March will bring bear-market risks for US stocks, Morgan Stanley says

The headwinds for U.S. equities are set to increase even further in March, with stocks coming under pressure from faltering earnings and high valuations, according to Morgan Stanley strategists.

"Given our view that the earnings recession is far from over, we think March is a high risk month for the next leg lower in stocks," strategists led by Michael Wilson, ranked No. 1 in last year's Institutional Investor survey after correctly predicting the selloff in stocks, wrote in a note Monday.

Analysts pausing earnings estimates cuts over the next 12 months has stoked some investor optimism, Wilson said. However, bear markets typically feature a flattening out in outlook between quarterly earnings seasons before the downward trend resumes, he wrote. "Stocks tend to figure it out a month early and trade lower and this cycle has illustrated that pattern perfectly."

The S&P 500 has dropped for three straight weeks amid concerns that sticky U.S. inflation increases the prospect of more Federal Reserve rate hikes. That followed a rally of as much as 17% from October lows, spurred by hopes that the U.S. central bank will soon pivot away from its hawkish stance.

"With uncertainty on the fundamentals rarely this high, the technicals may determine the market's next big move," Wilson said, noting that the S&P 500 has recaptured its 200-day moving average. "We think this rally is a bull trap but recognize if these levels can hold, the equity market may have one last stand before we fully price the earnings downside."

For this to happen, interest rates and the dollar need to fall, he said. If they move higher instead, the technical support should fail quickly, he added.

The strategist has previously mentioned that he expects equities to bottom in the spring, forecasting the S&P 500 will slide as much as 24% to 3,000 points in the first half of this year. He also reiterated a call from last week, saying "valuation is broadly expensive."

Strategists at Credit Suisse Group AG are also cautious on stocks, saying there are a lot more negative tactical and technical indicators than positive ones for global equities. The team led by Andrew Garthwaite wrote in a note that they expect a downgrade of another 5% to 10% to earnings estimates and recommend selling into rallies.