the balance
Time for an EM recovery: 2022 has been a year to forget for most
of risks favors an even weaker USD in our bear case compared to
EM currencies, though the fact that several were able to post positive
more modest USD strength in our bull case.
total returns (such as BRL, MXN, and PEN) while most others were
able to outperform several of their DM counterparts (JPY, SEK, and
We look for EUR/USD to rise to 1.08 by end-2023 with risks
GBP were the worst-performing major currencies on a total return
skewed towards an even larger rebound to 1.14. Growth challenges
basis of the majors) shows that they were hardly the center of the
are likely to persist in Europe given geopolitical uncertainties and the
storm. Yet in 2023 we expect to see EM currencies making a recovery,
energy crisis, though a weaker USD in regime 1 likely lifts all boats.
even if only a modest one.
Longer term, we will be watching in 2023 to see how Europe’s
economy evolves structurally in response to the energy pivot. As we
We see grounds for a recovery in EM for a few reasons. First, we
note here, repatriation flows in response to low FX-hedged yields rel-
expect to see the conditions for USD to weaken, which is always a
ative to rising domestic yields could bring European capital back, sup-
helpful starting point. Global growth recovers from its low point in
porting EUR even despite a persistent current account deficit and
1Q23 through to the end of the year, led by EM economies and then
sclerotic growth.
with a recovery of the eurozone in 2H23, while the US faces lackluster
growth throughout the year. A global rebound is typically a
In contrast, the UK’s reliance on foreign capital (i.e., no meaningful
USD-bearish event but particularly so if we see it being led by econo-
savings to repatriate) and economic challenges suggest that GBP is
mies outside the US. Moreover, with inflation expected to decline by
likely to lag G10 peers as a weaker currency is needed to ‘balance the
Morgan Stanley economists, this should be viewed as a USD-bearish
ledger’. We look for GBP/USD to bottom at 1.12 and EUR/GBP to rise
event.
to 0.93 by end-2023. Risk-sensitive European currencies should gain
as well, with EUR/NOK and EUR/SEK both falling to 9.60 and
A key theme for us will be whether or not China proceeds with
10.30, respectively, while EUR/CHF rebounds to 1.02.
reopening the economy. This is the expectation of our China team, yet
there is clearly much uncertainty around the process with no defini-
We think that USD/JPY has likely peaked and a decline to 140 by
tive confirmation from the political leadership that it will occur. This
year-end is our base case, aided both by falling real yields as well as
makes for an interesting call for strategists though, as clearly waiting
a pivot in the BoJ’s yield curve control framework. However, low carry
for confirmation would reduce the market opportunity substantially.
is likely to limit JPY strength on crosses, and we think that JPY will
Reopening is not priced in and so the best time to position is now. We
once again emerge as the clearest funding currency for carry trades.
see a recovery in Asia FX next year and recommend short USD/CNH
risk reversal and short USD/THB.
The dollar bloc currencies should perform well in a positive risk
environment. CAD is likely to fall to 1.29 again. AUD/USD and NZD/
China reopening should have a positive impact on other regions too,
USD likely bottom before marching higher towards end-2023 to
with CLP and PEN likely to see some benefit even if China's recovery
0.70 and 0.67, respectively. This brings AUD/NZD modestly lower
is more consumer focused rather than investment led. In CEEMEA,
to 1.04.
we expect to see a recovery in most currencies in line with a EUR
recovery and rebound in eurozone growth in 2H23. We see HUF and
ZAR as the outperformers.
24
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Global Insight
Global EM Fixed Income: Time for a Rebound
James Lord
James.Lord@morganstanley.com
+44 20 7677-3254
Morgan Stanley & Co. International plc+
Simon Waever
Simon.Waever@morganstanley.com
+1 212 296-8101
Morgan Stanley & Co. LLC
Min Dai
Min.Dai@morganstanley.com
+852 2239-7983
Morgan Stanley Asia Limited+
Key investment ideas
• Falling global inflation leads to a recovery for EM fixed income in 2023, with both credit
and local markets posting healthy double-digit returns.
• We are bullish on BRL and MXN rates and position for FX strength in Asia through THB
and CNY. We expect HUF FX and rates to outperform in CEEMEA.
• In sovereign credit, we see index spreads tighter to 480bp by 2Q23 and 460bp by 4Q23.
We favor HY over IG. Favored credits are Argentina and Ecuador in HY and Saudi Arabia and
Panama in IG.
Overview
well, led by a reduction in front-end yields. EM yield curves should
steepen as a result.
We move into the final weeks of 2022 with an anticipation of better
months ahead for EM fixed income investors. At the same time, we
Currencies should recover, with the global growth cycle likely to be
recognize that it is something of a ritual for EM strategists and inves-
more balanced. Global growth should trough in 1Q23 and recover
tors – particularly long-only ones and those with a bias toward local
over the remainder of the year, led by EM (China reopening) and then
markets – to dust off the losses of their portfolio at the end of the
a modest recovery in the eurozone over 2H23. This combination
year and proclaim that next year will surely be better. Such optimism
should help to weaken USD. Risk sentiment should be stronger as
has not paid off very often, with local markets delivering an annual-
inflation moderates through 2023 too, aiding USD weakness.
ized USD return of just 1.4% from 2011 to 2021, including carry. EM
credit has fared better over the years, with UST helping rather than
Local markets
hindering returns (unlike USD with local markets).
In Asia, we position for three themes into 2023: 1) China’s reopening;
In 2023 we expect a recovery. We forecast a 14.1% total return for EM
2) A tourism resumption; and 3) Steeper curves. We continue to rec-
credit, driven by a 5% excess return and a 9.1% contribution from
ommend reopening trades in China as we believe that investors are
USTs. In local markets we see an even stronger total return of 18.3%.
too bearish on the possible Covid easing polices. An earlier reopening
The bulk of this will be driven by duration gains and carry, with just
could help to improve growth, supporting CNY and higher rates.
a modest contribution from FX. With short-end yields high, total
Meanwhile, the resumption of domestic travel in China would sup-
return on FX should be decent at 7.3%.
port oil prices, weighing on INR. We recommend long CNH/INR, short
6m USD/CNH risk reversal and paying 5-year CNY NDIRS. We also
The key call behind the positive total returns is the expectation that
believe that tourists are finally coming back to Asia with Thailand
inflation globally falls in 2023. This leads to lower yields for fixed
leading the recovery trend. We are short USD/THB.
income products across the board. Morgan Stanley is below consensus on US inflation and, with central banks expected by our eco-
In rates, we believe that Asian curves could start to steepen, led by
nomics team to start easing monetary policy in 2023 by a greater
countries which are ahead of other countries in terms of their hiking
degree than priced in by markets, EM fixed income should perform
cycles. If we take the cue from CEE countries, which started hiking in
Morgan Stanley Research
25
M
Exhibit 34: Global EM quarterly forecast returns
20%
Exhibit 35: EM growth to trough early and then accelerate versus
the US in 2023
Sov Credit (Excess Return)
Sov Credit (TR)
Local Bonds (TR - $)
FX Spot
FX TR
15%
10%
Global Insight
GBIEM vs US GDP forecasts (%)
5.0
GBIEM
4.0
US
GBIEM-US
3.0
5%
2.0
0%
1.0
-5%
Oct-22
Feb-23
Jun-23
Oct-23
Source: Morgan Stanley Research forecasts
0.0
3Q22
4Q22
1Q23
2Q23
3Q23
4Q23
Source: Haver Analytics, Bloomberg, Morgan Stanley Research forecasts
mid-2021 and concluded hiking in July 2022. Korea and Singapore are
In CEEMEA, the main drivers of the performance were the energy
slightly behind CEE countries but ahead of other countries in Asia.
crisis and USD. The former led to deteriorating current accounts and
We recommend a 2s10s SGD steepener.
added to the already existing inflationary pressures. In combination
with the strong USD, depreciation in local currencies led to more
In LatAm, we think that the 2022 ranking of FX outperformance is
hawkish central banks which were becoming increasingly concerned
likely to flip into end-2023, given changes in idiosyncratic narratives,
about financial stability risks compared to headline inflation figures.
which should shape the ability of certain currencies to respond to
If our call for a weakening in USD over 2023 is correct, we expect
favorable global factors, especially as most regional central banks
some of the risk premia due to financial stability concerns to be
begin to ease policy. Next year, we think that BRL and MXN should
reduced. Central banks are likely to keep a tighter stance by 1Q23
finally start to lag regional peers with stronger exposure to a China
before markets start to price in a normalization of policy rates as
rebound, such as CLP and PEN. Ongoing risks of policy unorthodoxy
most countries are likely to face a recession.
in Brazil (particularly on the fiscal front) and a potential Banxico/
FOMC decoupling as the 2024 Mexican elections approach should
In rates, we turn more constructive on countries where markets price
trigger risk premia increases in BRL and MXN, partially offsetting
in a higher policy rate due to weaker FX and the governments are
global factors. To be clear, we do see this more as a 2H23 story, and
committed to fiscal consolidation. Such examples are Hungary and
we still expect these two currencies to perform well in the near term.
South Africa, where we move our stances to a like. In Poland and the
Czech Republic, FX pressures have been lower due to interventions
In rates, we continue to operate with a bullish bias, given the ongoing
but governments are looking to keep the fiscal stance supportive. We
stabilization in core rates and inflation peaking in most countries.
expect the curves to continue steepening as markets price in more
However, we stick to the golden rule that adding front-end receivers
easing in the short term. In Israel, we think that the BoI can follow the
before the end of a hiking cycle offers poor risk/reward. We are con-
global shift in central banks dialling down the hawkishness and
structive on rates in Brazil, Mexico, Chile, and Peru, but our bullish
prefer to close our 2s10s ILS flattener. In FX, a weaker USD will sup-
expressions are contingent on the stage of the monetary policy cycle
port local currencies but an uncertain growth outlook can cap signifi-
(Jan 25 DI receivers in Brazil, 5-year TIIE receivers in Mexico, and 1y1y
cant strength. In line with our view on rates, we think that HUF and
versus 5y5y CLPxCAM steepeners in Chile). We keep a bearish bias on
ZAR will outperform due to the higher risk premia. In the CEE region,
Colombian rates, given ongoing policy unorthodoxy risks and the
we keep our preference for HUF over PLN and remain neutral on CZK.
potential for further de-anchoring in CPI expectations.
26
M
Global Insight
Exhibit 37: EM sovereign credit forecast (bp)
Exhibit 36: GBI-EM FX and yield forecasts
EMBIG-Dspreads forecast (bp)
9.0
650
550
EM Credit Spread
EM Credit Spread - Base Case
Bear
Bull
7.70
8.0
7.0
6.50
6.0
450
5.0
350
250
Dec-20
4.0
May-21
Oct-21
Mar-22
Aug-22
Jan-23
Jun-23
Nov-23
3.0
Jul 12
EM Local Bond Yield (%)
MS Forecast
Jan 14
Jul 15
Jan 17
Jul 18
Jan 20
Jul 21
Jan 23
Source: Bloomberg, Morgan Stanley Research forecasts
Source: Bloomberg, Morgan Stanley Research forecasts
Sovereign credit
expected in 2023, market access should open up for more countries.
Yet, those countries with still too high external financing needs
External headwinds easing, valuations are cheap, and positioning
should keep trading cheap, with a need to diversify funding sources,
is light: In the end, EM credit spreads in 2022 behaved as expected
often including the IMF. In aggregate, we believe markets are pricing
given a backdrop of much higher US real yields, weaker EM FX, wider
much of these challenges already, yet differentiation will remain key.
US credit spreads, and much tighter global financial conditions lim-
Third, the distressed part of the index. While still only 6% of the index
iting market access. The problem was that not many anticipated
market capitalization, it contributes to 42% of the spread, or 230bp
moves of such magnitude. The good news is that we think 2023 sees
of the 540bp index spread given that defaulted bonds remain in the
the reversal of most of these drivers. US 10-year real yields decline
index. With an average cash price of 35, a lot is also in the price even
to 90bp from 150bp by end-2023, EM FX strengthens versus USD,
if factoring in lower-than-historical recovery rates. Still, this bucket
and US IG credit spreads remain range-bound. Additionally, we
is likely to remain a drag on the index spread in the absence of a series
expect most global central banks to shift to a lower gear, including
of quick debt restructurings, which seems unlikely, with a key risk
the Fed pausing in early 1Q23, as inflation moderates. Finally, the EM
instead that nothing at all happens to leave bonds trading below
versus DM growth differential picks up to 3.5%, which would be the
potential recovery rates for longer periods.
highest level since 2012-13, even though outright EM growth is subdued versus history. Adding that EM credit valuations have adjusted
Spreads tighter and returns higher: With the distressed bucket on
materially and positioning and flows suggest much reduced expo-
aggregate remaining a headwind, spreads should remain wide to his-
sure by global investors to EM, it leaves us positive on the outlook,
tory. However, we still see index spreads tighter to 480bp by 2Q23
including anticipating a reversal of flows back into EM.
and 460bp by 4Q23. This also leaves EM sovereign credit outperforming US credit. With lower 10-year UST yields by 2Q23 at 3.75%,
Yet structural damage has been done to leave an asset class
total returns end up at 8.3% by 2Q23 and eventually 14.1% by 4Q23.
divided: We believe that debt sustainability will remain the key dif-
While this may seem high, the starting point in yields is very high
ferentiator within the asset class, with liquidity in focus due to higher
versus history at a time when we expect the global bond bear market
funding costs and still challenged market access for most of HY. We
to have ended. We favor HY over IG, with a preference of BB and
see the index as having three key buckets. First, the investment grade
select CCC and below low cash price sovereigns. Favored credits are
portion (50% of the index) where credit fundamentals are still intact
Saudi Arabia and Panama in IG, and Argentina and Ecuador in HY.
with few funding concerns. For these, it's a matter of making room for
higher funding costs in budgets and convincing markets that there is
a positive growth and reform trajectory. If US IG trades well as anticipated, so will this part of the EM index. Second, the BB and B part of
the index (44% of the index). With an easier external backdrop
Morgan Stanley Research
27
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Global Insight
Global Credit: Banking on Income
Srikanth Sankaran
Vishwas Patkar
Srikanth.Sankaran@morganstanley.com
Vishwas.Patkar@morganstanley.com
+1 212 761-3910
+1 212 761-8041
Morgan Stanley & Co. LLC
Morgan Stanley & Co. LLC
Max Blass
Kelvin Pang
Max.Blass@morganstanley.com
Kelvin.Pang@morganstanley.com
+44 20 7677-9569
+852 2848-8204
Morgan Stanley & Co. International plc+
Morgan Stanley Asia Limited+
Key investment ideas
• IG > HY > loans: We expect IG spreads to hold recent ranges and tighten marginally
in 2H23. But healthy all-in yields should translate into positive excess and total returns
across all regions. We see room for further spread widening in HY and loans, but
maintain that HY index spreads are unlikely to test prior cycle wides even in a mild
recession. Leveraged loans remain fundamentally vulnerable until the rates and
earnings paths become clearer.
• Valuation case stronger for Europe and Asia over the US: Spreads in Europe and Asia
are closer to Covid wides, better reflecting the economic realities of these regions. A
more measured repricing in US spreads, coupled with less appealing hedged yields,
informs our call for modest US underperformance.
• We favor duration and banks in IG; we recommend a quality barbell in HY: Our
preference for discounted long-duration bonds remains intact in the US and we also
recommend moving out the curve in Europe. Banks are a preferred sector across all
regions. For HY investors, we suggest overlaying the quality of BBBs and BBs with
selective deep discount bonds down the ratings spectrum. Main-CDX IG compression
and decompression in XOver-Main and CDX HY/IG are preferred index expressions of
our views.
Income cushion in investment grade bonds likely to keep returns
fears, particularly in the US. Our end-2023 spread forecasts there-
positive: 2022 is on track to be the worst year for IG total returns
fore pencil in a relatively flat spread trajectory – keeping them wider
globally. Year-to-date returns of -15% to -20% represent a deeper
than historical averages but enough to generate respectable, positive
drawdown than the worst 12-month window during the global finan-
excess returns in IG globally. In short, we think that all-in yields in IG
cial crisis across the US, Europe, and Asia. Rates have done the bulk of
are appealing and represent good entry points for strategic investors,
the damage, but with spreads also widening significantly (60-120bp+)
but spread compression may well take time.
this year, there is a bigger yield cushion in IG to offset further volatility.
We expect leveraged credit to underperform IG: In contrast to the
We are also encouraged by our economists' call for a sharp decelera-
duration drag in IG returns, healthy initial balance sheet conditions
tion in the inflation path from 2Q23 and our rates colleagues' fore-
helped leveraged credit markets to outperform this year. Across the
casts for lower bond yields. A realization of these forecasts would
US and Europe, default concerns have been largely confined to CCCs
bode well for the returns performance of investment grade, no
and low single B credits. We expect this band of dispersion and
doubt. However, we are wary of unfinished business on the spread
decompression to widen next year, translating into a cleaner decom-
side in early 2023 as current levels do not signal elevated recession
pression in IG versus HY index spreads.
28
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Global Insight
Our economists do not see a deep recession on the horizon, but their
Exhibit 38: Year-to-date repricing in Europe and Asia has been
narrative is one of a further deceleration in developed economies and
sharper than in the US
policy rates staying in restrictive territory for much of next year. This
set-up is challenging for lower-quality companies, particularly as the
comfort of back-ended maturity walls begins to fade in late 2023. We
therefore see HY and loan spreads closing next year wider and forecast muted (but positive) total returns.
Valuation case is better in Europe and Asia than the US: Looking
across regions, the US outperformed this year as China property and
policy pressures weighed on Asia credit and the Russia-Ukraine conflict pushed Europe to the brink of a recession. We expect a partial
reversal of these performance trends in 2023, particularly on the IG
side. Two considerations inform this view. First, valuations in Europe
Source: Bloomberg, IHS Markit, PitchBook LCD, Morgan Stanley Research
Exhibit 39: 4Q23 corporate credit forecasts
Spread Forecast
and Asia have re-adjusted much more significantly to reflect the eco-
Current
Bull
Base
Bear
nomic realities, while US valuations are less extreme ( Exhibit 38 ).
US Investment Grade
152
125
155
210
Second, higher hedging costs have made US credit less competitive
US High Yield
482
400
575
700
US Leveraged Loans
550
500
700
800
EUR IG
EUR HY
Asia IG
211
572
198
150
450
135
190
650
165
300
850
220
for international investors. While it is difficult to expect a prolonged
decoupling of international credit markets from the US, we pencil in
marginally better returns expectations in non-US credit for 2023.
Excess Return Forecast
Maturity walls and refinancing economics likely to come into
focus late in 2023: In keeping with the abrupt rise in yields, corporate
Bull
Base
Bear
US Investment Grade
3.4%
1.5%
-1.9%
US High Yield
7.4%
0.2%
-5.2%
credit issuance was down significantly across the three regions. For
US Leveraged Loans
6.6%
0.4%
-3.3%
IG borrowers, it remains a question of funding costs rather than
EUR IG
EUR HY
Asia IG
5.0%
9.7%
5.2%
3.1%
2.5%
3.7%
-2.1%
-4.7%
0.9%
market access. In leveraged credit, we believe that CCCs issuers have
for the most part lost market access. Double-digit yields that are
more than double in-place coupons do not bode well for these
Source: IHS Markit, Bloomberg, PitchBook LCD, Morgan Stanley Research forecasts; Note: Pricing as of
November 9, 2022; US IG and HY spread forecasts for the Bloomberg Barclays US Corporate Bond and
Bloomberg Barclays US Corporate High Yield Bond indices, respectively.
weaker borrowers. This constrained and expensive funding environment has not triggered wider default fears so far, because maturity
walls are back-ended.
rate liabilities. We therefore remain wary of adverse fundamental
developments and downgrades in leveraged loans (see B3ware of
As a general rule of thumb, maturities start to matter 12-18 months
Downgrades, October 3, 2022). In HY, we see reasons for index
ahead of time for both issuers and rating agencies. Heading into 2023,
spreads not to test wides of prior cycles, particularly in the US. But the
only about 5% of outstanding US index-eligible leveraged credit is in
profile of borrowers outlined earlier – ones with front-loaded maturi-
this refinancing window while the comparable number in Europe is
ties and unfavorable refi economics – warrants attention.
~9%. But with the maturity wall picking up in 2025, refinancing plans
will likely come into play for US$210-230 billion of HY bonds and
At the sector level, it is clear that the excesses have been heavily con-
US$240-260 billion of leveraged loans by the time we get to the end
centrated in the China property sector for Asia and the default cycle
of 2023. Absent a significant improvement in funding economics, we
is already in full swing for this region. But in the US and Europe, the
see this cohort as being more at risk of adverse credit events.
lack of an outsized problem sector and a dispersed maturity wall lead
us to believe that this default cycle could see a ramp – not a spike –
For now, we are solving for an early 2000-style default cycle in the
higher. In our forecasts, we see defaults moving above long-run aver-
US and Europe – shallow but at risk of being protracted: The key
ages through next year to 4-4.5% in US and EU HY. In that sense, we
question for credit fundamentals is 'how long will rates hold at cur-
see the shape of this emerging default cycle as one that is similar to
rent levels?' rather than 'how much further will they rise?' The existing
the early 2000s rather than the sharp but short-lived default envi-
backdrop of elevated policy rates and muted earnings growth is
ronment of the global financial crisis or Covid.
already concerning for over-leveraged balance sheets with floatingMorgan Stanley Research
29
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Global Insight
Positioning views: We favor low cash price, long-duration bonds
imminent risks on either front (see Navigating the Flows, October 25,
in IG, and banks is a preferred sector across the three regions. We
2022). A more fundamentally driven version of the bear case relates
also hold a preference for BBBs over As in Europe while in the US
to either a deeper global recession triggered by overtightening or a
we favor a mix of As and low BBBs. In Asia, we like Japan and
set-up where policy rates stay higher for longer even as growth
Australia banks seniors and see China IG private corporates as an
remains under pressure.
expression of the China reopening story. For HY investors, we
believe that overlaying quality with some upside convexity should
A more constructive narrative would of course be that a sharper fall
improve the return profile of portfolios. Our recommendation is to
in inflation globally facilitates a quicker return of policy rates to neu-
own a barbell/butterfly of extreme ratings buckets while selling
tral. Recession and earnings fears abate, resulting in a favorable align-
the middle. BBB and BB generate safer income and selective deep
ment of fundamentals and technicals. The upside in these scenarios
discount CCCs with a positive 'yield to default' help to outperform
is more significant in Europe and Asia. US credit will also benefit, no
in a soft-landing scenario (see When Are Discount Bonds Cheap?
doubt, but the upside is likely to be more material in IG. But even in
October 24, 2022). Fundamentally. we favor US and European HY
this bull case, we do not expect a return to 2021 tights.
bonds over leveraged loans, but crossover investors should be
nimble as idiosyncratic opportunities abound in both directions.
US credit
For instance, the October rally in US HY has created opportunities
to switch out of secured bonds into loans at a price discount and
IG over leveraged credit, HY over loans: We expect IG spreads to
with a spread pick-up.
trade in a broad but well-defined range of 140-170bp, centered on
current spread levels and in line with our 12-month forward fore-
We like expressing our preference for EU credit over the US by going
casts. Fears of a recession/earnings uncertainty are likely to take
long iTraxx Main versus CDX IG at a 17bp excess spread. The risk is
spreads towards the wider end of this range in 1H23. However, we
that we get a deeper recession in Europe than our economists are
think that a full repricing to 'normal' recession levels is unlikely given
forecasting, driving further decompression. Our quality preference
limited downgrade pressures, record-low dollar prices and attractive
can be expressed by going long CDX IG versus CDX HY (5:1) ratio at
all-in yields. As growth stabilizes alongside inflation in 2H23, we
5.8x, or in Europe by going long Main versus XO (4:1 ratio) at 4.8x.
expect spreads to compress back towards our target. We expect HY
The risk is that growth rebounds aggressively, and inflation/rates fall,
to be a clear underperformer versus IG in total and excess returns
mitigating both earning risks as well as refi considerations.
(beta-adjusted) in 2023. In addition to more dispersion around earn-
Exhibit 40: There is significant room for spread decompression in
the US and Europe
5.0
US
EUR
Asia (RHS)
4.0
3.5
10.0
modestly negative excess returns, but positive total returns on the
9.0
back of lower yield projections from our rates colleagues. Within lev-
8.0
eraged credit, we stick to a preference for HY over loans. While our
7.0
base case projection for loan total returns is higher, we see signifi-
6.0
5.0
3.0
4.0
2.5
2.0
Jan-15 Jan-16
refinancing window leading up to a maturity wall in late 2024/2025.
Our spread target is 100bp wider than current levels, generating
HY / IG Spread Ratios by Region
4.5
ings, HY markets face the challenge of companies approaching the
cantly more spread downside (beta-adjusted) there in a deeper/
longer recession.
3.0
2.0
Jan-17 Jan-18
Jan-19 Jan-20
Jan-21
Jan-22
Quality barbells in IG and HY, sticking with longer duration for
now, banks and energy overweight: In positioning terms, while it
Source: Bloomberg, Morgan Stanley Research
is tempting to simply stick with quality, we take a more nuanced
Where we could be wrong: Clearly, both the extent and pace of mon-
view given where valuations and dollar prices are. We prefer some
etary policy tightening in developed markets are not lost on anyone.
version of quality in both IG and HY. In HY, we recommend buying
But with policy rates moving further into restrictive territory, the
the top and bottom of the ratings rungs. Given the tight basis
risks of market accidents and liquidity shocks are high. Recent
between BB and BBBs, it makes sense for HY investors to also own
stresses in the UK LDI system and the associated pressure on US IG
some BBBs as part of the quality leg. This 'up in quality' allocation
credit served as a timely reminder. While it is difficult to point toward
provides a cushion against weaker earnings, while also benefiting
specific catalysts, we believe that the behavior of hedged interna-
from lower rates over time. The low dollar CCC overlay provides
tional investors deserves closer attention. For now, we do not see
some upside optionality if growth surprises to the upside, with lim-
30
M
ited downside in the bear case. Even in a sideways spread environ-
Global Insight
Asia credit
ment, we see several examples of low dollar bonds that have compelling 'IO' value at these levels.
2023 should be Asia IG's year: Asia IG is having the worst ever total
return year (-19% year to date) since 2013 and investor sentiment
In IG, the barbell we like is of single As with low BBBs (which have
toward Asia IG has turned significantly more bearish since October.
cheapened a lot on the year, but with limited fallen angel risk). Across
However, we believe that 2023 will be Asia IG's year and it is poised
the curve, we stick with our preference for long-duration, low dollar
to make a comeback. We are forecasting the Asia IG spread to tighten
bonds for credit convexity as well as upside from lower rates. As
by 33bp in 2023. We see three key drivers of this view. First, Asia IG
clarity emerges on the peak in interest rates, and a path toward lower
for first time since 2018 looks attractive for both spread and yield
inflation, we will be watching for the right level to shorten from 30-
investors (the highest yield since 2009). Second, our US rates team
year bonds to 10-year bonds. Our preferred sectors within IG are
expects USTs to rally next year, which is supportive of total return
energy and banks.
given that the UST yield makes up 66% of the Asia IG yield. Lastly, we
expect fund inflows for Asia credit-mandated outflows (an IG man-
European credit
date proxy) to start turning positive next year as we expect the Fed
to stop hiking by January, In contrast, we remain cautious on Asia HY,
Quality leads the way: In 2023 we expect European credit to gen-
as easing measures for the China property sector remain weak and
erate positive excess returns, in contrast to this year’s losses which
financial conditions for HY issuers might well remain tight for most
have been the largest since the sovereign debt crisis more than a
of 2023 as we are only expecting the Fed to cut in December 2023.
decade ago. By the end of next year, we forecast IG spreads to tighten
modestly whereas we see HY and loan spreads widening further. In
Investors should remain selective: Within Asia financials, for the
terms of sequencing to our year-end targets, we think that the early
first time since 2019, Japan and Australia banks seniors look attrac-
part of 2023 could still be marked by relatively high levels of vola-
tive compared to Asia financials, especially China financials. At the
tility. Risks remain elevated – uncertainty over the depth of a
same time, within Asia IG corp, China IG private corp is our top sector
European recession and inflation path, changes in central bank policy,
pick as valuation remains very cheap and it would benefit if China
and weakness in corporate profitability. However, with our econo-
exits its Covid-zero policy next year. We also continue to find
mists forecasting quarterly growth to trough and the central bank
Indonesia SOEs attractive given its improving fundamentals in 2023
hiking cycle to end in 1Q23, IG credit should receive more support
and cheap valuation versus its sovereign. Lastly, we remain under-
over time given historically attractive spreads and yields. By contrast,
weight China HY/China HY property.
we remain more wary of leveraged credit as we think that the operating environment will remain particularly challenging for companies with less financial flexibility during a period where refinancing
plans need to be put in place.
Increasing beta in IG, staying defensive in leveraged credit: We
adjust our IG recommendations to take into account our expectations for tighter spreads and lower government bond yields. We now
prefer moving out the curve and down the ratings spectrum into
BBBs. The relative underperformance of bank debt is an opportunity
to turn more constructive, particularly in the new issue market.
Within leveraged credit, we stay up in quality and prefer bonds over
loans. We also look for opportunities in low cash price HY where
issuers have limited near-term maturities. Across the capital structure, we prefer AT1s and corporate hybrids over similarly rated HY
non-financial seniors.
Morgan Stanley Research
31
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Global Insight
Global Securitized Products: The Price Is Right
Jay Bacow
James Egan
Jay.Bacow@morganstanley.com
James.F.Egan@morganstanley.com
+1 212 761-2647
+1 212 761-4715
Morgan Stanley & Co. LLC
Morgan Stanley & Co. LLC
Vasundhara Goel
Charlie Wu
Vasundhara.Goel@morganstanley.com
Charlie.Wu@morganstanley.com
+44 20 7677-0693
+1 212 761-0166
Morgan Stanley & Co. International plc
Morgan Stanley & Co. LLC
Key investment ideas
• Valuations near the wides since the GFC and expectations of vol dropping make owning
agency MBS our favorite trade. Ex Fed supply is a challenge as a full year's worth of QT
counters lower housing activity, resulting in close to the highest net supply to the private
market ever.
• CLO issuance is projected to come in at its lowest level since 2016 (ex 2020), and
valuations already account for fundamental challenges emanating from leveraged loan
downgrades and defaults. We like barbelling AAAs for carry with BBs for convexity,
looking to increase BB over time given 15% yields buttressing against mark-to-market risk.
In Europe, we like CLO IG with a preference for AAA.
• Record deterioration in affordability combined with the lock-in effect for current
homeowners causes home sales to continue falling next year. The lack of forced sellers
keeps drops in HPA muted, but HPA still turns negative early next year for the first time
since 2012, ending the year at -4%. While we like being up in quality in resi credit, our
favorite short-duration, up-in-quality trade resides elsewhere in the consumer debt
landscape, where subprime auto AAAs are yielding north of 6% for a ~one-year asset.
Making a forecast a year ahead is never easy, and implied volatility on
initially liquid assets lead the way. Not only is agency MBS the
interest rates approaching the post-GFC highs is telling us that our uncer-
most liquid asset, but we would argue that it’s also starting from
tainty bands on any forecast should be particularly wide this coming year.
the most attractive valuation: Nominal spreads on mortgages get-
We always start with first principles in viewing the economic backdrop,
ting produced today have not been this wide since 4Q08 when inves-
and generally this begins with expectations for the Fed. This outlook, our
tors were concerned about the creditworthiness of the GSEs and the
economists are projecting the Fed to both hike and cut rates, with a
Fed had never bought a mortgage. With the GSEs in conservatorship
quicker and higher hiking cycle ending in January 2023, which will create
and the Fed owning 32% of the market, we'd argue that there's no
more slack in the labor market, with payrolls falling below the replace-
comparison now. It’s not just wide starting spreads and liquidity ben-
ment rate. This leads to a downward trend in inflation, and the first cut
efits for agency MBS, as we think that owning mortgages can also
happening in December 2023. As a result, we find ourselves thinking
benefit from the synergies of our other views. For instance, given the
about our forecast in two parts – the initial response in the next few
expectation for housing activity to slow and home prices to come
months as the market digests the impact of Fed hiking, and then the back
down, organic net supply to the agency market should continue to
half of the year as the market projects cuts.
fall in 2023. Furthermore, our rate strategists' forecasts suggest
implied volatility falling and a steeper curve than the forwards imply,
While we think that a lot of the bad news around negative technicals and recessionary concerns are priced into most asset classes,
32
both of which are positive for agency MBS.
M
Global Insight
Given the outlook for rate vol to fall and
Exhibit 41: Mortgages look cheap to IG credit, and current coupon screens the
housing activity to slow (and thus lower
cheapest
CC OAS
MBS Index, YB model
IG Index
production MBS than the index, but we
CC Avg
MBS Index Avg
IG Index Avg
80
650
next year. Now, net issuance to the single-
60
550
40
450
20
350
0
250
-20
150
family market should fall to US$300 billion,
more in line with 2017 levels, but Fed balance sheet runoff for a whole year adds
approximately US$300 billion of bonds
that need a buyer, resulting in approximately US$600 billion to the private
market (after accounting for QT), perhaps
the largest on record depending on how
MBS OAS
think that both should have strong returns
-40
Jan-09
IG Spread
turnover), we’re more positive on owning
50
Jan-11
Jan-13
Jan-15
Jan-17
Jan-19
Jan-21
Source: Yield Book, Bloomberg, Morgan Stanley Research
this year ends. We don't think that the
market will have as large a problem
Exhibit 42: Current levels and 24-month spread range, along with spot 12 months ago
digesting this net supply in 2023 as it did in
2022 due to our outlook for less volatile
prices. Also, while our base case is for the
Fed to continue QT through the entire year,
it's much more likely that it ends QT early
than sells mortgages to reach the cap. We
are also bullish on agency CMBS, which is
starting from similarly wide valuations as
single-family MBS, but is likely to be in a
better technical spot than the single-family
market. It will also see a drop in organic
supply due to higher mortgage rates, but
won't face the same challenges from Fed
QT.
On the securitized credit side, the outlook
process finds us at a juxtaposition of challenged fundamentals but valuations that
have already taken a lot of that into
Source: Bloomberg, Yield Book, TRACE, Morgan Stanley Research; Note: Data as of November 9, 2022.
account: As single-family agency MBS is to
some extent the discounting rate for securitized products, we think
pricing in of scenarios that are well in excess of our loan strategists'
that the tightening we forecast in the largest sector will bring along
expectations ( Exhibit 43 ). In other words, CLO debt prices give a
tightening in the less liquid securitized credit sectors later in the year.
much larger margin of safety than their counterparts in the leveraged
We believe that the CLO debt stack presents the most interesting
loan market. But the question remains: what can lead to healthier
opportunities. The fundamental challenges for CLOs are summa-
technicals in 2023?
rized by our corporate credit team's expectation that cracks stemming from higher interest rate burdens will likely get worse before
On the supply side, the overhang of open warehouses that were
they get better, leading to higher downgrade and default rates in the
formed on the heels of 2021's bull market continues to loom as a
leveraged loan market. This has led to the team's preference for IG
supply headwind in the very near term. However, this pressure could
over HY and loans. But in CLO debt markets we believe that a torren-
abate as early as 2Q23, leaving our US CLO new issuance projection
tial headwind of intensely negative technicals has led to material
at around US$100 billion. Excluding 2020, this would be the
underperformance versus the loan market, and by extension the
slowest year for CLO creation since 2016. On the demand side, the
Morgan Stanley Research
33
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Global Insight
abrupt exit of US bank investors from the
Exhibit 43: US CLO BBs, typically the junior-most debt tranche in most CLOs, have under-
new issue CLO AAA market on the back of
performed loans due to technical headwinds
1600
large-cap banks team, banks have already
made a lot of progress on the RWA front in
1400
CLO BB Spread
700
1200
Lev Loan Spread
600
1000
500
800
400
600
300
tive flows into senior CLOs; stronger local
400
200
currencies suggest reallocations into dollar
200
100
3Q22. On top of this, our FX strategists
believe that the dollar has already hit its
peak, which has the potential to bring posi-
assets and decrease FX hedging costs.
Taking all this into account, we think that
0
Jan-16
Basis (bp)
through the market. According to our
800
CLO BBs vs Loans Basis (RHS)
Spreads (bp)
RWA constraints in 2Q22 sent shock waves
-
Jan-17
Jan-18
Jan-19
Jan-20
Jan-21
Jan-22
Source: Palmer Square Capital Management, LCD, Bloomberg, Morgan Stanley Research
the CLO market may soon be reaching a
bottom. Our recommendation is for investors to take a barbelled
Within CMBS, we expect extension risk to be elevated as refi-
approach: buy AAAs for the high carry and dollar price stability,
nancing will be difficult and expensive for borrowers: As an inher-
and buy BBs for the convexity. As the backdrop turns increasingly
ently levered asset class, CRE is uniquely sensitive to the recent
positive, increase the BB allocation. Dollar price volatility will likely
increase in 10-year Treasury rates. With the exception of a brief
continue to sting for BBs in the short term, but a 15% yield should act
window in 2018, 10-year Treasury rates are now higher than they
as a salve.
were 10 years prior for the first time in over 30 years. This has an
implication for CRE debt refinancing, which is especially meaningful
Challenged fundamentals are also present within real estate mar-
when looking out over the course of not just 2023, but also the next
kets, both residential and commercial: Within the US housing
five years, as almost US$2.5 trillion of the US$4.3 trillion universe is
market, we expect the record pace of affordability deterioration and
set to mature – though we would note that only ~7% of those loans
a tight supply environment exaggerated by the 'locking in' of current
are held within CMBS. The long-duration nature of CMBS offers
homeowners to keep sales volumes falling sharply next year. We
investors opportunities for total returns considering our rates strate-
believe that existing home sales will fall to levels last seen in early
gists’ forecast for a lower 10-year into the end of next year, and it
2013. Housing starts should fall as well, as builders are forced to deal
could be argued that spreads have priced a lot of the challenges
with a backlog of homes under construction in addition to the afore-
above in, but we see more value in other securitized asset classes.
mentioned affordability strain. While we expect home prices to be
more protected than these measures of housing activity, we still
The fundamental challenges in the ABS market manifest as what we
forecast the %Y change in home prices to turn negative in early
think will be a continued bifurcation in performance between prime
2023 for the first time since 2012.
and subprime borrowers. However, we believe that markets that
have exposure to these lower FICO consumers have already priced a
Though we expect the drop in home prices to be shallow – finishing
lot of this in. This creates interesting tactical opportunities. In partic-
2023 at -4%Y – we think that the threat of continued declines and
ular, we note that subprime auto AAAs have widened from a spread
memories of the global financial crisis will keep investor demand for
of ~40bp at end-2021 to ~170bp as of this writing for one-year WAL
residential credit subdued relative to other securitized assets in the
assets and now offer a yield above 6%. While mark-to-market and
early part of next year. This housing backdrop notwithstanding, there
headline risks can continue to bite, we believe that these credit risk-
are reasons to believe that non-agency spreads can rally into the end
remote assets offer attractive risk-adjusted returns. With positive
of 2023. We expect issuance volumes to be down substantially. On
technicals stemming from our expectations for decreased issuance,
top of this, our rates strategists' forecasts could lead to faster prepay-
subprime auto AAAs/AAs are our favorite trade within the ABS
ment speeds in 2H23, alleviating some extension concerns. We
space or for investors looking for shorter-duration opportunities.
prefer to be up in the capital structure in non-QM and CRT, with
a preference for discount dollar price non-QM AAAs and CRT M2s.
34
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In Europe, the fundamental situation isn't any better, framed by a com-
Global Insight
Where could we be wrong?
bination of recession in the EU until mid-2023 followed by effects of
spillovers from high energy prices and tighter monetary policy. In the
Many of our views rest on a few assumptions. Most critically, the
UK, households are squeezed by bigger energy bills, inflation, and
uncertainty bands around our economic outlook are massive; our
higher mortgage rates. We estimate that about 35-40% of the UK mort-
bear case has a global recession with the Fed forced to stop QT and
gage market is likely to see higher mortgage borrowing costs over the
cut rates aggressively. Our bull case is an ultimate soft landing with
coming year. Overall, this creates a rather unfavorable backdrop for
greater gains in the participation rate easing wage pressures, while
fundamentals, where we expect the vulnerabilities to begin showing up
global supply chain pressures are repaired. Second, that overseas
in terms of weakness in performance. This is particularly true for any-
investors will return to the market as other currencies strengthen
thing that has a non-prime element to it.
versus the dollar. Third, that demand for securitized products can
grow as RWA constraints begin to ease. None of these are sure bets;
Valuations are quite wide, so it can be argued that a lot of this funda-
if they were, then market levels would likely be very different from
mental picture is priced in, but we expect volatility to remain ele-
where they are now.
vated. We continue to advocate for strength in securitization
structures and recommend investors stay up the capital stack while
In essence, our views boil down to this: while the fundamental back-
the volatility persists. We like European CLO IG with a preference
drop will likely continue to deteriorate, the portions we like are
for AAA and think that the recent dislocation on account of
pricing in more than we are expecting. As capital flows find balance
LDI-driven selling has created opportunities for entry.
in a new equilibrium state for the global economy, we expect techni-
Fundamental challenges are likely to create uncertainty but senior
cals for those markets to improve, tightening spreads and generating
tranches of UK NC and BTL are well insulated and offer good value
returns for those investors. If that capital flow does not happen at
at current levels.
these levels, particularly in the agency mortgage market, then our
forecasts will be incorrect.
Exhibit 44: Morgan Stanley 4Q23 spread and excess return forecasts across securitized products
Spreads
Excess Returns
Mkt Size
Current
Bull
Base
Bear
Bull
Base
Bear
($bn)
13%
0%
-4%
-8%
-
-
-
-
Agency MBS Index OAS
70
35
50
85
2.8%
1.9%
-0.2%
Agency MBS CC ZV
159
90
120
180
5.7%
3.9%
0.3%
Non-QM AAA
275
100
200
400
5.1%
3.1%
-0.9%
CMBS AAA Secondary
158
110
150
210
6.3%
2.4%
-3.6%
1.5%
-13.5%
2.7%
-0.2%
Product
YoY HPA Forecast
8600
6151
720
CMBS BBB- Secondary
650
575
700
850
14.0%
Agency CMBS Primary
125
80
110
140
5.7%
US CLO AAA Secondary
213
125
175
250
5.2%
3.5%
0.9%
US CLO BB Secondary
1022
700
900
1300
33.4%
19.0%
-9.8%
EU CLO Primary
225
150
180
260
5.6%
4.3%
0.7%
UK Prime
80
55
65
100
1.6%
1.3%
0.2%
UK NC Senior
190
150
170
220
3.3%
2.6%
0.9%
900
989
4862
Source: Bloomberg, Yield Book, TRACE, CMA, Morgan Stanley Research forecasts; Data as of November 10, 2022. 1This figure refers to the total outstanding balance of non-agency RMBS; the outstanding balance of
non-QM is US$60 billion. 2This figure refers to the total outstanding balance of European ABS and CLOs, EU CLOs are US$200 billion while the prime and NC portion constitute the remaining US$250 billion.
Morgan Stanley Research
35
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Global Insight
Munis: Positioning for the Turn
Mark Schmidt, CFA
Barbara Boakye
Mark.Schmidt1@morganstanley.com
Barbara.Boakye@morganstanley.com+
+1 212 296-8702
1 212 761-1654
Morgan Stanley & Co. LLC
Morgan Stanley Co. LLC
Key investment ideas
• A bullish outlook for total and excess returns: Strong demand from individuals,
SMAs, and ETFs, plus moderate net demand from mutual funds, should drive credit
spread and AAA ratio compression.
• Mutual funds should catch up on yields, contributing to spread compression: We
think that the spread between index- and non-index-eligible credits will compress in
2023 after widening in 2022, as mutual fund flows stabilize versus ETFs.
• Higher supply, but not high enough to drive returns: A slower pace of refunding
activity keeps tax-exempt net supply to a manageable US$55 billion in our base case.
Exhibit 45: Key muni forecasts for 2023
10Y Ratio
30Y Ratio
Excess Returns
Total Returns
Change in Credit Spreads (to MMD)
New Credit Spread (to MMD)
Index Yield to Worst
Taxable Muni Spread to UST
Taxable Excess Returns
Bull
75%
80%
5.5%
15%
-25
35
1.95
90
2.50%
Base
80%
90%
3.0%
8%
-20
45
3.25
120
0.25%
Bear
85%
100%
-3%
-1%
30
90
4.90
155
-2.50%
Gross Supply
Tax-Exempt
Taxable
Net Supply
Tax-Exempt
Taxable
New Money
Current Refundings
Advance Refundings
Bull
515
405
110
145
65
75
405
65
50
Base
445
385
60
85
55
30
390
55
5
Bear
380
320
60
70
40
25
375
5
5
Source: Morgan Stanley Research forecasts
We expect munis to perform well next year, driven by lower UST
money should drive growth. Slowing government revenue year on
yields, ratio tightening, and 20bp of credit spread compression. We
year should encourage governments to borrow to cover a greater
think that household demand – specifically ETFs, direct brokerage,
share of capital spending. Conversely, several consecutive years of
and SMAs – will drive all the move in the ratio. Mutual funds'
higher GDP growth should make issuers more optimistic about the
scramble to keep up with the index and raise distribution yields
future.
should drive most of the move in credit spreads.
We expect a favorable environment for IG credit to benefit taxable
Macro uncertainty and a bear-flattening yield curve resulted in
munis as well. We forecast modestly positive excess returns for the
underwhelming 2022 issuance. In 2023, these headwinds should
taxable municipal market.
subside, but fall short of yielding a record year. We forecast US$445
billion in gross supply or an approximate 15-20%Y increase. New
36
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Global Insight
Commodities: A Third Year of Outperformance?
Martijn Rats
Amy Sergeant
Marius van Straaten
Martijn.Rats@morganstanley.com+
Amy.Sergeant@morganstanley.com
Marius.van.Straaten@morganstanley.com
+44 20 7425-6618
+44 20 7677-6937
+44 20 7677-5632
Morgan Stanley & Co. International plc+
Morgan Stanley & Co. International plc+
Morgan Stanley & Co. International plc+
Key investment ideas
• Commodity outperformance: In 2022, the Bloomberg Commodity index outperformed the MSCI World equity index significantly for
a second consecutive year. The last time this turned into a three-year string of outperformance of commodities over equities was in
1976-79 – history suggests that this is not frequent. However, with China reopening, the eventual end of rate hikes, and a dollar peak all
likely in 2023, these factors can turn into a meaningful tailwind for commodities.
• Energy – constructive: We expect Brent to rally to US$110/bbl as demand recovery continues, spare capacity is eroding rapidly, and the
capex response is broadly absent. European gas and LNG markets are likely to remain tight and support the price recovery from current
levels.
• Base metals – remain selective: With demand still uncertain, we focus on the supply side in base metals. The order of preference is
as follows: Aluminium, zinc, lead, copper, nickel. Aluminium is our top pick as supply continues to tighten against an uncertain demand
backdrop, while prices have been bouncing off the 50th percentile of the cost curve, which has normally been a floor. We are more cautious
on copper and expect the market to tip into oversupply in 2023, with both the concentrate and refined metal markets likely to feel looser.
However, it is our most preferred metal on a medium-term view due to lack of investment and growing energy transition demand (see
Copper, Aluminium and the Energy Transition, September 14, 2022).
• Gold prices have moved lower with a stronger USD and rising rates, but still look overvalued versus real and nominal yields, and we
forecast further weakness ahead.
• We expect that a sequential recovery in China's steel output in 1H23, in combination with seasonally weaker supply, will result in similar
1H market tightness as seen in 2021/22, pushing iron ore back towards US$125/t. Coal can stay higher for longer, but prices should
gradually trend lower, as the coal market rebalances slowly.
Energy
what we forecast at the start of the year, Nigeria's crude oil
production has recently fallen back to the level of 1970 again,
Crude oil: First range-bound, then higher
Kazakhstan has seen major outages, Brazil – once a major source
of supply growth – has seen its net crude oil exports fall 16% this
Exhibit 46: Brent crude oil
The supply side of the oil
year, and Libya's production outlook remains highly uncertain.
forecasts
market is not in good shape:
Then, the EU embargo on the import of Russian oil will soon kick
inventories are at multi-year
in, which also creates downside risk to supply
Period
4Q22
1Q23
2Q23
3Q23
4Q23
2024
Bear
75.0
70.0
65.0
65.0
65.0
65.0
Base
95.0
100.0
100.0
110.0
110.0
110.0
Bull
135.0
135.0
135.0
135.0
135.0
135.0
Source: Morgan Stanley Research forecasts; Note:
Our forecasts for WTI are US$2.5/bbl lower.
Morgan Stanley Research
lows, spare capacity is thin,
and investment levels have
For now, however, this is offset by demand which has also turned
now been so low for so long
'soft'. Following a healthy post-Covid demand recovery, consumers
that concerns about 'under-
tested the oil market's ability to supply over the summer, both in
investment' are arguably
terms of upstream production as well as downstream refining
justified. On top of this,
capacity. With very thin margins of safety, prices had to go to
production growth from US
demand-destructing levels, which they did: in June, gasoline rallied
shale has been roughly half
to US$180/bbl and diesel was briefly US$190/bbl. At the same
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Exhibit 47: Global oil inventory continues to draw at pace...
Global Insight
Exhibit 48: ...despite China's oil demand being 0.5-1.0 mb/d
below 2020/21 levels
Source: IEA, EIA/DOE, PJK, IE, Genscape, PAJ, Platts, Kpler, Morgan Stanley Research; Note: 3 main
products = gasoline, gasoil/diesel, and jet/kerosene.
Source: S&P Global Platts, Morgan Stanley Research
time, central banks started to hike rates aggressively and in sync,
could keep rising even if nominal yields turn. Recent commentary
Europe teetered on the brink of recession due to its natural gas
from Fed Chair Powell said that it was "premature…to be thinking
issues, and China reintroduced a range of mobility restrictions. All
about or talking about pausing our rate hike. We have a ways to
this drove oil demand back to 2-3 mb/d below pre-Covid (2019)
go". Our current forecast implies further downside ahead (US
levels in the last few months, while it was similar to its 2019 level
$1,600/oz by 1Q23) but we would note that we are not calling for
back in June.
prices to go all the way down to implied levels, given that
demand for inflation protection remains elevated, as well as our
A bearish macroeconomic outlook will probably continue to weigh
FX strategists' recent decision to turn neutral on the DXY, which
on prices in the coming months. However, despite this weak
is likely to start providing some support. In our recent price deck,
demand backdrop, inventories have continued to draw. On top of
we flipped our preference from gold to silver, after the gold:silver
this, downside risk is further balanced in the short term by a
ratio reached 95x, but we would argue that the case looks less
combination of the EU embargo on Russian oil imports, the end of
clear cut at the current 80x.
the SPR release, the possibility of China's reopening, and OPEC's
unusually proactive market management – all of which is
Base metals: Selective optimism
supportive for oil markets. Looking into 2023, we see the
potential for demand to recover even if the GDP outlook remains
After a strong start to the year, base metals have given back their
weak – a return to 2019 levels of aviation alone would add ~2 mb/
gains and, with the exception of nickel, are now down double
d to global demand. As the supply ceiling is still not far away, we
digits year to date. From here, we would argue that the demand
suspect that the market will once again need to ask "what is the
outlook is still quite uncertain. In Europe, the economic backdrop
demand-destruction price?" at some point later in 2023.
remains weak, in construction and durable goods in particular.
Demand in the US seems to be holding up for now, but there
Metals & bulks
could be downside risks ahead as the impact of rising rates comes
through with a lag. In China, which is typically 50%+ of base
Precious metals: High rates continue to weigh
metals demand, grid spending and EVs have been strong but the
important property sector continue to lag – we would expect this
After an initial price spike with the Russia-Ukraine conflict and
year's weak land sales and property starts to weigh on property
stagflation concerns, gold is now down on the year, holding a
completions into 2023. As such, we differentiate the base metals
strong inverse correlation with USD since mid-March. However,
more according to supply and cost curves. From that perspective,
gold continues to look overvalued versus the level implied by
aluminium is at the top of our order of preference, with European
current real and nominal yields ( Exhibit 56 ), with record central
smelter curtailments continuing to be announced, and China's
bank purchases in 3Q. On top of this, gold's correlation with real
production also falling as key producing regions face hydropower
yields has been slightly stronger than with nominal yields, so if
and other energy shortages as well as weakening margins. On top
inflation begins to fall as the base becomes higher, real yields
of this, the 50th percentile of the cost curve, which has
38
M
historically been a floor for the aluminium price, sits at US$2,200/
t, providing good risk/reward, in our view. We also see zinc fairly
Global Insight
Exhibit 49: Gold continues to look overvalued versus real yields
Real Gold Price ($/oz)
well supported with smelter curtailments in Europe, although put
2500
it below aluminium given higher exposure to China property. We
2000
are more bearish on copper and see the market loosening into
2023 as concentrate shipments from new mines ramp up, while
refined supply should also increase as rising treatment charges
and strong physical premiums incentivize smelters to run, tipping
the market into surplus. We are most bearish on nickel, with the
R² = 0.8294
1500
1000
500
0
2.00
overall nickel market pushed into surplus by strong Indonesian
supply, while stainless steel demand/production (nickel's main
Gold vs TIPS y = -329.99x + 1601.7
1.00
-
1.00
2.00
3.00
4.00
5.00
US 10y TIPS
Source: Bloomberg, US BLS, Morgan Stanley Research
demand driver) remain weak. That said, we acknowledge that the
impact on the LME price could be more mixed, given that most of
Exhibit 50: China total + property demand shares of global
the recent supply growth isn't in the form of refined nickel metal
demand
and therefore can't be used to replenish LME warehouse
80%
China demand
inventories. Also see The Price Deck – 4Q 2022.
China property demand
60%
However, we acknowledge that, as with the oil market, if 2023
were to bring a combination of a weakening USD, peaking interest
40%
rates, and China reopening, this could provide a powerful tailwind
for the commodities complex and lift all metals, especially with
20%
exchange inventories low across the board. Copper and iron ore in
met-coal
thermal
coal
steel
zinc
nickel
copper
alumina
aluminium
Dry bulks: Iron ore's déjà vu
0%
iron ore
particular are likely to benefit from a China reopening.
Source: Morgan Stanley Research estimates
Together with aluminium, iron ore remains our top pick in the
metals & mining space, but our bullish iron ore call is more tactical
internationally traded coal market in short supply this year,
in nature. Iron ore is coming from a rather weak starting point,
driving prices to record highs above US$400/t. This is most
with current price levels putting higher-cost miners in cash-
pronounced in Europe, where utilities not only have to buy more
negative territory. Similar to 2021 and 2022, we expect another
coal to replace gas, but also have to find alternative supplies for
year of two halves for iron ore, with a relatively tight market in
the c.70% of coal imports that were coming from Russia. While
1H23 and more oversupplied 2H23. Despite China's ongoing
Europe's coal price (similar to the TTF gas price) has come under
property headwinds, the combination of China reopening from
pressure from ample coal and gas inventories going into winter,
spring and lagged infrastructure demand should benefit early-
we expect further price volatility as inventories need to be
cycle steel demand more than base metals, driving a temporary
replenished through the course of next year – we forecast US
recovery in China's steel production from the current subdued
$280/t for Australia's Newcastle benchmark in 2023. We believe
level. At the same time, the four major iron ore producers ship
that the rebalancing of the seaborne coal market will be a gradual
typically 10% less in 2H versus 1H, due to seasonal weather
journey, with the price only returning to a more normalized level
effects. We believe that the resulting tighter iron ore market in
of US$100/t by 2025.
1H23 can drive a price recovery to US$125/t, before prices fall back
to cost-support levels in 2H23 (US$85/t). The other main dry bulk
commodity, thermal coal, is back in vogue with both utilities and
investors. The world has been burning more coal than ever before
in 2022, according to the IEA. However, beyond China and India
there has hardly been any investment in new coal mine capacity in
the last few years. Together with widespread coal mine/transport
disruptions and the EU sanctioning Russian coal, this has left the
Morgan Stanley Research
39
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Global Insight
Global Volatility: Ahead of the Cycle
Phanikiran Naraparaju
Phanikiran.Naraparaju@morganstanley.com
+44 20 7677-5065
Morgan Stanley & Co. International plc+
Exhibit 51: The majority of vol markets price high risk premiums
Key investment ideas
• Uncertainty peaks before markets trough: Volatility
markets have been ahead of the cycle and pricing in high risk
premiums across the board. Uncertainty peaks first and
(selling) volatility offers asymmetric risk/reward as an earlycycle trade consistent with a broader 'income/carry'
backdrop.
Ahead of the cycle: Volatility markets have been ahead of the cycle
and pricing in high risk premiums as investors sought to pay a premium for hedges. For most assets, implied volatility is above the historical average and similar to/higher than recent realized volatility.
Selling assets and reducing the balance sheet is a better choice than
Source: Bloomberg, Morgan Stanley Research
Exhibit 52: Current vol implies a ~50% chance you end 2023 out-
side these high-low ranges
Markets' 50/50 Range
hedging via vol in many places, as elevated vols make for challenging
breakevens.
Lower
Spot
Upper
3560
3420
1700
125
3949
3862
1978
140
4790
4390
2150
142
more balanced in a number of key assets. This reduced uncertainty
S&P 500
Eurostoxx 50
TOPIX
USDJPY
and high vol premiums translate into asymmetric returns for selling
Brent
65
96
125
Gold
1720
1762
2050
2.8
3.5
4.5
Meanwhile, our strategists are calling for a stalling of key momentum
trades this year – rate rises stall, the dollar rally abates, and some EM
equity markets trough after a long bear market. Risk/reward is far
volatility.
We believe that vol spikes will become weaker and harder to sustain
and vol declines stronger and more sustained. Vol selling should
make more money in good months than it loses in bad months, a pattern already evident in the last six months as VIX beta to market
declines drops sharply.
40
US 10yr
Source: Bloomberg, Morgan Stanley Research
M
Global Insight
Global Quant: Diversify Through the Transition
Stephan Kessler
Stephan.Kessler@morganstanley.com
+44 20 7425-2854
Morgan Stanley & Co. International plc +
Ronald Ho
Ronald.Ho@morganstanley.com
+44 20 7425-2722
Morgan Stanley & Co. International plc
Gilbert Wong
Gilbert.Wong@morganstanley.com
+852 2848-7102
Morgan Stanley Asia Limited+
example. Timing quant strategies in such an environment is particu-
Key investment ideas
• The market backdrop in 2023 is one of peaking rates and
equity markets which are bottoming out. Some of the big
moves in 2022 are reverting and real growth is low.
• Diversify during this transition across quant strategies as a
swift rotation through themes is expected.
• For quantitative investment strategies, our outlook points
toward a more muted but still strong performance of Trend
Following. A combination of equity Value and Quality
remains attractive due to cheap valuations, defensive
characteristics, and fundamental market dynamics.
Translating our rates forecasts into expected returns, the
Rates Value strategy has a strong outlook.
larly challenging and a balanced, diversified approach is advisable.
While diversification is key in this transition environment, a range of QIS
strategies are likely to perform particularly well:
• Equity Value and Quality: We highlighted these two styles
already in our mid-year outlook. Value remains cheap and benefits
from higher rates. We also see a fundamental market shift where
structural challenges to traditional Value names through market
disruptors recede, benefitting the factor. We advocate a combination with Quality as it is a defensive strategy which is likely to help
to stabilize portfolio returns in volatile markets.
• Trend Following: The strategy benefitted in 2022 particularly
from rapidly rising rates and substantial moves in commodities.
Our fundamental 2023 forecasts are that the dynamism changes
• Moving to regional equity factors, in the US, we suggest
and we end at lower rates in major developed markets. During this
looking for earnings visibility via Net Buyback Yield,
transition to a lower rates trend, our strategy may experience
Profitability, and Low Accruals as economic growth is
some losses while shifting to long rates positions (see current sig-
expected to slow down. In Europe, we would stay defensive
nals in Exhibit 53 ). However, we still like the strategy as markets
by positioning in Net Buyback Yield, Defensive Value, and
are expected to be driven by macroeconomic themes, providing
FCF Yield. In Asia/EM, we look for High-Quality Growth and
trend opportunities. The precise nature of market moves will be
suggest to explore small-to-mid-cap opportunities.
critical as Trend Following benefits most when moves occur continuously rather than through sudden jumps.
Our quant outlook is largely shaped in the Morgan Stanley economics and strategy forecasts. We highlight our views on the underlying equity market dynamics, expressed via factors, and emphasize
several quantitative investment strategies (QIS) across asset
classes that can help investors to navigate markets.
QIS opportunity set remains strong but diversification is key
Our outlook is characterized by: 1) Muted real growth in developed
markets; 2) Generally peaking rates; and 3) Developed equity markets which are up marginally over the coming year. On the path
toward the end of our forecasting period we are likely to experience
substantial market volatility. However, we also expect a normalization of some of the sizeable market movements we saw in 2022. A
weakening USD versus other developed economies is one such
Morgan Stanley Research
• Defensive Trend Following: We also highlight the defensive
nature of Trend Following, which should help investors to diversify portfolios while markets work through the economic slowdown. In
Crisis Alpha Through Defensive Trend Following,
April 28, 2020, we introduced a Defensive Trend Following
strategy with a long bias to rates/short bias to equities, among
others. While the strategy tilts were unfavorable in 2022
( Exhibit 54 ), investors with a focus on defensiveness may want
to consider this modification for 2023 as rates position constraints are consistent with our fundamental outlook and equity
volatility might also be favorable.
• Rates Value: Inflation dynamics in 2022 led to sizeable rates
moves which in turn hurt cross-sectional Value developed rates
strategies. Peaking rates in 2023 may help the strategies in this
space recover losses, delivering a strong performance. Our rates
forecasts imply strong returns for this strategy.
41
M
Exhibit 53: Average signals of Trend Following by asset class
Global Insight
Exhibit 54: Cumulative returns of Trend Following and Defensive
Trend Following
700
Trend Following
600
Defensive Trend Following
462.9
500
400
300
200
100
Apr-07
Apr-10
Apr-13
Apr-16
Apr-19
Apr-22
Source: Morgan Stanley QIS Research
Source: Morgan Stanley QIS Research; Note: Data as of November 8, 2022.
Diving into details of equity factor strategies delivers
a more nuanced picture than history implies
Exhibit 55: Europe long-short factor performance in early and late
recession phase – we favor cash-backed defensiveness during
economists expect the region to enter a recession as early as 3Q22,
although the rate of economic contraction is likely to improve
toward the second half of 2023. As such, we would suggest investors
to continue to position in exposures with cash-backed defensiveness
– Net Buyback Yield, Defensive Value, and FCF Yield. These factors
tend to be resilient during the early phase of recessions, due to their
Annualised L/S Factor Return
recession
Europe – cash-backed defensiveness to weather recession: Our
20%
into the late phase of the recession, potentially during late 2023, we
18%
17%
15%
10%
10%
9%
8%
5%
5%
9%
7%
6%
6%
7%
11%
6%
6%
0%
0%
-5%
-10%
-15%
exposures to stocks with relatively stronger earnings amid expected
earnings downgrades in the market. That said, as the economy moves
18%
-8%
Comp Value
Comp
Growth
Comp
Comp quality Low Vol*
Momentum
Early Phase
-13%
Size (Small) Net Buyback Defensive
Yield
Value
FCF Yield
Late Phase
Source: OECD, FactSet, Morgan Stanley Research; Note: The factor performances are long/short returns
of the top versus bottom quintile in MSCI Europe. The portfolios are rebalanced quarterly and returns are
equal-weighted.
would gradually switch positions from defensiveness to cyclicality.
Exhibit 56: US long-short factor performance during inflation/
economic downtrend regimes – Net Buyback Yield, Profitability,
nomic forecasts suggest a macro environment of lower growth, with
and Low Accruals tend to perform well during contractions in infla-
inflation which is expected to peak and roll over. Against such a back-
tion and the economy
drop, it becomes more important to focus on stocks with visibility of
near-term prospects in terms of earnings and cash-generating ability.
We suggest exposures to Net Buyback Yield, Profitability, and Low
Accruals. These factors rely on a track record of profit generation
rather than accounting estimates or consensus forecasts – earnings
momentum factors also tend to rank less well during a falling inflation environment, suggesting that consensus may not take into
account inflection in inflation in the forecasts in a timely manner.
Annualised L/S Factor Return
US – look for visibility of near-term earnings prospects: Our eco-
25%
23%
20%
15%
15%
10%
5%
10%
9%
8%
5%
4%
Yield factor’s valuation remains attractive in both Europe and the US,
with momentum of buyback volume staying strong.
42
11%
10%
8%
7%
6%
3%
1%
5%
5%
7%
5%
3%
1%
0%
0%
-2%
-4%
-5%
-10%
Comp
Value
Comp
Growth
-6%
-7%
Comp
Momentum
Inflation down
We highlight that, even with recent positive alpha, the Net Buyback
9%
6%
Comp
quality
Low Vol* Size (Small)
CLI down
Net
Buyback
Yield
Profitability
Low
Accruals*
Inflation Down/ CLI Down
Source: OECD, FactSet, Morgan Stanley Research; Note: The factor performances are long/short returns
of the top versus bottom quintile in MSCI USA. The portfolios are rebalanced quarterly and returns are
equal-weighted. *Lower values are preferred.
M
Global Insight
Asia-Pacific and EM – look for Quality and Growth amid the new
cycle: We believe that moderations of DXY and US Treasury bond
yields would help to improve risk sentiment for Asia/EM equities.
With potential fund inflows to the region, we believe that Growth
stocks would be favored, given that they are currently under-owned
by long-only managers and most shorted by hedge fund managers.
Yet we only expect Growth to outperform Value by high single digits,
as financial conditions might remain tight in 1H23. Thus, we favor
high-quality Growth stocks, and believe that any rallies of unprofitable Growth would only be tactical due to short covering.
Concurrently, small-to-mid caps with balance sheet resilience are
also favored.
Exhibit 57: US Treasury 10-year bond yield versus Value/Growth
relative performance in Asia/EM
110
4.21
4.00
4.5
3.88
100
3.75
4.0
3.50
3.5
90
3.0
80
2.5
70
2.0
1.5
60
1.0
50
40
Jan-17
0.5
Jul-17
Jan-18
Jul-18
Jan-19
MSCI EM Value/Growth
MSCI Japan Value/Growth
Jul-19
Jan-20
Jul-20
Jan-21
MSCI China Value/Growth
UST 10Y Yield - RHS
Jul-21
Jan-22
Jul-22
Jan-23
Jul-23
0.0
Jan-24
MSCI APxJ Value/Growth
MS f/c
Source: Bloomberg, MSCI, Morgan Stanley Research forecasts; Note; Data coverage from January 1, 2017
to November 4, 2022.
Morgan Stanley Research
43
M
Global Insight
Sustainability: Impact and Alpha in Focus
Stephen Byrd
Stephen.Byrd@morganstanley.com
+1-212-761-3865
Morgan Stanley & Co. LLC
verse: In our view, ESG metrics applied to stocks/sectors in
Key investment ideas
• Thematically, we anticipate that 'rate of change' funds will
emerge as a way to improve alpha generation, effect change,
and impact on ESG goals.
• We look to biodiversity and the supply chain as two emerging
areas of focus for investors.
a way not informed by deep sector expertise can achieve suboptimal results for both alpha and impact on achieving various ESG goals. We expect that this trend will become more
evident heading into 2023 as more companies that may
screen negatively on ESG metrics are pressured to achieve
healthy margins and EPS growth. For perspective on this
point, our US utilities team has developed an ESG framework
• In labeled ESG debt, we expect a rebound in supply after a
weak 2022, and an increased focus on transition financing.
that can drive both alpha and impact and is grounded in its
experience in the sector (see more details here).
2. Achieving positive ESG outcomes by engaging companies
to improve their ESG metrics: We expect to continue to see
Equities
increased investor engagement with management teams
and boards on efforts to improve carbon emissions (given
We see significant benefits in a true marriage of ESG investing
the backdrop of increased regulation), supply chain due dili-
principles and deep industry sector expertise... In 2023, we believe
gence, privacy/security, and on topics related to human cap-
that investors will increasingly look to enhance ESG performance
ital management, diversity and inclusion, and NEO
after a particularly difficult 2022, as measured by both alpha and
compensation given increased layoffs/hiring freezes in 2022.
impact on ESG objectives through linking ESG investing with sector-
3. A growing appreciation of the power of deflationary tech-
specific insights and knowledge. Put differently, absent this sector-
nologies as cost pressures continue: We think that cost
specific expertise, we believe that ESG criteria can be misapplied and/
pressures will continue to force companies to accelerate
or lead to unintended outcomes. We reject the idea that ESG metrics
investment in automation and productivity-enhancing tech-
cannot generate the strongest investor returns, but we also believe
nologies. In 2023 we expect deflationary technology to not
that ESG metrics, if applied to stocks, sectors, and bonds in a way not
only improve financial results but also drive improved ESG
informed by deep sector expertise, can achieve suboptimal results in
metrics. Given the rapid declines in cost of solar/wind/clean
terms of both alpha and impact on achieving various ESG goals.
hydrogen/green ammonia, precision agriculture, cheaper
carbon capture tech, and many more, we would expect to see
…which will bring 'rate of change' to the forefront of investor
companies capitalize on the technology to transform their
focus: In our dialog with investors around the world, we have sensed
operations to become more cost and energy efficient. We
a growing interest in owning 'improvers' rather than in owning only
should also expect to see companies that offer deflationary
the stocks that screen as 'best in class' on a range of ESG metrics. We
clean energy technologies with high barriers to entry being
expect that this debate will continue into 2023, and we think that
able to grow rapidly and generate increasing margins (see
both approaches can be effective if applied thoughtfully. We think
our note here).
that using an ESG rate of change approach can provide investors with
the benefit of achieving/improving alpha and greater ability to effect
Climate change adaptation and physical risk a larger part of the
change while achieving ESG goals. We identify three key trends that
conversation: With the latest research from climate scientists nar-
we expect will drive interest in rate of change in the coming year:
rowing the range of likely outcomes for climate change to around
1. Generating alpha by not restricting the investable uni44
2.5-2.8C, we expect that the physical risks of climate change and the
necessary steps for adaptation will become a more pressing compo-
M
Global Insight
nent of the ESG discussion in 2023. We believe that at a sovereign/
that may reshape Asia's supply chain – including the global carbon
market level future adaptation costs are not fully reflected in GDP
price (as companies prepare for the EU carbon border adjustment
growth, as evidenced by the loose correlation between long-term
mechanism), physical risks, and supply chain due diligence require-
GDP growth and Morgan Stanley's country-level ESG scorecard.
ments (in particular Europe and Japan). We believe this is an area
Empirical evidence also shows that physical risks have impacts on
where ESG engagement from investors can make a significant differ-
earnings and there may currently be mispricing in the markets (see
ence, especially as many companies in the Asian supply chain are pri-
China Sustainability: Weathering the Storm of Climate Risks,
vate and are not subject to any ESG disclosure rules. ISSB’s Scope 3
September 14, 2022, for insight into the implications of the physical
emission requirements may be another factor to push for better
risks of climate change in China).
supply chain sustainability in Asia.
Biodiversity as an investment thesis to gain ground: Holding an
Fixed income
indispensable role in the fight against climate change as well as
heavily supporting the food, agricultural, and medicinal industries,
Transition financing to gain traction in 2023: As on the equity side,
biodiversity is vital for life on earth. However, more than one million
we anticipate increased interest in financing transition leaders in
animal and plant species are under threat of extinction while the rate
high-emitting sectors in fixed income. The labeled bond market has
of species loss is currently estimated to be between 1,000 and
historically favored low-emitting, clean sectors, but we expect to see
10,000 times higher than the natural extinction rate. There is
a shift in appetite for issuers that have demonstrated progress on
increasing awareness that urgent action is needed to repair and
their transition but are from high-emitting or hard-to-abate sectors.
restore biodiversity before damage becomes irreversible, leading to
Though only about US$15 billion of labeled transition bonds have
critical instability within natural ecosystems. We expect that a new
been issued in total, we expect to see increased supply in 2023; we
biodiversity framework will be established at this year's Convention
also foresee appetite for bonds that are not explicitly marketed as
on Biological Diversity (COP15) in December.
transition but as a green or a sustainability-linked bond (SLB) and
that are clear transition plays, primarily high-emitting industrials.
Leading causes of biodiversity loss revolve around land-use change,
pollution, overexploitation, climate change, and invasive species/dis-
We expect social supply to stay steady at around US$100-120 billion,
ease. We highlight these as particular areas of focus, in line with the
though an increase in unemployment globally could prompt higher
21-target action-oriented draft framework released by the UN last
supply as big players in that space tend to be agencies linked to
July. Within the UN draft framework, a minimum annual funding gap
employment benefits in Europe (e.g., UNEDIC). The sustainability use
of US$700 billion was highlighted. This needs to be met with a com-
of proceeds instrument did not demonstrate the growth we initially
bination of both public and private funding. In a 2019 report from the
anticipated but, if we do see a need for increased social spending as
Paulson Institute, it was highlighted that 58% of financial flows into
a result of unemployment, food security issues, etc., the sustain-
biodiversity came from governments.
ability label may become more appealing for SSAs in particular. Our
base case estimates are for around US$150 billion of sustainability
We highlight significant capacity for growth in corporate funding
debt in 2023.
driven by: 1) Increased scrutiny from stakeholders (regulators, investors, and consumers); and 2) Stricter regulation, particularly as
Exhibit 58: We do not expect supply in labeled bonds to surpass
engagement intensifies into COP15. Following the Paris Agreement
2021 totals next year, but we should see an uptick across the board
at COP21 in 2015, we saw the introduction of emission-reduction tar-
over this year by about 10% to just shy of US$1 trillion
gets both at a country- and company-specific level, supported by reg-
Annual Labeled Bond Issuance and Forecasts (US$bn)
ulation. Given that COP15 is expected to be of a similar magnitude, we
expect to see progress on company initiatives surrounding biodiversity to reduce industry’s impact on the natural environment. In our
view, this grants an investment opportunity from both an improver
and solution-based perspective.
1,200
Green
1,000
Social
Sustainability
800
Sustainability-linked
600
400
200
Across Asia Pacific, the supply chain is a key issue: Asia is a global
manufacturing center, and is a major exporter for many necessities
0
2013
2014
2015
2016
2017
2018
2019
2020
2021 2022e 2023e
Source: Bloomberg, Morgan Stanley Research forecasts
such as textiles and palm oil. We see a few dynamics related to ESG
Morgan Stanley Research
45
M
Uptick in labeled supply, particularly green: While supply missed
our expectations in 2022 and is highly unlikely to surpass 2021 totals,
we expect to see small increases in issuance next year. Overall supply
should rebound as the pace of rate hikes globally slows and/or peaks,
though we do not expect totals to surpass the US$1 trillion mark as
in 2021. We anticipate renewed participation in the labeled bond
market from HY investors, who were largely absent given the
increased volatility and higher rates, but are likely to have refinancing
needs next year and may take advantage of the green or SLB market
to do so where possible. Overall we expect an increase in green
supply of around 10% to around US$600 billion, and SLB supply to
come in at similar quantities of US$70-80 billion.
46
Global Insight
M
Global Insight
What We Debated
Andrew Sheets
Andrew.Sheets@morganstanley.com
+44 20 7677-2905
Morgan Stanley & Co. International plc+
Vishwanath Tirupattur
Vishwanath.Tirupattur@morganstanley.com
+1 212 761-1043
Morgan Stanley & Co. LLC
This year ahead outlook involved intense discussions
with the entire Morgan Stanley global economics and
strategy teams. Here's what we debated:
The elusive inflation peak: Given persistent upside surprises to
inflation, there was understandable skepticism around our forecast
for US inflation to show a steady decline. Acknowledging the uncertainty, our economists see relief from base effects, normalizing
supply chains, and weaker labor markets, as well as idiosyncratic
dynamics in used cars and medical services. We are not below consensus on shelter.
Growth recession versus earnings recession: We are well below
consensus on earnings in the US and Europe, but only forecast a
recession in the latter. Why do earnings underperform GDP? A shift
activity and prices is rooted in the much lower prospect of forced
from goods to services and a slower-than-normal cycle for job cuts
sales through foreclosures due to tight mortgage lending standards
put pressure on margins.
post-GFC, and substantial equity in many existing homes.
Which version of 'late cycle'? Sometimes the end of a hiking cycle
Credit defaults – different this time? There was debate around why
is good for markets over the next 12 months (February 1995).
we only see high yield default rates rising to 'average' levels (4-4.5%),
Sometimes it isn't (May 2000). Much of the difference is driven by
given slower growth and higher borrowing costs. Our credit strate-
whether a recession follows. While our US forecast is a 'soft landing'
gists contend that given the modest maturity walls over the next two
(no recession), the margin is small, making the risk/reward for US
years, cash on balance sheets and healthy coverage and leverage
stocks and HY challenging. What did 10-year USTs do after both
ratios will moderate near-term default pressure. But they do see the
those dates? They rallied.
potential for a longer default cycle, as maturities start to matter more
in 2024.
Neutral on USD: The change from a bullish USD view to neutral is out
of consensus. Our FX strategists felt better about downside risks to
The unknown unknowns: Finally, there was debate around risks we
growth in China (more optimism on reopening) and Europe (lower
might be missing. The fact that cryptocurrencies now have a larger
natural gas prices), which reduced the case to 'pay up' for an expen-
market cap than whole asset classes like EM sovereign debt or US
sive USD. And while the November FOMC sounded hawkish, they
high yield, but no cash flow. Uncertainty over how China’s
note that we forecast fewer Fed hikes than the market as inflation
'Covid-zero' policy could coexist with the more transmissible delta
slows.
variant. Whether supply chain stress was leading to ‘double ordering’
and therefore some payback in growth? And whether a shift in US
US housing – much lower activity versus more stable prices:
political power in the midterms could change the narrative around
Mortgage affordability is deteriorating at a faster pace than at any
fiscal policy?
point in the last 30 years. While our housing strategists expect a
GFC-level deterioration of housing activity – sales, starts, and permits – they expect home prices to fall much less. The divergence in
Morgan Stanley Research
47
M
Global Insight
How Consistent Are Our Forecasts?
Serena Tang
Exhibit 59: Forecast 'face off': How do our price targets compare
Serena.Tang@morganstanley.com
to each other and history?
+1 212 761-3380
Morgan Stanley & Co. LLC
How reasonable are our forecasts relative to each other? We run
simple multi-variable linear regressions for every forecast market,
using all other markets' performance as variables. For example, our
model would look at whether the S&P next 12-month forecast price
change is roughly in line with our forecasts for USD/JPY, US 10-year
yields, US HY spreads, and so on. In other words, the model gives
insight into whether our strategists' forecasts imply asset correlations to differ significantly from recent history.
The simple model suggests that expected returns for risk assets are
mostly 'in line' with other forecasts. For example, weaker US equities
performance is similar to what other markets' price targets are
implying. Similarly, while EUR credit spread moves look more constructive versus, say, what's projected for US credit, the assets' forecast returns look consistent with other strategists' price targets.
Within FX, our strategists see a stronger EUR and AUD and a weaker
Equities
S&P 500
MSCI Europe
TOPIX
MSCI EM
FX
USDJPY
EURUSD
GBPUSD
AUDUSD
USDINR
USDZAR
USDBRL
Rates (%)
UST 10Y
Bunds 10Y
UKT 10Y
JGB 10Y
Credit (bps)
US IG
US HY
EUR IG
EUR HY
BTP 10y
EM Sovs
Commodities
Brent
Gold
As of Nov
10, 2022
4Q23
Target
MSe
Xasset
Face-off
Model-Implied
12M Chg
3956
1740
1937
890
3900
1790
2150
1000
4074
1744
2086
1045
-1.4%
2.9%
11.0%
12.4%
141
1.02
1.17
0.66
82
17.4
5.38
140
1.08
1.16
0.70
77
16.3
5.10
138
1.02
1.27
0.67
79
16.9
4.52
-0.7%
5.8%
-1.0%
5.8%
-5.9%
-6.1%
-5.2%
3.81
2.01
3.29
0.25
3.50
1.50
3.10
0.45
3.48
1.69
3.05
0.35
-0.31
-0.51
-0.19
0.20
147
468
204
554
199
511
155
575
190
650
175
460
164
528
192
651
173
481
8
107
-14
96
-24
-51
94
1745
110
1650
88
1692
17.4%
-5.4%
±1.5σ Range
│
●
●│
●│
│●
●│
● │
│ ●
● │
│●
│●
● │
│
■
●
●│
■
■
Diverge
from
Model?
Y
Y
Y
● │
● │
■
●│
│ ●
●
│●
│
Source: Bloomberg, Morgan Stanley Research; Note: Our 'model' numbers are based on linear regressions,
using the last 15 years of history to examine cross-asset relationships. The model flags a divergence if
the magnitude of move predicted by our strategists falls outside the model's 1.5 standard deviation range,
as represented by the light blue bars. Grey bars indicate forecasts are most in line with other forecasts.
Blue dots indicate model expected returns, vertical bars indicate strategist forecasts.
GBP than what all other forecasts imply. Given that the move in USD
that the range of outcomes for Chinese equities is wide, which leads
this year has been a 2 sigma event, and some currencies like GBP have
them to retain an equal-weight stance for now, tempering EM equi-
been driven by idiosyncratic risks, we think it makes sense that cur-
ties expected returns. For HY, unlike prior periods, our credit strate-
rencies may stray from where historical correlations would imply
gists have noted that HY markets face the challenge of companies
them to trade.
approaching the refinancing window leading up to a maturity wall in
late 2024/2025, which makes them more cautious on the asset.
Along the same theme, all other Morgan Stanley Research forecasts
suggest Bund yields to be higher and JGB yields lower than our macro
In general, our forecasts taken together seem to be implying that our
strategists have pegged these assets to be by end-2023; once again,
strategists as a whole are predicting a late-cycle environment (e.g.,
given the big moves in rates we've witnessed this year and the fact
muted returns on US stocks, yields peaking, weaker USD) whereas
that we're moving away from the QE regime, expected returns for
markets look ahead to early-cycle winners (e.g., EM equities higher,
2023 that differ from historical relationships make intuitive sense.
EM FX stronger). As much as some individual forecasts may – for
good reasons – stray from what price targets of all other assets are
Outside of macro assets, our model implies more bullish levels for
saying, the broad backdrop is consistent with our narrative of growth
EM stocks and US HY than our strategists are pencilling in. As much
and inflation moderation, and the end of tightening policy our econo-
as we are confident that EM equities is early cycle and will lead in
mists expect for next year.
2023, our China equity strategists led by Laura Wang have argued
48
M
Global Insight
Expected Returns and Risk/Reward
Exhibit 60: Global asset classes – expected 12-month return vs. risk
Skew (Bull+Bear)/Avg Vol
2.0
Most attractive
UST 10yr
1.5
1.0
ZAR/USD BRL/USD
EM Sovs
AUD/USD
EUR/USD
Topix
Brent
MSCI Europe
EUR IG
MSCI EM
EUR HY
Italy 10yr
UKT 10yr
0.5
US HY
US IG
0.0
S&P 500
JGB 10yr
-0.5
Lowest Correlation
Medium Correlation
Highest Correlation
GBP/USD
-1.0
Least attractive
-0.4
-0.2
DBR 10yr
0.0
0.2
0.4
0.6
Base Return/Avg Volatility
0.8
1.0
1.2
Source: Morgan Stanley Research. Note: 'Expected returns' based on MS Strategy 12m forecasts and current market prices. Correlation is six-month relative to global equities (MSCI ACWI). Credit returns are excess
returns.
Exhibit 61: Morgan Stanley forecasts
Equities
S&P 500
MSCI Europe
Topix
MSCI EM
FX
USD/JPY
EUR/USD
GBP/USD
AUD/USD
USD/INR
USD/ZAR
USD/BRL
Rates (% percent)
UST 10yr
DBR 10yr
UKT 10yr
JGB 10yr
Credit (bps)
US IG
US HY
EUR IG
EUR HY
EM Sovs
US Agency MBS
Commodities
Brent
Copper
Gold
Q4 2023 Forecast
Base
As of Nov
10, 2022
Bear
3,956
1,740
1,937
890
3,500
1,485
1,670
730
3,900
1,790
2,150
1,000
4,200
2,060
2,450
1,130
141
1.02
1.17
0.66
81.8
17.4
5.38
127
1.04
1.09
0.67
72.4
15.5
4.80
140
1.08
1.16
0.70
77.0
16.3
5.10
147
1.14
1.21
0.75
80.1
17.0
5.70
3.81
2.01
3.29
0.25
4.50
1.80
3.40
0.75
3.50
1.50
3.10
0.45
2.10
1.20
2.80
0.10
147
468
204
554
511
56
210
700
300
850
650
85
155
575
190
650
460
50
125
400
150
450
350
35
94
3.8
1,745
65
3.0
1,485
110
3.3
1,650
135
4.1
1,980
Bull
Q4 2023 Return Forecast
Bear
Base
Bull
Total Returns
-10%
0.3%
8%
-11%
6.3%
22%
-11%
13.6%
29%
-14%
15.9%
30%
Total Returns
-9%
-4.4%
6%
-1%
3.3%
9%
-8%
-1.8%
3%
0%
4.5%
12%
5%
8.8%
15%
4%
8.9%
14%
1%
12.5%
19%
Total Returns
-1%
6.3%
18%
4%
7.0%
9%
2%
5.2%
7%
-4%
-1.0%
2%
Excess Returns
-3%
0.9%
3%
-6%
-0.5%
7%
-2%
2.7%
5%
-5%
1.9%
9%
-5%
8.9%
17%
-1%
0.9%
2%
Total Returns
-26%
26.0%
55%
-21%
-12.4%
9%
-17%
-8.2%
10%
Average
Volatility
Base Case
Return/Risk
21%
18%
20%
21%
0.01
0.34
0.68
0.76
10%
9%
11%
12%
7%
16%
18%
-0.45
0.38
-0.16
0.39
1.30
0.56
0.69
8%
8%
10%
4%
0.81
0.86
-0.26
4%
8%
3%
7%
8%
2%
0.21
-0.06
0.85
0.28
1.09
0.38
43%
26%
17%
0.61
-0.47
-0.48
Source: YieldBook, MSCI, Bloomberg, Morgan Stanley Research forecasts. Note: Returns are total returns, except for credit, where we forecast excess returns versus government bonds. Commodity returns are calculated
relative to futures to account for carry. All currency returns are shown as XXXUSD return. Volatility is shown as the average of 1yimplied vol (where available) and 10y realised vol.
Morgan Stanley Research
49
M
Global Insight
Morgan Stanley Key Economic Forecasts
Exhibit 62: Morgan Stanley key economic forecasts
2022
2023
2024
Real GDP (%Y)
Global
G10
US
Euro Area
Japan
UK
EM
China
India
Brazil
1Q
4.4
4.4
3.7
5.5
0.6
10.9
4.3
4.8
4.1
1.7
2Q
3.2
2.9
1.8
4.3
1.6
4.4
3.5
0.4
13.5
3.2
3Q
2.9
2.2
1.8
2.1
2.2
2.4
3.5
3.9
6.2
3.7
4QE
1.8
1.0
0.3
1.4
1.8
0.4
2.4
3.8
4.4
2.5
1QE
1.5
0.7
0.7
0.3
2.0
-1.1
2.1
3.2
4.7
0.9
2QE
2.7
0.3
0.9
-0.5
1.1
-1.9
4.4
6.7
7.0
1.5
3QE
2.3
0.0
0.3
-0.5
1.0
-1.8
3.9
5.0
6.8
1.4
4QE
2.5
0.2
0.3
-0.1
0.9
-1.3
4.2
5.1
6.4
1.1
1QE
2.6
0.6
0.5
0.6
1.0
-0.3
4.0
4.7
5.0
1.6
2QE
2.9
1.0
0.8
0.9
1.6
0.5
4.3
4.9
6.9
1.4
3QE
2.7
1.2
1.1
0.9
1.8
0.8
3.9
4.1
7.0
1.5
4QE
2.7
1.4
1.4
1.0
1.9
1.0
3.6
3.8
6.7
1.5
Consumer price inflation (%Y)
Global*
G10
US
Euro Area
Japan
UK
EM*
China
India
Brazil
6.5
6.3
8.0
6.1
0.9
6.2
6.6
1.1
6.3
10.7
8.4
7.7
8.6
8.0
2.4
9.2
8.9
2.2
7.3
11.9
8.8
8.1
8.3
9.3
2.7
10.0
9.4
2.7
7.0
8.7
8.7
8.3
7.4
10.7
3.3
10.5
9.0
2.6
6.2
5.9
7.2
6.7
5.5
9.4
1.4
10.3
7.5
2.7
5.9
4.8
5.4
5.0
3.5
7.5
1.1
9.4
5.7
1.9
4.7
2.7
4.9
3.7
2.4
5.6
0.9
7.9
5.7
1.7
5.6
3.9
4.4
2.4
1.9
2.9
0.7
5.5
5.8
2.0
5.6
4.4
4.2
2.2
2.0
2.1
1.4
4.1
5.7
2.0
5.5
4.2
4.0
2.0
2.0
2.0
1.8
1.3
5.4
1.8
5.3
4.0
3.7
2.1
2.2
2.3
1.7
1.4
4.8
1.5
4.6
3.5
3.5
2.1
2.2
2.3
1.4
1.4
4.6
1.3
4.5
3.2
Monetary policy rate (% p.a.)
US
Euro Area#
Japan
UK
China^^
India
Brazil
0.375
-0.50
-0.10
0.75
2.10
4.00
11.75
1.625
-0.50
-0.10
1.25
2.00
4.90
13.25
3.125
0.75
-0.10
2.25
2.00
5.90
13.75
4.375
2.00
-0.10
3.50
2.00
6.25
13.75
4.625
2.50
-0.10
4.00
2.00
6.50
13.75
4.625
2.50
-0.10
4.00
2.00
6.50
13.50
4.625
2.50
-0.10
4.00
2.00
6.50
12.50
4.375
2.50
-0.10
4.00
2.00
6.25
11.00
3.875
2.25
-0.10
3.75
2.00
6.00
9.50
3.375
2.00
-0.10
3.50
2.00
6.00
8.50
2.875
2.00
-0.10
3.00
2.00
6.00
8.50
2.375
2.00
-0.10
2.50
2.00
6.00
8.50
Source: IMF, Morgan Stanley Research forecasts; Note: Global and regional aggregates for GDP growth are GDP-weighted averages, using PPP weights; Japan policy rate is the interest rate on excess reserves; CPI numbers are period average. Global* and EM* Consumer Price Inflation Aggregates exclude Argentina. ^^China's policy rate refers to the 7-day repo rate. #Euro area policy rate refers to depo rate.
50
M
Global Insight
Morgan Stanley Global Currency Forecasts
Exhibit 63: Morgan Stanley FX forecasts
EUR/USD
USD/JPY
GBP/USD
USD/CHF
USD/SEK
USD/NOK
USD/CAD
AUD/USD
NZD/USD
EUR/JPY
EUR/GBP
EUR/CHF
EUR/SEK
EUR/NOK
USD/CNY
USD/HKD
USD/IDR
USD/INR
USD/KRW
USD/MYR
USD/PHP
USD/SGD
USD/TWD
USD/THB
USD/BRL
USD/MXN
USD/ARS
USD/CLP
USD/COP
USD/PEN
USD/ZAR
USD/TRY
USD/ILS
EUR/PLN
EUR/CZK
EUR/HUF
DXY Index
Fed's Broad USD
ECB EUR TWI
2022
4Q
1.00
147
1.12
0.98
10.90
10.50
1.37
0.64
0.59
147
0.89
0.98
10.90
10.50
7.25
7.85
15,700
81.5
1370
4.70
58.0
1.400
32.0
37.0
4.90
19.70
176.3
930
5,100
3.95
17.5
20.00
3.60
4.80
24.8
400
111
126
95.1
2023
1Q
1.02
146
1.13
0.97
10.59
10.10
1.35
0.66
0.61
149
0.90
0.99
10.80
10.30
7.05
7.83
15,400
80.0
1340
4.60
57.0
1.385
31.6
36.3
4.95
19.65
210.0
900
5,150
3.85
17.0
21.00
3.70
4.75
25.0
380
109
125
95.3
2Q
1.04
145
1.14
0.96
10.19
9.62
1.33
0.67
0.63
151
0.91
1.00
10.60
10.00
6.90
7.82
15,100
79.0
1320
4.50
56.5
1.375
31.3
35.5
5.00
19.60
240.8
880
5,125
3.75
16.8
22.00
3.65
4.70
25.4
370
107
123
95.7
2024
3Q
1.06
141
1.15
0.95
9.81
9.25
1.31
0.69
0.65
149
0.92
1.01
10.40
9.80
6.85
7.81
14,900
78.0
1300
4.45
56.0
1.365
31.1
35.0
5.10
20.15
276.1
860
5,100
3.65
16.5
23.00
3.60
4.65
25.8
360
105
122
96.3
4Q
1.08
140
1.16
0.94
9.54
8.89
1.29
0.70
0.67
151
0.93
1.02
10.30
9.60
6.80
7.79
14,700
77.0
1280
4.40
55.0
1.355
30.9
34.5
5.10
20.50
452.2
840
5,075
3.50
16.3
24.00
3.55
4.60
26.0
350
104
121
97.0
1Q
1.08
137
1.18
0.95
9.48
8.89
1.27
0.73
0.67
148
0.92
1.03
10.24
9.60
6.70
7.78
14,700
76.5
1266
4.32
55.2
1.355
30.9
34.5
5.03
20.54
577.5
837
4,644
3.50
16.2
24.00
3.57
4.56
26.4
353
103
121
96.4
2Q
1.08
134
1.20
0.96
9.42
8.88
1.26
0.75
0.67
144
0.90
1.03
10.18
9.60
6.60
7.77
14,700
76.1
1253
4.24
55.5
1.355
31.0
34.5
4.96
20.58
687.8
835
4,600
3.50
16.2
24.00
3.58
4.53
26.9
355
102
120
95.7
3Q
1.08
130
1.22
0.96
9.37
8.88
1.24
0.78
0.67
141
0.89
1.04
10.12
9.60
6.55
7.76
14,700
75.6
1239
4.16
55.7
1.355
31.0
34.5
4.89
20.61
788.6
832
4,600
3.50
16.2
24.00
3.60
4.49
27.3
358
102
119
95.2
4Q
1.08
127
1.24
0.97
9.31
8.87
1.23
0.80
0.67
137
0.87
1.05
10.06
9.60
6.50
7.75
14,700
75.1
1225
4.08
55.9
1.355
31.1
34.5
4.82
20.65
887.1
829
4,600
3.50
16.2
24.00
3.62
4.46
27.7
360
101
118
94.7
Source: Morgan Stanley Research forecasts
Morgan Stanley Research
51
M
Global Insight
Morgan Stanley Government Bond Yield/Spread
Forecasts
Exhibit 64: Morgan Stanley government bond yield/spread forecasts – base cases
2-Year
US
Germany
Japan
UK
Australia
New Zealand
Canada
Austria*
Netherlands*
France*
Belgium*
Ireland*
Spain*
Italy*
Portugal*
5-Year
2Q23
4Q23
2Q23
4Q23
4.15
1.20
-0.05
2.80
3.10
4.20
3.55
5
0
5
5
5
15
65
10
3.50
0.90
0.00
2.50
2.90
4.00
3.05
5
0
5
5
5
15
65
10
3.90
1.30
0.00
3.10
3.35
4.15
3.35
30
10
25
25
15
45
35
3.50
1.10
0.10
2.80
3.15
3.95
3.15
30
10
25
25
15
45
35
10-Year
2Q23
4Q23
3.75
1.60
0.25
3.20
3.60
4.20
3.25
55
20
40
45
35
85
210
75
3.50
1.50
0.45
3.10
3.35
4.05
3.00
55
20
40
45
35
85
175
75
30-Year
2Q23
4Q23
3.90
1.80
1.35
3.30
3.85
4.40
3.25
65
20
70
75
75
125
115
3.55
1.80
1.30
3.20
3.55
4.20
3.10
65
20
70
75
75
125
115
Source: Morgan Stanley Research forecasts. Note: *Yield spread to Bunds in bp.
Exhibit 65: Morgan Stanley government bond yield/spread forecasts – bull, bear, base cases
10-year
US
Germany
Japan
UK
Australia
New Zealand
Canada
Austria*
Netherlands*
France*
Belgium*
Ireland*
Spain*
Italy*
Portugal*
Bull
Bear
2Q23
4Q23
2Q23
4Q23
2Q23
4Q23
3.55
1.80
0.15
3.30
3.35
3.90
2.95
45
20
35
35
30
75
165
65
2.10
1.20
0.10
2.80
3.25
3.80
2.85
45
20
35
35
30
75
160
65
3.75
1.60
0.25
3.20
3.60
4.20
3.25
55
20
40
45
35
85
210
75
3.50
1.50
0.45
3.10
3.35
4.05
3.00
55
20
40
45
35
85
175
75
4.70
2.35
0.25
3.70
4.25
4.70
3.60
65
30
50
55
45
115
255
110
4.50
1.80
0.75
3.40
4.35
4.80
3.70
65
30
50
55
45
115
260
110
Source: Morgan Stanley Research forecasts; Note: *Yield spread to Bunds in bp.
52
Base
M
Global Insight
Valuation Methodology and Risks
Exhibit 66: EM trades and stances
Trade
Date
Entry Level
Target
Stop
Rationale
Risks
As central banks approach the end of their tightening cycles, yield curves should start to steepen, as seen in
CEE countries which started hiking in mid-2021 and concluded in July 2022. The MAS and BoK were slightly
behind CEE countries in starting their hiking cycles but were ahead of other Asia economies, so they could see
their curves steepen first.
The MAS continuing to push front-end rates higher via
its liquidity absorption.
SGD IRS 2s10s steepener
13-Nov-22
At publication
40
-80
Pay 5y CNY NDIRS
3-Oct-22
2.54
2.90
2.30
Consensus is bearish on the timeline for a change in China's Covid-zero policy. We believe the risk is for an
earlier rather than later China reopening. This would surprise the market and push China rates higher.
Further slowdown in the Chinese economy.
China's growth outlook weakening further.
Long CNH/INR
13-Nov-22
At publication
12.00
11.00
We believe that markets are underpricing the upside risk of China pivoting away from Covid-zero earlier than
expected. An earlier reopening would support China growth and CNH. Meanwhile, a resumption of travel in
China would support oil prices and weigh on INR.
Short USD/THB
2-Nov-22
37.8
35.0
39.0
Thailand's tourist numbers are recovering fast, with 1.3 million tourists arriving in September. We expect this
trend to continue into winter as more European and US tourists are likely to travel to Thailand. The current
account, which improved in September, should continue to improve. The possible reopening in China could
also add further support to THB.
Sluggish recovery in tourism.
Short 6m USD/CNH risk reversal
31-Oct-22
1.585
-
-
We continue to believe that markets are underpricing the upside risk of China pivoting away from Covid-zero
earlier than expected. We like selling 6m USD/CNH risk reversal to fade the elevated level of implied volatility
and play for a potentially lower USD/CNH.
China's growth outlook weakening further.
Short TWD/KRW
31-Oct-22
44.2
42.0
45.0
Both KRW and TWD are challenged by a shrinking current account surplus, but Korea's portfolio flows are
stronger. Korean equities have seen foreign inflows in October while Taiwan has continued to see outflows, with
a similar picture seen on the bonds side. Investor concerns about geopolitical risks may take longer for foreign
flows into Taiwan to return.
Korea's current account surplus deteriorating further
significantly and/or reduced geopolitical concerns for
Taiwan.
Short PLN/HUF
24-Oct-22
85.9
82.3
87.6
In Hungary, the authorities are focused on resolving some of the economic challenges and obtaining the EU
funds. The central bank has tightened significantly and positioning is short HUF. In Poland, we believe that risk
premia in the currency is low and should adjust higher.
Hungary not getting EU funds and/or the NBP starting to
intervene in the market.
Receive 5y TIIE
31-Oct-22
9.31
8.60
9.60
While still too early for front-end receivers, the outlook for Mexico's CPI, coupled with our economists'
expectation of further deterioration in both domestic and global demand into 2023, does support bullish
positions in the belly of the curve, particularly amid a stabilisation in US rates.
Another bearish episode for US rates, or another global
CPI shock.
Receive 1y1y CLPxCAM vs. pay 5y5y
CLPxCAM
12-Oct-22
-175
0
-260
With our economists expecting Chile to head into a deep recession in 2023, we expect the BCCh will eventually
cut to levels that are more in line with or slightly lower than the longer-term nominal neutral rate, which we are
proxying via the 5y5y in this case. For now, the market has not fully priced this scenario to occur by the end of
2023 and into 2024 (1Y1Y).
The BCCh is forced to hike more aggressively due to
renewed CPI risk via external/geopolitical events or an
outsized sell off in the currency (moves well over 1,100).
Receive Jan 25 DI
6-Sep-22
11.76
10.25
12.50
We think that fundamentals are now in place for a more structural rally in DI rates, given peaks in CPI (headline
and core) and in 2023 CPI expectations, as the hiking cycle has arguably reached its end.
Potential unorthodox fiscal measures from presidential
candidates, potential noise around the actual outcome
of the presidential election (especially amid a tight gap).
Like South Africa Local Rates
13-Nov-22
NA
NA
NA
The Treasury continues with its fiscal consolidation plan while our economist expects the SARB to hike less
than priced in by the market. A stronger currency will also reduce the risk of more tightening by the SARB.
A stronger USD.
NA
We expect HUF to appreciate over the medium term as risk premia falls on the back of a sideways USD as well
as expectations that EU funds will be received. This will alleviate the pressure on the NBH to keep a tighter
stance while the government is committed to fiscal consolidation.
A stronger USD or a suspension of EU funds.
NA
Given the latest upside CPI surprises, some marginal repricing higher in the front end is warranted. In addition,
long-end rates should trail higher with higher US long-end rates and ongoing political risks.
Fall in UST yields.
Large issuance in the long end of the curve.
Like Hungary Local Rates
Dislike Colombia Local Rates
13-Nov-22
26-Jul-21
NA
NA
NA
NA
Like Panama Hard Currency Bonds
31-Oct-22
NA
NA
NA
It is now trading almost 40bp wide versus BBB peers, which we think is too much. We have a more constructive
view on the country's macro picture with fiscals that should manage amid uncertainty around negotiations with
protesting organisations.
Like Saudi Arabia Hard Currency Bonds
25-Oct-22
NA
NA
NA
Saudi Arabia spreads have adjusted following a month of heavy issuance in October, leaving spreads looking
cheap not only versus the GCC but also versus LatAm and Asia peers. We think valuations at these levels are
cheap enough for investors to look beyond fiscal slippage, instead focusing on the Saudi sovereign as a cheap
way to add oil exposure.
Oil prices heading towards US$70/bbl.
Like Ecuador Hard Currency Bonds
17-Oct-22
NA
NA
NA
Valuations are cheap. We expect policy continuity. Oil prices are still supportive, leaving fiscals on an improving
trend. The IMF is set to remain onboard. The broader macro situation is strong, including the external balance.
There are few upcoming eurobond payments.
Still OW EM fund positioning and risks of renewed
protests.
Like Argentina Hard Currency Bonds
24-Aug-21
NA
NA
NA
With bonds still in the mid-30s we see risk/reward as attractive despite near-term vol. Assume IMF deal signed
by early 2Q22. ARGENT 2041 favoured bond.
Deterioration in macro, including inflation expectations,
wide fiscal deficit and low FX reserves, outweigh
election impact.
Source: Morgan Stanley Research
Exhibit 67: G10 FX and rates trades
Trade
Date
Entry Level
Rationale
Risks
While the eurozone and the UK are experiencing similar shocks, key differences point to a
higher EUR/GBP. EUR may be more supported given 1) the eurozone has a large stock of
liquid savings abroad; and 2) those savings are predominantly invested in fixed income
assets and return differentials increasingly favor bringing capital back. In contrast, the UK
continues to be reliant on capital imports, and investors may be more concerned about the
real fiscal outlook in the UK than the eurozone. Should foreign capital prove unwilling to
finance the UK's deficit, currency weakness would be needed.
UK growth improves and inflation falls, reducing stagflationary
concerns in the UK.
Long EUR/GBP 6m 0.90/0.95 call
spread
16-Sep-22
1.1% P
Sell 3m10y ATMF straddles vs.
buy ATMF +/- 25bp strangles
04-Nov-22
21bp
We look to play for US rates to trade in a range and take advantage of elevated volatility.
Rates break their recent range.
3.62%
We see inflation being stickier and more persistent than current market pricing suggests.
We believe that present levels represent an attractive entry point.
Shock to inflation results in CPI dropping faster than anticipated.
Substantial ultra-long gilt buying by the BoE in the last sessions
of the temporary purchases could push ultra-long spreads richer.
Long 6m6m ZCIS
27-Oct-22
Short UKT 1F 71 vs. 50y SONIA
04-Oct-22
-14.5bp
An environment of higher volatility should deliver cheaper spreads. Long positions in longdated spreads are carry and balance sheet-intensive trades. With this in mind, we suspect
that more deleveraging from the LDI community is likely, with the reduction of long gilt
positions in repo.
Short Bobl ASW
14-Oct-22
109.5bp
The Bobl ASW remains rich versus our model. Our view is driven by other factors such as
the risk of potential changes in the remuneration of the excess liquidity or the TLTRO
parameters, which should increase the risk of a compression move, in our opinion.
Further widening in peripheral spreads and higher equity
volatility.
JGB 20s40s flattener
28-Oct-22
57.5bp
We see the very long end being gradually supported by Japanese lifers, while we see 20y
JGBs continuing to lag without the demand from the banking community.
Lifers still show reluctance to purchase long-end JGBs.
Source: Morgan Stanley Research
Morgan Stanley Research
53
M
Global Insight
Exhibit 68: History of recommendations for rates trades
Sell UKT 1F 71 versus 50y Sonia
Instrument
Maturity
Trade
Entry Date
Entry Level
Exit Date
Exit Level
UKT 1Q 51
UKT 1F 71
UKT 1 5/8 10/22/2071
BPSWS50 BGN Curncy
31-Jul-51
22-Oct-71
22-Oct-71
50yr
Buy UKT 1Q 51 vs UKT 1F 71
Buy UKT 1Q 51 vs UKT 1F 71
Sell 50y Gilts on ASW (Sell UKT 1F 71 versus 50y Sonia)
Sell 50y Gilts on ASW (Sell UKT 1F 71 versus 50y Sonia)
24-May-22
24-May-22
14-Oct-22
14-Oct-22
-0.23%
-0.23%
7bp
7bp
20-Jul-22
20-Jul-22
13-Nov-22
13-Nov-22
-0.15%
-0.15%
33bp
33bp
Instrument
Maturity
Entry Date
Entry Level
Exit Date
Exit Level
UBA Invoice Spread
Bobl Asset Swap
10-Mar-22
10-Mar-22
25-Mar-22
25-Mar-22
54.80
65.30
08-Jul-22
08-Jul-22
53bp
81bp
Target/
Objective
Stop/Reassess
Size of Trade or
Unit/Notional
CUSIP/ISIN/
BLOOMBERG
GB00BLH38158
GB00BFMCN652
GB00BFMCN652
BPSWS50 BGN Curncy
Sell Bobl ASW
Trade
Long 5y Bobl ASW vs BUXL ASW
Long 5y Bobl ASW vs BUXL ASW
Target/
Objective
Stop/Reassess
Size of Trade or
Unit/Notional
CUSIP/ISIN/
BLOOMBERG
UBAISP Index
ASWABOBL Curncy
Source: Morgan Stanley Research
Exhibit 69: History of recommendations for credit trades
Long iTraxx Main vs. CDX IG
Instrument
Maturity
CDX IG
CDX IG
CDX IG
CDX IG
CDX IG
CDX IG
CDX IG
CDX HY
CDX IG
CDX IG
Buy CDX IG Protection
Sell 3m 25D Put
Itraxx Main
Itraxx Main
iTraxx Main
CDX IG
Itraxx Main
iTraxx Main
Short-dated IG
S&P 500
5Y
5Y
10Y
19-Jan-22
5Y
10Y
3m
5Y
5Y
3m
5y
15-Jun-22
3m
3m
3m
3m
3m
3m
5Y
Trade
Buy CDX IG 3m 45D/25D Payer Spread
CDX IG 5s10s Steepener
CDX IG 5s10s Steepener
Buy CDX IG Jan-22 1x1 Payer Spreads
Long CDX IG 5s10s Steepener
Long CDX IG 5s10s Steepener
Buy CDX IG 3m Payer Spread Collar
Long HY Equity vs. Short IG Mezz
Long HY Equity vs. Short IG Mezz
Buy CDX IG 3m 1x2 Call Spreads
Buy CDX IG Covered Short (Buy Index Protection, Sell 25D Put)
Buy CDX IG Covered Short (Buy Index Protection, Sell 25D Put)
Buy iTraxx Main 3m Risk Reversals (90bp/180bp)
Buy iTraxx Main Oct-22 Risk Reversals (100bp/200bp)
Buy iTraxx Main 3m Risk Reversals
Buy CDX IG 3m Payer Spreads
Buy iTraxx Main Dec-22 Risk Reversals (85bp/170bp)
Buy iTraxx Main 3m 1x2 Payer Spreads
Long US Short-dated IG vs. S&P 500
Long US Short-dated IG vs. S&P 500
Entry Date
Entry Level
Exit Date
Exit Level
30-Jul-21
26-Oct-21
26-Oct-21
26-Oct-21
14-Nov-21
14-Nov-21
02-Feb-22
21-Feb-22
21-Feb-22
11-Mar-22
11-Mar-22
11-Mar-22
17-Jun-22
22-Jul-22
25-May-22
28-Jul-22
16-Sep-22
14-Oct-22
16-Sep-22
16-Sep-22
0.16%
51
90
0.09%
50.91
90.38
0.00
55pts
97bp
0%
7400.00%
0.34%
0%
0.00
0.00%
0.40%
0.01%
0.00
0.05
3946.01
14-Nov-21
11-Mar-22
11-Mar-22
02-Feb-22
21-Feb-22
21-Feb-22
11-Mar-22
28-Mar-22
28-Mar-22
25-Apr-22
25-May-22
25-May-22
22-Jul-22
16-Sep-22
29-Sep-22
29-Sep-22
14-Oct-22
13-Nov-22
13-Nov-22
13-Nov-22
0.02%
73
110
0.5%
68.898
107.6
0.6%
58pts
99bp
0.10%
88bp
0.45%
-0.147%
0.20%
-0.3%
1.2%
-0.4%
0
5.70%
3828.11
Entry Date
Entry Level
Exit Date
Exit Level
17-Jun-22
22-Jul-22
25-May-22
16-Sep-22
14-Oct-22
0%
0.00
0.00%
0.01%
0.00
22-Jul-22
16-Sep-22
29-Sep-22
14-Oct-22
13-Nov-22
-0.147%
0.20%
-0.3%
-0.4%
0
Target/
Objective
Stop/Reassess
Size of Trade or
Unit/Notional
CUSIP/ISIN/
BLOOMBERG
IBOXUMAE Index
IBOXUMAE Index
IBOXUMAJ Index
IBOXUMAE Index
IBOXUMAE Index
IBOXUMAJ Index
IBOXUMAE Index
IBOXHYSE Index
IBOXUMAE Index
IBOXUMAE Index
IBOXUMAE Index
IBOXUMAE Index
ITRXEBE Index
ITRXEBE
ITRXEBE
IBOXUMAE Index
ITRXEBE
ITRXEBE
IBOXUMAE Index
SPX Index
Long iTraxx Main vs. Xover on 4:1 Ratio
Instrument
Maturity
Itraxx Main
Itraxx Main
iTraxx Main
Itraxx Main
iTraxx Main
3m
3m
3m
3m
3m
Trade
Buy iTraxx Main 3m Risk Reversals (90bp/180bp)
Buy iTraxx Main Oct-22 Risk Reversals (100bp/200bp)
Buy iTraxx Main 3m Risk Reversals
Buy iTraxx Main Dec-22 Risk Reversals (85bp/170bp)
Buy iTraxx Main 3m 1x2 Payer Spreads
Source: Morgan Stanley Research
Exhibit 70: History of recommendations for stances
History of recommendations for Ecuador Hard Currency Bonds
Trade
Entry Date
Exit Date
Like Ecuador Hard Currency Bonds
01-Nov-21
08-Aug-22
History of recommendations for Panama Hard Currency Bonds
Trade
Entry Date
Exit Date
Like Panama Hard Currency Bonds
Like Panama Hard Currency Bonds
29-Nov-21
08-Aug-22
10-Jan-22
06-Sep-22
History of recommendations for Saudi Arabia Hard Currency Bonds
Trade
Dislike Saudi Arabia Hard Currency Bonds
Like Saudi Arabia Hard Currency Bonds
Entry Date
Exit Date
01-Nov-21
24-Jan-22
19-Nov-21
10-May-22
History of recommendations for South Africa Local Currency Bonds
Trade
Like South Africa Local Currency Bonds
Source: Morgan Stanley Research
54
Entry Date
Exit Date
27-Jan-21
27-Jun-22
Target/
Objective
Stop/Reassess
Size of Trade or
Unit/Notional
CUSIP/ISIN/
BLOOMBERG
ITRXEBE Index
ITRXEBE
ITRXEBE
ITRXEBE
ITRXEBE
Exhibit 71: History of recommendations for cross-asset trades
M
Global Insight
Long ROW Equities vs. US
Instrument
Maturity
S&P 500 Index
CDX HY
S&P 500 Index
S&P 500 Index
S&P 500 Index
KOSPI 200 Index
Eurostoxx Index
S&P 500 Index
S&P 500 Index
CDX HY
S&P 500 Index
S&P 500 Index
S&P 500 Index
S&P 500 Index
MSCI US Financials Index
MSCI US Health Care Index
S&P 500 Index
S&P 500 Index
MSCI US Health Care Index
MSCI US Utilities Index
S&P 500 Index
S&P 500 Index
USD 2yr
S&P 500 Index
S&P 500 Index
S&P 500 Index
USD 10yr
S&P 500 Index
RTY Index
SPX Index
S&P 500 Index
Short-dated IG
S&P 500
3m
3m
3m
3m
6m6m
6m6m
6m6m
3m
3m
3m
3m
3m
3m
6m6m
3m
6m
6m
3m
3m
6m
6m
3m
3m
5Y
Trade
Buy 3 CDX HY 3m 50D/25D Put Spread, Sell 1 S&P 500 3m 25D Put
Buy 3 CDX HY 3m 45D/25D Put Spread, Sell 1 S&P 500 3m 25D Put
Buy S&P 500 3m Put Spread
Buy S&P 500 3m Put Spread
Buy Eurostoxx and Kospi 6m6m Variance vs. Sell S&P 500 6m6m Variance
Buy Eurostoxx and Kospi 6m6m Variance vs. Sell S&P 500 6m6m Variance
Buy Eurostoxx and Kospi 6m6m Variance vs. Sell S&P 500 6m6m Variance
Buy S&P 500 3m Put Spread
Buy 3 CDX HY 3m 50D/25D Put Spread, Sell 1 S&P 500 3m 25D Put
Buy 3 CDX HY 3m 45D/25D Put Spread, Sell 1 S&P 500 3m 25D Put
Buy S&P 500 3m Put Spread
Buy S&P 500 3m Put Spread
Buy S&P 500 3m Put Spread Collar
Sell S&P 500 6m6m Forward Variance
Long US Financials/Healthcare vs. S&P 500
Long US Financials/Healthcare vs. S&P 500
Long US Financials/Healthcare vs. S&P 500
Buy S&P 500 3m Put Spread Collar
Long US Healthcare/Utilities vs. S&P 500
Long US Healthcare/Utilities vs. S&P 500
Long US Healthcare/Utilities vs. S&P 500
Buy 6m Dual Digital S&P 500 <95%, SOFR 2yr > 6m2y ATMF + 40bp
Buy 6m Dual Digital S&P 500 <95%, SOFR 2yr > 6m2y ATMF + 40bp
Buy S&P 500 3m Put Spread Collar
Buy S&P 500 3m Put Spread Collar
Buy S&P 500 6m 90 Strike Put Contingent SOFR 10yr <3%
Buy S&P 500 6m 90 Strike Put Contingent SOFR 10yr <3%
Buy S&P 500 3m Put Spread Collars
Long Small Caps vs. Large Caps
Long Small Caps vs. Large Caps
Buy S&P 500 3m 3600/3300 1x2 Put Spreads
Long US Short-dated IG vs. S&P 500
Long US Short-dated IG vs. S&P 500
Entry Date
Entry Level
Exit Date
Exit Level
17-Aug-21
17-Aug-21
06-Sep-21
20-Sep-21
26-Oct-21
26-Oct-21
26-Oct-21
14-Nov-21
15-Nov-21
15-Nov-21
19-Dec-21
14-Jan-22
02-Feb-22
02-Feb-22
21-Feb-22
21-Feb-22
21-Feb-22
21-Feb-22
28-Mar-22
28-Mar-22
28-Mar-22
11-Mar-22
11-Mar-22
03-May-22
21-May-22
28-Jun-22
28-Jun-22
21-Aug-22
17-Jun-22
17-Jun-22
14-Oct-22
16-Sep-22
16-Sep-22
0
0
0.9%
1.50%
27%
23%
25%
1.20%
0
0
0.013
1.3%
0.00
29.00%
211.17
410.28
4348.87
0
436.65
210.38
4520.16
0.11
0.11
0.00
0
2.25%
2.25%
0.00
1731.00
3790.00
0.00
0.05
3946.01
15-Nov-21
15-Nov-21
14-Nov-21
19-Dec-21
02-Feb-22
02-Feb-22
02-Feb-22
14-Jan-22
02-Feb-22
02-Feb-22
02-Feb-22
21-Feb-22
03-May-22
02-Aug-22
28-Mar-22
28-Mar-22
28-Mar-22
21-May-22
17-Jun-22
17-Jun-22
17-Jun-22
28-Jun-22
28-Jun-22
28-Jun-22
21-Aug-22
29-Sep-22
29-Sep-22
14-Oct-22
13-Nov-22
13-Nov-22
13-Nov-22
13-Nov-22
13-Nov-22
0%
0%
1.20%
0%
29.00%
24.00%
27.00%
0.013
0%
0%
3%
0.0%
5%
21%
212.25
439.5
4469.38
4%
389.48
194.71
3790.00
40%
40%
6%
0%
0%
0%
5%
1808.929
3828.11
0
5.70%
3828.11
Entry Date
Entry Level
Exit Date
Exit Level
06-Sep-21
06-Sep-21
17-Aug-21
17-Aug-21
06-Sep-21
20-Sep-21
26-Oct-21
26-Oct-21
26-Oct-21
14-Nov-21
15-Nov-21
15-Nov-21
19-Dec-21
14-Jan-22
02-Feb-22
02-Feb-22
21-Feb-22
21-Feb-22
21-Feb-22
21-Feb-22
28-Mar-22
28-Mar-22
28-Mar-22
11-Mar-22
11-Mar-22
03-May-22
21-May-22
28-Jun-22
28-Jun-22
21-Aug-22
17-Jun-22
17-Jun-22
14-Oct-22
16-Sep-22
16-Sep-22
440.95
623.83
0
0
0.9%
1.50%
27%
23%
25%
1.20%
0
0
0.013
1.3%
0.00
29.00%
211.17
410.28
4348.87
0
436.65
210.38
4520.16
0.11
0.11
0.00
0
2.25%
2.25%
0.00
1731.00
3790.00
0.00
0.05
3946.01
14-Nov-21
14-Nov-21
15-Nov-21
15-Nov-21
14-Nov-21
19-Dec-21
02-Feb-22
02-Feb-22
02-Feb-22
14-Jan-22
02-Feb-22
02-Feb-22
02-Feb-22
21-Feb-22
03-May-22
02-Aug-22
28-Mar-22
28-Mar-22
28-Mar-22
21-May-22
17-Jun-22
17-Jun-22
17-Jun-22
28-Jun-22
28-Jun-22
28-Jun-22
21-Aug-22
29-Sep-22
29-Sep-22
14-Oct-22
13-Nov-22
13-Nov-22
13-Nov-22
13-Nov-22
13-Nov-22
433.36
679.7
0%
0%
1.20%
0%
29.00%
24.00%
27.00%
0.013
0%
0%
3%
0.0%
5%
21%
212.25
439.5
4469.38
4%
389.48
194.71
3790.00
40%
40%
6%
0%
0%
0%
5%
1808.929
3828.11
0
5.70%
3828.11
Entry Date
Entry Level
Exit Date
Exit Level
16-Sep-22
16-Sep-22
87.64
2078.43
13-Nov-22
13-Nov-22
91.08
2120.57
Entry Date
Entry Level
Exit Date
Exit Level
16-May-21
16-May-21
16-May-21
30-Jul-21
17-Aug-21
17-Aug-21
17-Aug-21
20-Sep-21
20-Sep-21
26-Oct-21
26-Oct-21
26-Oct-21
14-Nov-21
14-Nov-21
14-Nov-21
14-Nov-21
15-Nov-21
15-Nov-21
14-Jan-22
02-Feb-22
02-Feb-22
21-Feb-22
21-Feb-22
11-Mar-22
25-Mar-22
11-Mar-22
11-Mar-22
10-May-22
28-Jul-22
16-Sep-22
16-Sep-22
487.2211
296.212
61%
0.16%
0.00
0.00
0.00
0.10%
0.10%
51
90
0.09%
50.91
90.38
63pts / 15%IRR
0.68%
0.00
0.00
0.66%
0.00
290bp
55pts
97bp
0%
244bp
7400.00%
0.34%
733bp
0.40%
0.05
3946.01
14-Nov-21
14-Nov-21
14-Nov-21
14-Nov-21
13-Feb-22
15-Nov-21
15-Nov-21
02-Feb-22
02-Feb-22
11-Mar-22
11-Mar-22
02-Feb-22
21-Feb-22
21-Feb-22
21-Feb-22
14-Jan-22
02-Feb-22
02-Feb-22
21-Feb-22
11-Mar-22
25-Apr-22
28-Mar-22
28-Mar-22
25-Apr-22
10-May-22
25-May-22
25-May-22
17-Jun-22
29-Sep-22
13-Nov-22
13-Nov-22
498.9741
291.095
63.90%
0.02%
4%
0
0
0%
0%
73
110
0.5%
68.898
107.6
55pts / 15%IRR
0.0066
0
0
2.00%
0.6%
277bp
58pts
99bp
0.10%
320bp
88bp
0.45%
950.00
1.2%
5.70%
3828.11
Entry Date
Entry Level
Exit Date
Exit Level
14-Nov-21
14-Nov-21
13-Dec-21
13-Dec-21
99.33
1.82%
1%
2%
13-Dec-21
13-Dec-21
10-May-22
10-May-22
99.26
1.99%
3.18%
3.74%
Entry Date
Entry Level
Exit Date
Exit Level
21-Jan-22
21-Jan-22
10-May-22
10-May-22
457.30
803.53
2825.5
2825.5
10-May-22
10-May-22
22-Jul-22
22-Jul-22
415.90
863.44
2381.30
329.10
Target/
Objective
Stop/Reassess
Size of Trade or
Unit/Notional
CUSIP/ISIN/
BLOOMBERG
SPX Index
IBOXHYSE Index
SPX Index
SPX Index
SPX Index
KOSPI2 Index
SX5E Index
SPX Index
SPX Index
IBOXHYSE Index
SPX Index
SPX Index
SPX Index
SPX Index
MXUS0FN Index
MXUS0HC Index
SPX Index
SPX Index
MXUS0HC Index
MXUS0UT Index
SPX Index
SPX Index
USOSFR2 Curncy
SPX Index
SPX Index
SPX Index
USOSFR10 Curncy
SPX Index
RTY Index
SPX Index
SPX Index
IBOXUMAE Index
SPX Index
4.00%
Long Defensives (US Healthcare, Utilities and Staples) vs. S&P 500
Instrument
Maturity
MSCI USA Health Care Index
MSCI USA Consumer Discretionary Index
S&P 500 Index
CDX HY
S&P 500 Index
S&P 500 Index
S&P 500 Index
KOSPI 200 Index
Eurostoxx Index
S&P 500 Index
S&P 500 Index
CDX HY
S&P 500 Index
S&P 500 Index
S&P 500 Index
S&P 500 Index
MSCI US Financials Index
MSCI US Health Care Index
S&P 500 Index
S&P 500 Index
MSCI US Health Care Index
MSCI US Utilities Index
S&P 500 Index
S&P 500 Index
USD 2yr
S&P 500 Index
S&P 500 Index
S&P 500 Index
USD 10yr
S&P 500 Index
RTY Index
SPX Index
S&P 500 Index
Short-dated IG
S&P 500
3m
3m
3m
3m
6m6m
6m6m
6m6m
3m
3m
3m
3m
3m
3m
6m6m
3m
6m
6m
3m
3m
6m
6m
3m
3m
5Y
Trade
Long US Healthcare vs. Discretionary
Long US Healthcare vs. Discretionary
Buy 3 CDX HY 3m 50D/25D Put Spread, Sell 1 S&P 500 3m 25D Put
Buy 3 CDX HY 3m 45D/25D Put Spread, Sell 1 S&P 500 3m 25D Put
Buy S&P 500 3m Put Spread
Buy S&P 500 3m Put Spread
Buy Eurostoxx and Kospi 6m6m Variance vs. Sell S&P 500 6m6m Variance
Buy Eurostoxx and Kospi 6m6m Variance vs. Sell S&P 500 6m6m Variance
Buy Eurostoxx and Kospi 6m6m Variance vs. Sell S&P 500 6m6m Variance
Buy S&P 500 3m Put Spread
Buy 3 CDX HY 3m 50D/25D Put Spread, Sell 1 S&P 500 3m 25D Put
Buy 3 CDX HY 3m 45D/25D Put Spread, Sell 1 S&P 500 3m 25D Put
Buy S&P 500 3m Put Spread
Buy S&P 500 3m Put Spread
Buy S&P 500 3m Put Spread Collar
Sell S&P 500 6m6m Forward Variance
Long US Financials/Healthcare vs. S&P 500
Long US Financials/Healthcare vs. S&P 500
Long US Financials/Healthcare vs. S&P 500
Buy S&P 500 3m Put Spread Collar
Long US Healthcare/Utilities vs. S&P 500
Long US Healthcare/Utilities vs. S&P 500
Long US Healthcare/Utilities vs. S&P 500
Buy 6m Dual Digital S&P 500 <95%, SOFR 2yr > 6m2y ATMF + 40bp
Buy 6m Dual Digital S&P 500 <95%, SOFR 2yr > 6m2y ATMF + 40bp
Buy S&P 500 3m Put Spread Collar
Buy S&P 500 3m Put Spread Collar
Buy S&P 500 6m 90 Strike Put Contingent SOFR 10yr <3%
Buy S&P 500 6m 90 Strike Put Contingent SOFR 10yr <3%
Buy S&P 500 3m Put Spread Collars
Long Small Caps vs. Large Caps
Long Small Caps vs. Large Caps
Buy S&P 500 3m 3600/3300 1x2 Put Spreads
Long US Short-dated IG vs. S&P 500
Long US Short-dated IG vs. S&P 500
Target/
Objective
Stop/Reassess
Size of Trade or
Unit/Notional
CUSIP/ISIN/
BLOOMBERG
MXUS0HC Index
MXUS0CD Index
SPX Index
IBOXHYSE Index
SPX Index
SPX Index
SPX Index
KOSPI2 Index
SX5E Index
SPX Index
SPX Index
IBOXHYSE Index
SPX Index
SPX Index
SPX Index
SPX Index
MXUS0FN Index
MXUS0HC Index
SPX Index
SPX Index
MXUS0HC Index
MXUS0UT Index
SPX Index
SPX Index
USOSFR2 Curncy
SPX Index
SPX Index
SPX Index
USOSFR10 Curncy
SPX Index
RTY Index
SPX Index
SPX Index
IBOXUMAE Index
SPX Index
4.00%
Long European Banks/Energy vs. Cyclicals
Instrument
Maturity
Trade
Long European Banks vs. Cyclicals
Long European Banks vs. Cyclicals
European Banks
European Cyclicals
Target/
Objective
Stop/Reassess
Size of Trade or
Unit/Notional
CUSIP/ISIN/
BLOOMBERG
SX7E Index
SCYCR Index
US Credit Decompression (Short HY vs. IG)
Instrument
Maturity
CS Leveraged Loan Total Return
CDX HY
CDX HY
CDX IG
S&P 500 Index
S&P 500 Index
CDX HY
IBOX HY
CDX HY
CDX IG
CDX IG
CDX IG
CDX IG
CDX IG
CDX HY
CDX HY
S&P 500 Index
CDX HY
CDX HY
CDX IG
CDX HY
CDX HY
CDX IG
CDX IG
CDX HY
Buy CDX IG Protection
Sell 3m 25D Put
CDX HY
CDX IG
Short-dated IG
S&P 500
5Y
3m
3m
3m
3m
3m
5Y
10Y
19-Jan-22
5Y
10Y
3m
3m
3m
3m
3m
5y
5Y
5Y
3m
5y
15-Jun-22
5y
3m
5Y
Instrument
Maturity
Eurodollar Futures
Bloomberg US MBS Index
US Generic Govt 10 Year Yield
Bloomberg US MBS Index
3m
10Y
-
Instrument
Maturity
Trade
Sell US HY vs. US Loans
Sell US HY vs. US Loans
Long CDX HY35 0-15% (vs. Delta)
Buy CDX IG 3m 45D/25D Payer Spread
Buy 3 CDX HY 3m 50D/25D Put Spread, Sell 1 S&P 500 3m 25D Put
Buy 3 CDX HY 3m 50D/25D Put Spread, Sell 1 S&P 500 3m 25D Put
Buy 3 CDX HY 3m 45D/25D Put Spread, Sell 1 S&P 500 3m 25D Put
Sell CDX HY 25D Puts vs. Buy 25D Puts on HY bond portfolios
Sell CDX HY 25D Puts vs. Buy 25D Puts on HY bond portfolios
CDX IG 5s10s Steepener
CDX IG 5s10s Steepener
Buy CDX IG Jan-22 1x1 Payer Spreads
Long CDX IG 5s10s Steepener
Long CDX IG 5s10s Steepener
Long First Loss Risk: CDX HY 35 0-15% and CLO Equity
Buy CDX HY 3m 45D/25D Put Spread
Buy 3 CDX HY 3m 50D/25D Put Spread, Sell 1 S&P 500 3m 25D Put
Buy 3 CDX HY 3m 45D/25D Put Spread, Sell 1 S&P 500 3m 25D Put
Buy CDX HY 3m 45D/25D Put Spread
Buy CDX IG 3m Payer Spread Collar
Buy Protection on HY 25-35% Tranche
Long HY Equity vs. Short IG Mezz
Long HY Equity vs. Short IG Mezz
Buy CDX IG 3m 1x2 Call Spreads
Buy CDX HY Mezz 25-35% Tranche Protection
Buy CDX IG Covered Short (Buy Index Protection, Sell 25D Put)
Buy CDX IG Covered Short (Buy Index Protection, Sell 25D Put)
Buy Protection on HY 15-25% Tranche
Buy CDX IG 3m Payer Spreads
Long US Short-dated IG vs. S&P 500
Long US Short-dated IG vs. S&P 500
Target/
Objective
Stop/Reassess
Size of Trade or
Unit/Notional
CUSIP/ISIN/
BLOOMBERG
CSLLLTOT Index
IBOXHYSE Index
IBOXHYSE Index
IBOXUMAE Index
SPX Index
SPX Index
IBOXHYSE Index
IBOXHY Index
IBOXHYSE Index
IBOXUMAE Index
IBOXUMAJ Index
IBOXUMAE Index
IBOXUMAE Index
IBOXUMAJ Index
IBOXHYSE Index
IBOXHYSE Index
SPX Index
IBOXHYSE Index
IBOXHYSE Index
IBOXUMAE Index
IBOXHYSE Index
IBOXHYSE Index
IBOXUMAE Index
IBOXUMAE Index
IBOXHYSE Index
IBOXUMAE Index
IBOXUMAE Index
IBOXHYSE Index
IBOXUMAE Index
IBOXUMAE Index
SPX Index
15.00%
2.40%
3.00%
Long US Mortgage Basis
Trade
Short Agency MBS vs. Eurodollar Sep-22 (EDU2)
Short Agency MBS vs. Eurodollar Sep-22 (EDU2)
Short Agency MBS vs. Treasuries
Short Agency MBS vs. Treasuries
Target/
Objective
Stop/Reassess
Size of Trade or
Unit/Notional
CUSIP/ISIN/
BLOOMBERG
EDU2 Comdty
LUMSYW Index
USGG10YR Index
LUMSYW Index
Long CLP/USD vs. Copper
Copper Future
USD/CLP NDF
Aluminium
Copper
1m
1m
Trade
Long CLP/USD vs. Copper
Long CLP/USD vs. Copper
Long Aluminium vs. Copper
Long Aluminium vs. Copper
Target/
Objective
375.0
Stop/Reassess
Size of Trade or
Unit/Notional
CUSIP/ISIN/
BLOOMBERG
HG1 comdty
CHN+1M BGN Curncy
LA1 Comdty
HG1 Comdty
Source: Morgan Stanley Research
Important note regarding economic sanctions. This research references country/ies which are generally the subject of selective sanctions programs administered or enforced by the U.S.
Department of the Treasury’s Office of Foreign Assets Control (“OFAC”), the European Union and/or by other countries and multi-national bodies. Users of this report are solely responsible
for ensuring that their investment activities in relation to any sanctioned country/ies are carried out in compliance with applicable sanctions.
Morgan Stanley Research
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Global Insight
Appendix: Definition of terms
Buy/Long: The analyst expects the total or excess return (depending
securities by other issuers. This is not intended to be, nor should it be
on the nature of the recommendation) of the instrument or issuer
interpreted as a formal fundamental rating of the issuer or its credit-
that is the subject of the investment recommendation to be positive
worthiness.
over the relevant time period.
Dislike: Based on current market conditions as of the date of this
Sell/Short: The analyst expects the total or excess return (depending
report the analyst expects that the relevant securities of the issuer
on the nature of the recommendation) of the instrument or issuer
that is subject of the recommendation will perform unfavorably over
that is the subject of the investment recommendation to be negative
the relevant time period as compared to the overall market of com-
over the relevant time period.
parable securities by other issuers. This is not intended to be, nor
should it be interpreted as a formal fundamental rating of the issuer
Selling protection or Buying Risk: The analyst expects that the price
or its creditworthiness.
of protection against the event occurring will decrease over the relevant time period.
Unless otherwise specified, the time frame for recommendations
included in the Morgan Stanley Fixed Income Research reports is 6 -
Buying protection or Selling Risk: The analyst expects the price of
12 months and the price of financial instruments mentioned in the
protection against the event occurring will increase over the relevant
recommendation is as at the date and time of publication of the rec-
time period.
ommendation.
Pay: The analyst expects that over the specified time period the vari-
When more than one issuer or instrument is included in a recommen-
able rate underlying the swap agreement that is the subject of the
dation, analyst expects one part of the trade to outperform the other
investment recommendation will increase.
trade or combination of other trades included in the recommendation on a relative basis.
Receive: The analyst expects that over the specified time period the
variable rate underlying the swap agreement that is the subject of
For important disclosures related to the proportion of all investment
the investment recommendation will decrease.
recommendations over the past 12 months that fit each of the categories defined above, and the proportion of issuers corresponding to
Like: Based on current market conditions as of the date of this report
each of those categories to which Morgan Stanley has supplied mate-
the analyst expects that the relevant securities of the issuer that is
rial services, please see the Morgan Stanley disclosure at https://
subject of the recommendation will perform favorably over the rele-
ny.matrix.ms.com/eqr/article/webapp/91fc5ba2-5a07-11ed-b9a5-
vant time period as compared to the overall market of comparable
7148f0740b41
56
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Global Insight
Strategy Risk Factors
Buying calls or call spreads: Investors who buy call options risk loss
Selling puts: Put sellers commit to buying the underlying security at
of the entire premium paid if the underlying security finishes below
the strike price in the event the security falls below the strike price.
the strike price at expiration. Investors who buy call spreads (buy a
The maximum loss is the full strike price less the premium received
call and sell a further OTM call) also have a maximum loss of the
for selling the put. Put sellers who are also long a lower dollar-strike
entire up-front premium paid. The maximum gain from buying call
put face a maximum loss of the difference between the long and
spreads is the difference between the strike prices, less the upfront
short put strikes less the options premium received.
premium paid.
Buying strangles: The maximum loss is the entire premium paid (put
Buying puts or put spreads: Investors who buy put options risk loss
+ call), if the security finishes between the put strike and the call
of the entire premium paid if the underlying security finishes above
strike at expiration.
the strike price at expiration. Investors who buy put spreads (buy a
put and sell a further OTM put) also have a maximum loss of the
Selling strangles or straddles: Investors who are long a security and
upfront premium paid. The maximum gain from buying put spreads
short a strangle or straddle risk capping their upside in the security
is the difference between the strike prices, less the upfront premium
to the strike price of the call that is sold plus the upfront premium
paid.
received. Additionally, if the security trades below the strike price of
the short put, the investor risks losing the difference between the
Selling calls: Investors who sell covered calls (own the underlying
strike price and the security price (less the value of the premium
security and sell a call) risk limiting their upside to the strike price
received) on the short put and will also experience losses in the secu-
plus the upfront premium received and may have their security called
rity position if he owns shares. The maximum potential loss is the full
away if the security price exceeds the strike price of the short call.
value of the strike price (less the value of the premium received) plus
Additionally, the investor has full downside exposure that is only par-
losses on the long security position. Investors who are short naked
tially offset by the upfront premium taken in. Investors short naked
strangles or straddles have unlimited potential loss since if the secu-
calls (i.e. sold calls but don’t hold underlying security) risk unlimited
rity trades above the call strike price, the investor risks losing the dif-
losses of security price less strike price. Investors who sell naked call
ference between the strike price and the security price (less the value
spreads (i.e. sell a call and buy a farther out-of-the-money call with
of the premium received) on the short call. Additionally, they are obli-
no underlying security position) have a maximum loss of the differ-
gated to buy the security at the put strike price (less upfront pre-
ence between the long call strike and the short call strike, less the
mium received) if the security finishes below the put strike price at
upfront premium taken in, if the underlying security finishes above
expiration. Strangle/straddle sellers risk assignment on short put
the long call strike at expiration. The maximum gain is the upfront
positions that become in the money. Additionally, they risk having
premium taken in, if the security finishes below the short call strike
stock called away from short call positions that become in the
at expiration.
money.
Morgan Stanley Research
57
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Options Disclaimer
Global Insight
are almost invariably closed out prior to expiration. Potential investors should
carefully review tax treatment applicable to spread transactions prior to
Options are not for everyone. Before engaging in the purchasing or writing of
entering into any transactions.
options, investors should understand the nature and extent of their rights and
obligations and be aware of the risks involved, including the risks pertaining
Multi-legged strategies are only effective if all components of a suggested
to the business and financial condition of the issuer and the underlying stock.
trade are implemented.
A secondary market may not exist for these securities. For customers of
Morgan Stanley & Co. Incorporated who are purchasing or writing exchange-
Investors in long option strategies are at risk of losing all of their option pre-
traded options, your attention is called to the publication “Characteristics and
miums. Investors in short option strategies are at risk of unlimited losses.
Risks of Standardized Options;” in particular, the statement entitled “Risks of
Option Writers.” That publication, which you should have read and under-
There are special risks associated with uncovered option writing which
stood prior to investing in options, can be viewed on the Web at the following
expose the investor to potentially significant loss. Therefore, this type of
address:
http://www.optionsclearing.com/about/publications/character-
strategy may not be suitable for all customers approved for options transac-
risks.jsp. Spreading may also entail substantial commissions, because it
tions. The potential loss of uncovered call writing is unlimited. The writer of
involves at least twice the number of contracts as a long or short position and
an uncovered call is in an extremely risky position, and may incur large losses
because spreads are almost invariably closed out prior to expiration. Potential
if the value of the underlying instrument increases above the exercise price.
investors should be advised that the tax treatment applicable to spread transactions should be carefully reviewed prior to entering into any transaction.
As with writing uncovered calls, the risk of writing uncovered put options is
Also, it should be pointed out that while the investor who engages in spread
substantial. The writer of an uncovered put option bears a risk of loss if the
transactions may be reducing risk, he is also reducing his profit potential. The
value of the underlying instrument declines below the exercise price. Such
risk/ reward ratio, hence, is an important consideration.
loss could be substantial if there is a significant decline in the value of the
underlying instrument.
The risk of exercise in a spread position is the same as that in a short position.
Certain investors may be able to anticipate exercise and execute a "rollover"
Uncovered option writing is thus suitable only for the knowledgeable
transaction. However, should exercise occur, it would clearly mark the end of
investor who understands the risks, has the financial capacity and willingness
the spread position and thereby change the risk/reward ratio. Due to early
to incur potentially substantial losses, and has sufficient liquid assets to meet
assignments of the short side of the spread, what appears to be a limited risk
applicable margin requirements. In this regard, if the value of the underlying
spread may have more risk than initially perceived. An investor with a spread
instrument moves against an uncovered writer’s options position, the
position in index options that is assigned an exercise is at risk for any adverse
investor’s broker may request significant additional margin payments. If an
movement in the current level between the time the settlement value is deter-
investor does not make such margin payments, the broker may liquidate stock
mined on the date when the exercise notice is filed with OCC and the time
or options positions in the investor’s account, with little or no prior notice in
when such investor sells or exercises the long leg of the spread. Other multi-
accordance with the investor’s margin agreement.
ple-option strategies involving cash settled options, including combinations
and straddles, present similar risk.
For combination writing, where the investor writes both a put and a call on the
same underlying instrument, the potential risk is unlimited.
Important information: Examples within are indicative only, please call your
local Morgan Stanley Sales representative for current levels.
If a secondary market in options were to become unavailable, investors could
not engage in closing transactions, and an option writer would remain obli-
By selling an option, the seller receives a premium from the option purchaser,
gated until expiration or assignment.
and the purchase receives the right to exercise the option at the strike price.
If the option purchaser elects to exercise the option, the option seller is obli-
The writer of an American-style option is subject to being assigned an exercise
gated to deliver/purchase the underlying shares to/from the option buyer at
at any time after he has written the option until the option expires. By con-
the strike price. If the option seller does not own the underlying security while
trast, the writer of a European-style option is subject to exercise assignment
maintaining the short option position (naked), the option seller is exposed to
only during the exercise period.
unlimited market risk.
Spreading may entail substantial commissions, because it involves at least
twice the number of contracts as a long or short position and because spreads
58
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Global Insight
Disclosure Section
Mortgage Backed Securities (MBS) and Collateralized Mortgage Obligations (CMO)
Principal is returned on a monthly basis over the life of the security. Principal prepayment can significantly affect the monthly income stream and the maturity of any type of MBS, including
standard MBS, CMOs and Lottery Bonds. Yields and average lives are estimated based on prepayment assumptions and are subject to change based on actual prepayment of the mortgages
in the underlying pools. The level of predictability of an MBS/CMO's average life, and its market price, depends on the type of MBS/CMO class purchased and interest rate movements. In general,
as interest rates fall, prepayment speeds are likely to increase, thus shortening the MBS/CMO's average life and likely causing its market price to rise. Conversely, as interest rates rise, prepayment
speeds are likely to decrease, thus lengthening average life and likely causing the MBS/CMO's market price to fall. Some MBS/CMOs may have "original issue discount" (OID). OID occurs if the
MBS/CMO’s original issue price is below its stated redemption price at maturity, and results in "imputed interest" that must be reported annually for tax purposes, resulting in a tax liability even
though interest was not received. Investors are urged to consult their tax advisors for more information. Government agency backing applies only to the face value of the CMO and not to any
premium paid.
The information and opinions in Morgan Stanley Research were prepared or are disseminated by Morgan Stanley & Co. LLC and/or Morgan Stanley C.T.V.M. S.A. and/or Morgan Stanley México,
Casa de Bolsa, S.A. de C.V. and/or Morgan Stanley Canada Limited and/or Morgan Stanley & Co. International plc and/or Morgan Stanley Europe S.E. and/or RMB Morgan Stanley Proprietary
Limited and/or Morgan Stanley MUFG Securities Co., Ltd. and/or Morgan Stanley Capital Group Japan Co., Ltd. and/or Morgan Stanley Asia Limited and/or Morgan Stanley Asia (Singapore)
Pte. (Registration number 199206298Z) and/or Morgan Stanley Asia (Singapore) Securities Pte Ltd (Registration number 200008434H), regulated by the Monetary Authority of Singapore
(which accepts legal responsibility for its contents and should be contacted with respect to any matters arising from, or in connection with, Morgan Stanley Research) and/or Morgan Stanley
Taiwan Limited and/or Morgan Stanley & Co International plc, Seoul Branch, and/or Morgan Stanley Australia Limited (A.B.N. 67 003 734 576, holder of Australian financial services license
No. 233742, which accepts responsibility for its contents), and/or Morgan Stanley Wealth Management Australia Pty Ltd (A.B.N. 19 009 145 555, holder of Australian financial services license
No. 240813, which accepts responsibility for its contents), and/or Morgan Stanley India Company Private Limited, regulated by the Securities and Exchange Board of India (“SEBI”) and holder
of licenses as a Research Analyst (SEBI Registration No. INH000001105), Stock Broker (BSE Registration No. INB011054237 and NSE Registration No. INB/INF231054231), Merchant Banker
(SEBI Registration No. INM000011203), and depository participant with National Securities Depository Limited (SEBI Registration No. IN-DP-NSDL-372-2014) which accepts the responsibility
for its contents and should be contacted with respect to any matters arising from, or in connection with, Morgan Stanley Research, and their affiliates (collectively, "Morgan Stanley").
For important disclosures, stock price charts and equity rating histories regarding companies that are the subject of this report, please see the Morgan Stanley Research Disclosure Website
at www.morganstanley.com/researchdisclosures, or contact your investment representative or Morgan Stanley Research at 1585 Broadway, (Attention: Research Management), New York, NY,
10036 USA.
For valuation methodology and risks associated with any recommendation, rating or price target referenced in this research report, please contact the Client Support Team as follows: US/Canada
+1 800 303-2495; Hong Kong +852 2848-5999; Latin America +1 718 754-5444 (U.S.); London +44 (0)20-7425-8169; Singapore +65 6834-6860; Sydney +61 (0)2-9770-1505; Tokyo +81
(0)3-6836-9000. Alternatively you may contact your investment representative or Morgan Stanley Research at 1585 Broadway, (Attention: Research Management), New York, NY 10036 USA.
Analyst Certification
The following analysts hereby certify that their views about the companies and their securities discussed in this report are accurately expressed and that they have not received and will not
receive direct or indirect compensation in exchange for expressing specific recommendations or views in this report: David S. Adams, CFA; Jay Bacow; Max S Blass; Barbara A Boakye; Theologis
Chapsalis, CFA; Min Dai; Guneet Dhingra, CFA; James Egan; Jonathan F Garner; Vasundhara Goel; Matthew Hornbach; Stephan M Kessler; James K Lord; Phanikiran L Naraparaju; Eric S Oynoyan;
Kelvin Pang; Vishwas Patkar; Martijn Rats, CFA; Srikanth Sankaran; Mark T Schmidt, CFA; Graham Secker; Amy Sergeant, CFA; Andrew Sheets; Koichi Sugisaki; Serena W Tang; Vishwanath
Tirupattur; Simon Waever; Andrew M Watrous; Michael J Wilson; Gilbert Wong, CFA; Charlie Wu; Marius van Straaten.
.
Global Research Conflict Management Policy
Morgan Stanley Research has been published in accordance with our conflict management policy, which is available at www.morganstanley.com/institutional/research/conflictpolicies. A
Portuguese version of the policy can be found at www.morganstanley.com.br
Important Regulatory Disclosures on Subject Companies
Within the last 12 months, Morgan Stanley managed or co-managed a public offering (or 144A offering) of securities of Germany, Ireland, Italy, Mexico, Peru, Saudi Arabia, Spain, United States
of America.
Within the last 12 months, Morgan Stanley has received compensation for investment banking services from Mexico, Saudi Arabia.
In the next 3 months, Morgan Stanley expects to receive or intends to seek compensation for investment banking services from Argentina, Australia, Brazil, Canada, Chile, Colombia, Czech
Republic, France, Germany, Ireland, Italy, Japan, Mexico, Panama, Peru, Saudi Arabia, Singapore, Spain, United Kingdom, United States of America.
Within the last 12 months, Morgan Stanley has received compensation for products and services other than investment banking services from Brazil, Germany, Panama, Saudi Arabia.
Within the last 12 months, Morgan Stanley has provided or is providing investment banking services to, or has an investment banking client relationship with, the following company: Argentina,
Australia, Brazil, Canada, Chile, Colombia, Czech Republic, France, Germany, Ireland, Italy, Japan, Mexico, Panama, Peru, Saudi Arabia, Singapore, Spain, United Kingdom, United States of America.
Within the last 12 months, Morgan Stanley has either provided or is providing non-investment banking, securities-related services to and/or in the past has entered into an agreement to provide
services or has a client relationship with the following company: Brazil, Czech Republic, France, Germany, Hungary, Italy, Mexico, New Zealand, Panama, Peru, Saudi Arabia, Singapore.
The equity research analysts or strategists principally responsible for the preparation of Morgan Stanley Research have received compensation based upon various factors, including quality
of research, investor client feedback, stock picking, competitive factors, firm revenues and overall investment banking revenues. Equity Research analysts' or strategists' compensation is not
linked to investment banking or capital markets transactions performed by Morgan Stanley or the profitability or revenues of particular trading desks.
Morgan Stanley and its affiliates do business that relates to companies/instruments covered in Morgan Stanley Research, including market making, providing liquidity, fund management,
commercial banking, extension of credit, investment services and investment banking. Morgan Stanley sells to and buys from customers the securities/instruments of companies covered in
Morgan Stanley Research on a principal basis. Morgan Stanley may have a position in the debt of the Company or instruments discussed in this report. Morgan Stanley trades or may trade
as principal in the debt securities (or in related derivatives) that are the subject of the debt research report.
Certain disclosures listed above are also for compliance with applicable regulations in non-US jurisdictions.
STOCK RATINGS
Morgan Stanley uses a relative rating system using terms such as Overweight, Equal-weight, Not-Rated or Underweight (see definitions below). Morgan Stanley does not assign ratings of Buy,
Morgan Stanley Research
59
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Global Insight
Hold or Sell to the stocks we cover. Overweight, Equal-weight, Not-Rated and Underweight are not the equivalent of buy, hold and sell. Investors should carefully read the definitions of all
ratings used in Morgan Stanley Research. In addition, since Morgan Stanley Research contains more complete information concerning the analyst's views, investors should carefully read Morgan
Stanley Research, in its entirety, and not infer the contents from the rating alone. In any case, ratings (or research) should not be used or relied upon as investment advice. An investor's decision
to buy or sell a stock should depend on individual circumstances (such as the investor's existing holdings) and other considerations.
Global Stock Ratings Distribution
(as of October 31, 2022)
The Stock Ratings described below apply to Morgan Stanley's Fundamental Equity Research and do not apply to Debt Research produced by the Firm.
For disclosure purposes only (in accordance with FINRA requirements), we include the category headings of Buy, Hold, and Sell alongside our ratings of Overweight, Equal-weight, Not-Rated
and Underweight. Morgan Stanley does not assign ratings of Buy, Hold or Sell to the stocks we cover. Overweight, Equal-weight, Not-Rated and Underweight are not the equivalent of buy,
hold, and sell but represent recommended relative weightings (see definitions below). To satisfy regulatory requirements, we correspond Overweight, our most positive stock rating, with a
buy recommendation; we correspond Equal-weight and Not-Rated to hold and Underweight to sell recommendations, respectively.
Coverage Universe
Stock Rating
Other Material Investment Services Clients
Investment Banking Clients (IBC)
(MISC)
Count
% of Total
Count
% of Total IBC
% of Rating Category
Count
% of Total Other MISC
Overweight/Buy
1353
38%
288
41%
21%
597
39%
Equal-weight/Hold
1599
45%
326
47%
20%
709
46%
Not-Rated/Hold
1
0%
0
0%
0%
0
0%
Underweight/Sell
624
17%
80
12%
13%
220
14%
Total
3,577
Category
694
1526
Data include common stock and ADRs currently assigned ratings. Investment Banking Clients are companies from whom Morgan Stanley received investment banking compensation in the
last 12 months. Due to rounding off of decimals, the percentages provided in the "% of total" column may not add up to exactly 100 percent.
Analyst Stock Ratings
Overweight (O or Over) - The stock's total return is expected to exceed the total return of the relevant country MSCI Index or the average total return of the analyst's industry (or industry
team's) coverage universe, on a risk-adjusted basis over the next 12-18 months.
Equal-weight (E or Equal) - The stock's total return is expected to be in line with the total return of the relevant country MSCI Index or the average total return of the analyst's industry (or
industry team's) coverage universe, on a risk-adjusted basis over the next 12-18 months.
Not-Rated (NR) - Currently the analyst does not have adequate conviction about the stock's total return relative to the relevant country MSCI Index or the average total return of the analyst's
industry (or industry team's) coverage universe, on a risk-adjusted basis, over the next 12-18 months.
Underweight (U or Under) - The stock's total return is expected to be below the total return of the relevant country MSCI Index or the average total return of the analyst's industry (or industry
team's) coverage universe, on a risk-adjusted basis, over the next 12-18 months.
Unless otherwise specified, the time frame for price targets included in Morgan Stanley Research is 12 to 18 months.
Analyst Industry Views
Attractive (A): The analyst expects the performance of his or her industry coverage universe over the next 12-18 months to be attractive vs. the relevant broad market benchmark, as indicated
below.
In-Line (I): The analyst expects the performance of his or her industry coverage universe over the next 12-18 months to be in line with the relevant broad market benchmark, as indicated below.
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