Another 5% rally on Wall Street likely to be bear market rally, says Morgan Stanley

Another 5% rally on Wall Street likely to be bear market rally, says Morgan Stanley

A rebound in U.S. stocks may have another 5% to go, but it's likely to be a bear market rally, according to Morgan Stanley's equity strategist who sees negative trends in corporate earnings and economic indicators.

The S&P 500 bounced back 6.6% from May 19, when it closed at 18.7% from its Jan. 3 record high. The benchmark index was down by 1% in the morning on Tuesday.

In a note published before the market opened on Tuesday, Morgan Stanley Equity Strategist Michael Wilson said the index could rise another 5% as it's not surprising that we are seeing some relief due to how oversold the market has become. Wilson said that while more people on Wall Street are worried about the risks from higher inflation and slower growth, that doesn't mean it's fully discounted.

Wilson said that relief rallies can happen at any time, and it appears that we are now in the midst of one. He believes that the S&P 500 will be around 3,400 by mid August, which would be an 18% decline from Friday's close.

The market has had a rally that faded this year, with the S&P 500 rising some 11% in March before giving up all of those gains.

The Federal Reserve may slow down its plans to raise rates later this year, which is what led to the latest rally. BofA strategists said last week that the central bank would pause its tightening in September, leaving its benchmark overnight interest rate in a range of 1.75% to 2% if financial conditions worsened.

The Fed's tighter path isn't certain.

The central bank should be prepared to raise interest rates by a half percentage point at every meeting until inflation is curbed, according to Fed Governor Christopher Waller on Monday. After raising rates by 75 basis points this year, the Fed is expected to raise rates by 50 basis points at each of its next two meetings.