Bipartisan Wall Street strategist sees stock market rally before selloff resumes

One of Wall Street's most prominent bears sees the current rally in US stocks before the selloff resumption.

The S&P 500 Index may climb another 5% to 7% before the S&P 500 Index can resume its losses, according to Morgan Stanley strategists led by Michael Wilson.

They wrote in a note that the US equity markets can rally further, with a decline in bond yields and oil prices having eased some worries about runaway inflation and helping the benchmark snap a three-week losing streak.

The US stock market has been roiled this year because of concerns that a hawkish Federal Reserve and a surge in inflation could cause the economy to go into a recession. The S&P 500 is in a bear market after falling 20% from its January peak and is on course for its worst first half since 1970. S&P 500 futures went up 0.3%, while Nasdaq 100 contracts gained 0.4% as of 6: 23 a.m. in New York on Monday.

Wilson, who correctly predicted this year s selloff, said that a retracement of 38% to 50% of the entire decline would not be unnatural or out of line with prior bear market rallies. The S&P 500 would be up to 4,200 points, giving the index about 5% to 7% upside from Friday's close, with interest-rate sensitive stocks driving the rebound, he said.

Sean Darby, Jefferies LLC strategist, said that the combination of depressed investor sentiment, extreme short positioning and rising cash levels was leading to a vicious short squeeze. The Jefferies team wrote a note on Monday that investors are standing between a rock and a hard place. The sell side has not cut earnings estimates, but the full blown capitulation begins just as the investor is standing between a rock and a hard place.

Morgan Stanley s Wilson said that the stock markets are in for more declines due to fears of an economic slowdown driving the drop in oil and yields rather than a peak in inflation.

The bear market is likely not over, but it may feel like it over the next few weeks as markets take the lower rates as a sign that the Fed can orchestrate a soft landing and prevent a revision of earnings forecasts, the strategist said.

Wilson sees the S&P 500 bottoming between 3,400 and 3,500 index points as much as 13% less than its latest close in his base case, which calls for a soft economic landing. A recession would cause the index to fall by more than 23% to around 3,000, he said.

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