MW Earnings are supporting stocks, but there are two risks to watch, says Morgan Stanley

By Jamie Chisholm

Fed policy and funding markets may be a headwind, says Michael Wilson

The stock market has worked out that corporate earnings are accelerating quicker than the average analyst.

Many investors know that valuation is usually not the main determinant for timing stock market corrections.

That's just as well for today's bulls, because currently the S&P 500 is trading at 23 times next twelve-month earnings, according to FactSet, very expensive compared to its 10-year average around 18.6.

One reason the market can cope with such high multiples is if investors are confident that earnings can grow for a while at a faster pace than the market will rise.

Michael Wilson, chief U.S. equity strategist at Morgan Stanley, is among those who think that corporate profits will be supportive.

In note published Monday, Wilson and team point out median stock earnings growth across the Russell 3000 is 11% for the third quarter so far, up from 6% in the second quarter and 2% in the first. This is the fastest growth since the third quarter of 2021.

"We think this is an underappreciated story and see this trend continuing into 2026, driving a broadening in earnings contribution across major and secondary indices. As usual, stocks have figured this out ahead of the consensus forecaster," says Wilson.

Indeed, a big standout in the current earnings season is that revenue has been significantly better than expected, so far up 2.3% for the S&P 500, which is double the historical run-rate of 1.1%.

And as the economy also improves this will benefit the bottom line for companies that of late have been reluctant to take on more workers, "which means cost structures are much leaner than they were a couple of years ago," says Wilson.

So, all seems upbeat on the profits front. Easing trade fears are good for sentiment, too. But Wilson and team acknowledge that there may be some short-term risks for the market.

One is that the market may be disappointed by the pace of Federal Reserve interest rate reductions. Wilson observes that though the bond market has adjusted rate-cut projections after Fed Chair Jerome Powell last week pushed back on the idea of a December rate cut, the stock market seems to be shrugging it off.

"One reason the equity market reaction has been muted to this development so far is that we're still trading in a 'good is good / bad is bad' backdrop as evidenced by the significantly positive correlation between equity returns and bond yields," says Wilson.

In other words the stock market is okay with a slightly slower pace of rate cuts if it's accompanied by a steady or improving economy. But Wilson is more cautious on this issue, saying "we are respectful of the signals both the bond market (reduced pricing of Fed cuts) and the equity market (poor breadth) are sending in the near term."

A lack of government data as the shutdown continues may also discourage the Fed from easing policy.

"This means it's still too early to press the small cap/low quality/deep cyclical rotation trade until the Fed shows a clear willingness to get ahead of the curve (defined as Fed Funds well below 2-year U.S. Treasury yields)," he adds.

Source: Morgan Stanley

Another area of concern for Wilson is the sign of increased stress in funding markets. The Federal Reserve may have been addressing this when it last week said it would stop its quantitative tightening program that reduced its asset holdings in December.

Wilson thinks the market was hoping for a more immediate end for QT, and "the proof will be in the pudding, in our view, as we monitor how short term funding markets behave."

The use of overnight repo ( the overnight funding market) has been rising of late, notes Wilson. And if that continues along with widening spreads of the secured overnight funding rate versus fed funds rates, and if the result is some failed trades, then "equity markets are likely to take notice, especially in some of the more speculative areas."

"In the meantime, we think higher quality areas of the market are likely to continue to outperform until this dynamic is settled," says Wilson.

The markets

U.S. stock-index futures (ES00) (YM00) (NQ00) are higher as benchmark Treasury yields BX:TMUBMUSD10Y rise. The dollar index DXY is up, while oil gold futures (GC00) are trading around $4,010 an ounce.

   Key asset performance                                                Last       5d      1m      YTD      1y 
   S&P 500                                                              6840.2     -0.51%  1.48%   16.30%   19.74% 
   Nasdaq Composite                                                     23,724.96  2.24%   4.15%   22.86%   30.07% 
   10-year Treasury                                                     4.091      11.20   -6.10   -48.50   -19.80 
   Gold                                                                 4009.9     0.32%   0.64%   51.93%   46.04% 
   Oil                                                                  60.8       -1.22%  -1.49%  -15.40%  -15.19% 
   Data: MarketWatch. Treasury yields change expressed in basis points 

The buzz

U.S. economic data due Monday include the ISM manufacturing PMI survey for October at 10:00 a.m. Eastern.

Fed Governor Lisa Cook will speak on the outlook for policy and the economy at 12 p.m.

Berkshire Hathaway $(BRK.B)$ said its cash holdings topped $380 billion and that was a net seller of stocks for the 12th quarter in a row.

Retail investor favorite Palantir Technologies (PLTR) will release earnings after Monday's market close. The software group's shares are at a record high having gained 378% over the last 12 months.

IREN $(IREN)$ said it had signed a $9.7 billion GPU cloud services contract with Microsoft $(MSFT)$ that it will fulfil with a $5.8 billion deal with Dell $(DELL)$.

U.S. President Donald Trump said he will block the sale of Nvidia's (NVDA) most advanced chips to China and other countries.

Oil prices (CL.1) are higher after the OPEC+ cartel said it will postpone output hikes in the first quarter of 2026.

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The chart

The proportion of the S&P 500 valuation represented by AI-related stocks - which is 41 stocks including direct AI, AI utilities and AI capital equipment - has hit 48%, according to Jim Bianco of Bianco Research. It's a record concentration for one theme, he adds. "So, the real AI bubble is pessimism about AI leading to not owning enough of it?," he ponders.

Top tickers

Here were the most active stock-market tickers on MarketWatch as of 6 a.m. Eastern.

   Ticker  Security name 
   NVDA    Nvidia 
   TSLA    Tesla 
   BYND    BYND 
   PLTR    Palantir Technologies 
   AMZN    Amazon.com 
   META    Meta Platforms 
   GME     GameStop 
   AMD     Advanced Micro Devices 
   TSM     Taiwan Semiconductor Manufacturing 
   NIO     NIO 

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November 03, 2025 06:38 ET (11:38 GMT)

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