Despite recent signs of a slowing economy, the S&P 500 has shown notable resilience, according to Morgan Stanley analysts, who attribute this strength to the sector-specific effects of policy decisions.
“The economy and markets have been telling diverging stories: macroeconomic data point to an incrementally weakening environment, while the S&P 500 has posted positive YTD performance after April’s significant low,” the bank said.
Morgan Stanley highlighted that policies on tariffs and immigration have created headwinds for the broader economy, suppressing growth and inflation. Yet, these negative impacts are largely limited to sectors with a smaller share of the index’s total market capitalization.
In contrast, the firm noted, “the OBBBA benefits sectors with large weights in the index due to provisions like upfront R&D expensing and bonus depreciation. These create cash flow benefits for sectors with an outsized share of market cap.”
The analysts emphasized that equity markets are inherently forward-looking, having already factored in a slowdown earlier this year. “Liberation Day marked peak uncertainty and peak concern around tariffs for equity investors, and we believe the market is now focused on a rebounding earnings backdrop,” they added.
From a sector standpoint, Consumer Discretionary is facing margin pressure and weaker pricing power, resulting in underperformance. Meanwhile, Industrials are benefiting from near-shoring initiatives and domestic AI investments, and semiconductors continue to outperform due to the AI-driven growth theme, despite policy headwinds.
Morgan Stanley concluded that these dynamics help explain the resilience of U.S. equities. The firm remains overweight Industrials and Financials and underweight Consumer Discretionary, citing continued strength in AI/Tech diffusion and reshoring trends within the U.S.
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