Morgan Stanley: Stick with High-Quality Cyclical Stocks as Market Remains Rangebound

As the S&P 500 continues to trade sideways, Morgan Stanley strategists are advising investors to focus on high-quality cyclical stocks that have already priced in a potential slowdown in both earnings and economic growth.

Led by Mike Wilson, the team at Morgan Stanley notes that the S&P 500 remains trapped between 5,000 and 5,500. While they see the next resistance between 5,600 and 5,650, they don’t expect a meaningful breakout until several catalysts materialize: a significant U.S.-China tariff reduction (currently at 145%), clear signs of Fed interest-rate cuts, a drop in the 10-year Treasury yield below 4.0%, and a strong rebound in corporate earnings revisions.

Markets are facing a critical week of data releases. Wilson and his team point to Friday’s nonfarm payrolls report and Thursday’s ISM manufacturing survey as key events. A swing in ISM data — expected between 46 and 48 — could significantly move stocks. While some slowdown has been priced into equities, the risk of a broader labor market downturn or mild recession has not, they warned. Sustained stability in labor data over several months would be needed to ease those concerns.

In the meantime, Morgan Stanley recommends a balanced approach: maintaining defensive exposure while selectively adding to high-quality cyclical stocks that have already adjusted to weaker conditions.

Their definition of “quality” includes companies with strong management teams, consistently high returns, and healthy balance sheets. “Cyclicals” are companies whose earnings closely track economic growth.

To help guide investors, the strategists screened the top 1000 U.S. stocks by market capitalization, focusing on those rated overweight or equal weight by Morgan Stanley, considered cyclical, and deemed less risky based on several valuation and performance metrics.

The top five stocks from their screen are:

• NOV (Oilfield services)
• Kinder Morgan (Energy infrastructure)
• PPG Industries (Paints and coatings)
• Rocket Lab (Aerospace and space technology)
• WillScot Mobile Mini Holdings (Mobile storage solutions)

Other notable mentions include Mattel, Nike, and several bank stocks.

Overall, Wilson and his team prefer U.S. equities to international ones, citing a weaker dollar that should support U.S. earnings more than those in Europe or Japan. With earnings less volatile and a bias toward higher quality, they see the U.S. market as better positioned in today’s late-cycle environment.