Morgan Stanley's top stock strategist has 4 reasons why the stock market is going a lot higher

Morgan Stanley’s Adam Parker is bullish, and he has a few reasons.

The chief equity strategist for Morgan Stanley has been confused by the market this year, but he said there are now four definitive reasons the stock market is heading higher.

The strategist raised his 12-month price target for the S&P 500 to 2,300 from 2,200 and said that by the end of the economic cycle the market could be much higher than that.

His reasons for near-term bullishness are:

  1. “Bond yields are so low and seem risky — the old ‘relative to other asset classes’ argument.”
  2. “70% of the global equities that trade $100 million or more each day are in the US — the old liquidity argument.”
  3. “The US is the only major region with potentially positive EPS growth as a base case — the old fundamental argument.”
  4. “Investors aren’t positioned for big upside- whether you look at futures, options, prime brokerage data, surveys, or anecdotally from meetings, we don’t see excessive optimism among the client base — i.e., the old positioning argument.”

Parker does admit that on a historical basis, the stock market is expensive with a forward price to earnings ratio around 17x versus a long-term median of 13.8x. This, however, does not mean that the market needs to correct anytime soon, in fact Parker believes it will expand to 17.7x.

“However, this may not be an impediment. The US equity market offers a 2% dividend yield and more than a 2% net buyback, with we think about 3.5% per annum EPS growth for the next two years,” said Parker. “This call option on [earnings per share] growth relative to low expectations today we think offers more attractive risk-reward than most other major asset classes.”

Put another way, stocks still look attractive and offer a better return than other assets, so there is no reason that P/E can’t go higher. Just because the measure mean reverts, doesn’t mean it can’t go higher first.

In the long-term there is even better news according to Parker. The continued economic expansion should leave the stock market in a strong place for years to come. Here’s Parker’s long-term outlook (emphasis added):

“Two years ago, we partnered with our Chief US Economist Ellen Zentner to argue that we think this could be a long expansion, perhaps lasting until 2020, and implying that the US equity market will trade near 3000 by cycle end. We still believe this to be true, as most US consumer metrics appear directionally positive (housing, jobs, delinquencies, obligations, confidence, personal spending,etc.); corporate excess seems under control; and low growth is still the base case economic forecast. With few other attractive investment alternatives, we see the US equity market as the beneficiary of further appreciation.

Thus, according to Parker, there are both short-term market and long-term economic reasons to believe in the US stock market.

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