Behind the historic technological collapse, is it panic-driven liquidation or a genuine cyclical turning point?

Recently, global financial markets have experienced significant volatility, with cyclical stocks and momentum factors undergoing historic pullbacks, and concerns about the peak of the economic cycle have sharply intensified.

Andrew Sheets, the global head of fixed income research at Morgan Stanley, believes that the current price adjustments are more likely to be close to a significant concentration of uncertainty clearing, rather than a precursor to the end of the economic cycle.

At the macro level, several key leading indicators have not signaled a peak in the cycle—the global manufacturing PMI remains strong, the U.S. yield curve still has a positive slope, and the growth rate of bank loans is rising in the U.S., Europe, and Asia.

Meanwhile, the Democratic Party achieved a historic victory in the U.S. midterm elections, which may be favorable for the bond market: the slowdown in AI data center construction could extend the financing timeline, and downward pressure on energy prices may also be reinforced.

Morgan Stanley maintains its global growth forecast for the next 6 to 12 months, expecting U.S. economic growth to exceed 2% and Europe to exceed 1%. Andrew Sheets stated that the market may complete its adjustment before the uncertainty has fully dissipated, especially after valuation corrections have quietly persisted for some time.

No Peak Signals from Cyclical Indicators

Andrew Sheets pointed out that the current market volatility is reminiscent of typical characteristics at the end of previous economic cycles, but several core indicators do not support this judgment.

The global manufacturing PMI continues to remain strong, with recent U.S. PMI data exceeding expectations; the U.S. leading economic indicators index shows signs of improvement; bank loans in the U.S., Europe, and Asia are all expanding; and credit fundamentals are continuously improving. The latest readings from Morgan Stanley's cross-asset team's cyclical model indicate that the economy is still in a healthy range.

Another closely watched indicator—the yield curve—has also not issued warnings. Whether looking at the spread between 2-year and 10-year or 3-month and 10-year yields, the yield curves in the U.S., U.K., Germany, and Japan all maintain a positive slope. This contradicts scenarios of excessive monetary policy tightening and an imminent downturn in economic growth.

Andrew Sheets stated, historically, before a true cyclical turning point, such robust patterns in the above indicators are rarely observed.

Midterm Election Impact on AI Construction Expectations

The Democratic Party's significant victory in the U.S. midterm elections flipped control of the House, Senate, and several governorships, including Texas and Ohio, achieving the strongest nationwide performance since 1974.

The election results have raised market concerns that AI infrastructure construction may face stricter regulations. However, Andrew Sheets believes that while this risk exists, it is not the baseline scenario and is not a new issue.

Semiconductor stocks had already fallen about 30% from their June peak before election day. The Morgan Stanley research team has previously pointed out that bottlenecks in power and financing could slow down the AI construction process and extend the cycle.

Even in the most pessimistic high-constraint scenario—assuming project approvals and power supply face greater challenges—the forecast for the compound annual growth rate of global data center capacity until 2030 still reaches 17%.

From the perspective of the stock market, the risk of delays in AI construction needs to be weighed against the significant valuation adjustments that have already occurred. The forward price-to-earnings ratio of the S&P 500 index has fallen about 19% since the beginning of the year. Morgan Stanley equity strategists believe that this adjustment has quietly been taking place within the market for quite some time.

Bond Market May Welcome Dual Benefits

Andrew Sheets believes that the potential positive impact of the midterm election results on the bond market is more direct.

He pointed out that the two major pressures troubling the bond market this year—high energy prices and large-scale borrowing for data center construction—may be alleviated due to the election results.

• First, the slowdown in AI construction means that related financing needs will be spread over a longer time dimension, thereby reducing the supply pressure that the market needs to digest in any single period.
• Second, according to election analysis cited by Vice President Vance, voter anxiety over the Iranian conflict was one of the important factors in the election results. This may prompt the market to lower the risk premium for a resurgence of geopolitical conflicts—oil prices are currently about 17% lower than at the end of October.

The decline in energy prices is particularly critical for Europe. Morgan Stanley's rate strategists currently favor a steepening strategy for the European yield curve. Morgan Stanley's emerging markets strategists also noted that lower oil prices will improve the fundamentals of emerging markets from multiple dimensions.

Additionally, the general dissatisfaction among voters regarding inflation may further strengthen the market's expectation that tariff measures will ultimately prove to be temporary policies. At the same time, a larger majority in Congress is expected to reduce the obstruction space for individual lawmakers, eliminating a source of market volatility caused by previous congressional games.

Andrew Sheets concluded that the most critical question at present is: Is the market experiencing a true cyclical turning point, or is it approaching the end of a significant concentration of uncertainty clearing?

His judgment leans towards the latter. Cyclical data still provide support, and the midterm election results may be dissipating the two largest pressures facing the bond market this year. Morgan Stanley will continue to test this judgment with subsequent evidence.