Morgan Stanley’s investment chief says beware these 3 ‘summer surprises’ set to crush stocks

It’s important not to let the summer heat get to you.

When the temperature in the marketplace rises, lack of proper preparation, analysis, and composure can turn would-be temporary pain into permanent losses. And although stock market dips, corrections, and crashes will continue to occur, the right strategy can be the difference between losing a grain of sand or the whole beach.

Mike Wilson, the chief investment officer and chief US equity strategist at Morgan Stanley, thinks investors may be missing three crucial summer market surprises — and he’s not waiting to sound the alarm on the danger ahead.

He spoke on a recent podcast and laid out the three negative surprises he thinks will transpire over the next three months:

1. The Federal Reserve

The Fed is going to cut interest rates at their July meeting — there’s no questioning it anymore.

However, although interest-rate cuts are generally perceived as favorable to investors, Wilson thinks they may be overlooking something: the cut coming too late.

“If the Fed is beginning a new full-blown rate cycle, equity markets typically respond negatively until the Fed can get ahead of the slowdown,” he said. “In other words, if the US economy is about to enter a recession, the initial Fed cuts are typically viewed poorly by stocks.”

Put simply, if the Fed isn’t in front of the curve, there will be more pain to come.

2. Earnings

Wall Street is expecting a dismal second-quarter earnings season.

Currently, the S&P 500‘s earnings are expected to fall 2% year-over-year, while profits for US small caps are anticipated to drop 12%.

But that doesn’t seem to be a big enough of a decline for Wilson — and he attributes his call to a looming US recession.

“With our view that a recession is looking more likely over the next 12 months, it’s also likely that company earnings guidance for the next 12 months is too high,” he said. “Given the significant deterioration in the macro data over the past few months, and the fact that we are now past the halfway point for the year, we suspect companies may feel the need to lower their optimistic, full-year earnings guidance provided back in January.”

3. Seasonality

Wilson goes on to state that the third-quarter of the year “tends to be the seasonally weakest for equity markets.” And, after the best start for US stocks since 1997, skepticism over the rally’s future continues to build.

“As a result of these factors, we expect a 10% correction for global equity markets with potentially worse outcomes for stocks that are crowded, and have performed well over past year,” Wilson concluded. “This would include high-quality stocks, and even some defensive areas that are now overvalued.”