To The Moon

Morgan Stanley recently advised equity investors to ditch their defensive stance and pivot towards large-cap companies with solid earnings and growth prospects, including some members of the "Mag 7."

Defensive stocks have been on a roll lately. However, Michael J. Wilson, Morgan Stanley's equity strategist, noted that their valuations have soared, justifying a profit-taking move ahead of the next labor report. Strategically, the bank's stance on defensives versus cyclicals shifts to neutral.

Defensive stocks typically shine during recessions, offering essentials and services consumers still need in tough times. Think utilities, healthcare, and consumer staples. The US Bureau of Labor Statistics will release the next jobs report on October 4th, potentially shedding light on whether the US economy is headed for a downturn.

Amid economic uncertainty, defensive sectors have thrived this year. $Utilities Select Sector SPDR Fund(XLU)$ has returned 26%, topping the 11 SPDR sector funds within the $S&P 500(.SPX)$ . $Consumer Staples Select Sector SPDR Fund(XLP)$ clocked in at 15%, trailing the broader market's 20% but outperforming discretionary funds' 10%.

Defensive stocks often rally post-Fed rate cuts. Last week's 50 bps cut was a potential tailwind. Yet, Morgan Stanley cautions of a dip-before-rip scenario. Historically, Defensive stocks excel 3-12 months after the Fed's initial cut, but lag slightly in the first month.

Other headwinds: Fed rate cuts often signal an economy near or in recession, a tailwind for Defensive stocks, but not so in today's context. Defensive stocks are trading at historical highs, with forward P/E ratios hitting their 2022 year-end peak, according to Morgan Stanley.

So, where should investors look for opportunities if not in defensive stocks?

Morgan Stanley continues to favor quality Megacaps with consistently growing earnings. Their picks span energy players like $Schlumberger(SLB)$ and $Baker Hughes(BKR)$ , financial firms including $Wells Fargo(WFC)$ and $Bank of America(BAC)$ , and "Mag 7"stalwarts like $Amazon.com(AMZN)$ $NVIDIA Corp(NVDA)$ $Alphabet(GOOG)$ $Alphabet(GOOGL)$ $Meta Platforms, Inc.(META)$.