Less-risky quality cyclical stocks are the way to go, say strategists

A Nike store pictured in Shenzhen, China on April 12, 2025. Morgan Stanley’s latest note talks of a stuck U.S. markets and cyclical stocks like Nike, in favor as much bad news is already priced in.

With the S&P 500 looking “stuck” right now, investors should seek out high-quality stocks that are already discounting for an earnings and economic slowdown.

That’s according to a team of strategists at Morgan Stanley led by Mike Wilson, who discussed how to position as the S&P 500 struggles to bust out of what they see as a current 5,000 to 5,500 range. They target the next resistance level at 5,600 to 5,650, but don’t expect a sustained break of that until a few developments that have yet to come to fruition.

Those include a U.S. tariff deal with China that “materially” brings down the effective rate — the U.S. has set those levies at 145% — and signs of interest-rate easing from the Federal Reserve. As well, markets need to see a further drop below 4.0% in the 10-year Treasury yield and a “clear rebound” in earnings revisions, the strategists said in a Monday note.

And the S&P 500 is also facing a huge week of data, with Wilson and his team highlighting in particular updates on the labor market, with April nonfarm payrolls due Friday. While stocks have already priced in a slight slowdown in growth relative to expectations, they haven’t priced in a “labor cycle/mild recession,” the strategists warned.

They want to see “clear evidence” over several months that the labor market is not in trouble, and until then “this risk is likely to remain elevated.” Morgan Stanley strategists also advise watching the Institute for Supply Management’s April manufacturing report due Thursday. A reading of 46 to 48 is expected, from the past month’s 49, and a three to four point swing in either direction would likely move equities, they said.

As for how to invest for now, the strategists had this to say: “While uncertainty persists and defensives should be in one’s portfolio, we do think it makes sense to pick spots in high-quality cyclicals that have already discounted a material slowdown in both macro conditions and earnings.”

In the past, Morgan Stanley strategists have described quality companies as well-managed with sustainably high, long-term returns and strong balance sheets. Cyclicals are companies whose fortunes are closely tied to the economy.

They offered a new screen of stocks in the top 1000 by market capitalization that meet criteria, such as a rating of overweight or equal weight by Morgan Stanley, and the company must be viewed as more cyclical based on factory and industry group assessments.

The stock must also be more oversold and viewed as less risky based on the average score of three variables: the difference between the expected ISM Composite PMI and the current PMI; the difference between implied forward earnings per share growth rate and the consensus rate; and how much the stock has sold off versus a typical decline in previous recessions.

The top five stocks in that new screen are oil-field services company NOV, energy infrastructure group Kinder Morgan, paint and coating manufacturing group PPG Industries, space company Rocket Lab and mobile storage solutions group WillScot Holdings. Mattel and Nike also make the below list, along with several banks.

The strategists currently favor U.S. over international equities, thanks to a weaker dollar that should benefit U.S. earnings per share revisions versus those of Europe and Japan. “Further, less volatile earnings and a higher quality bias should benefit the U.S. on a relative basis in today’s late cycle backdrop,” said Wilson and his team.