Morgan Stanley Predicts 10% Gain for S&P 500 by 2026 Amid U.S. Asset Optimism

Despite recent concerns over the U.S. credit rating downgrade by Moody's and the subsequent sell-off in U.S. assets, a team of strategists at Morgan Stanley remains optimistic about the future of American assets. They predict that U.S. stocks and bonds will rebound in the coming year, outperforming their global counterparts. The strategists argue that the notion of foreign investors significantly selling off U.S. assets is unfounded, citing the lack of better alternatives and the enduring appeal of the U.S. market.

The strategists' bullish outlook is supported by several key factors. Firstly, they highlight the robust fundamentals of the U.S. economy, which continue to attract investment despite recent market volatility. Secondly, they point to the passage of the Trump administration's tax reform bill, which is expected to stimulate economic growth and increase investment in the U.S. The bill includes substantial tax cuts for corporations and individuals, providing a significant boost to the economy.

For U.S. equities, the strategists predict that the market will reverse its current downward trend. They anticipate that the S&P 500 index will reach 6500 points by the second quarter of 2026, representing a 10% increase from current levels. This optimism is driven by expectations of lower interest rates, a weaker dollar, and increased efficiency gains from artificial intelligence. Additionally, the easing of trade tensions has removed the most significant downside risk for U.S. stocks, making a short-term retest of April's lows less likely. The strategists also note that a dovish policy stance and potential rate cuts in 2026 could support higher-than-average valuations.

Regarding U.S. bonds, the strategists view the recent rise in 10-year Treasury yields as a temporary trend. They expect yields to remain within a range until the fourth quarter, when investors begin to price in the potential for rate cuts in 2026. By the midpoint of 2026, they predict that the 10-year yield will fall to 3.45%, down from its current level of approximately 4.54%. The strategists do not believe that investors are engaging in a sustained "retreat" from U.S. assets, as global equity funds have not pulled out of the U.S. market, and foreign holdings of U.S. dollar-denominated bonds remain at historic highs. This indicates that there is still strong demand for high-quality U.S. assets from investors around the world.

The strategists' outlook is not without risks, however. They acknowledge that geopolitical tensions and trade disputes could pose challenges to the U.S. economy and financial markets. However, they believe that the U.S. will be able to navigate these challenges and continue to attract investment. The strategists' optimism is based on their belief that the U.S. will remain a dominant force in global markets, driven by its economic resilience and the attractiveness of its financial markets.