Morgan Stanley’s Wilson: The sharp semiconductor decline does not signal the end of the bull market; the correction is a “necessary cooldown.”

Morgan Stanley's Chief Equity Strategist Mike Wilson believes that the recent sharp correction in technology stocks is merely a necessary "healthy reset" in the bull market, and the fundamental narrative remains intact.

The Nasdaq Composite plunged 4.2% last Friday, marking the largest single-day drop in points in history, and the shockwaves quickly spread to global markets—South Korea's tech-heavy KOSPI index slumped 8.1% on Monday.

In a research report released Monday, Wilson pointed out that the root cause of this selloff is the overcrowded positions in semiconductor and memory chip stocks, rather than a deterioration in fundamentals. Strong corporate earnings and resilient economic data continue to support the stock market.

Wilson maintains his year-end S&P 500 target of 8,000 points, stating that if the bull market is to continue through the end of the year, this adjustment is "inevitable and ultimately beneficial." However, he also warns investors to closely watch whether the 10-year US Treasury yield breaks above 4.5%, and the potential risk of tightening market liquidity.

Semiconductors Severely Overbought: Crowded Positions Trigger Stampede

Wilson conducted a detailed review of the selloff in his report. He noted that the Philadelphia Semiconductor Index (SOX) plunged 10% in a single day last Friday, the biggest one-day drop since 2020, but "the starting point is critical."

Data shows that before the middle of last week, the SOX had surged 96% year-to-date, deviating about 35% from its 50-day moving average—the largest deviation in the past 25 years. The 9-day Relative Strength Index (RSI) even reached 83, fully indicating the rally was severely overextended.

With the semiconductor sector highly correlated with momentum trading, the long momentum factor also saw its biggest single-day drawdown since 2020, falling 8%. Wilson said, "These dynamics do not necessarily signal the end of the bull market for these sectors, but they also rarely bounce back immediately."

Fundamentals Intact: Earnings Revisions Hit New Cycle High

Despite the dramatic market swings, Wilson emphasized that the fundamental logic supporting the stock market remains intact.

On the macro side, the latest ISM Manufacturing Index rose to 54, its highest level since 2022; nonfarm payroll data showed an average increase of 166,000 jobs over the past three months, the highest since 2023.

On corporate earnings, Wilson stated, "Our core view is that earnings remain strong, broader and more sustainable than most expect." He noted that earnings revision breadth for the S&P 500 is currently at 26%, a new high for this cycle.

Portfolio Rebalancing: Watch Consumer, Banks, and Transportation

Wilson believes this correction provides investors an opportunity to reposition, suggesting shifting funds out of still crowded momentum trades and towards consumer discretionary, regional banks, and transportation sectors.

Within the tech sector, he noted that earnings revisions for semiconductor and memory-related hardware stocks far exceed other sub-sectors, but this advantage has been fully priced in by the market. As for whether software can again lead technology or the broader market, Wilson is cautious, but stated that if software stocks outperform on a relative basis soon, "we may start to change our view, as their earnings revisions have also improved recently."

Liquidity and Rates Are Key Variables

Wilson also highlighted two major potential risks. The first is rate risk: If the 10-year US Treasury yield clearly breaks above 4.5%, it may pressure equity valuations. As of the latest data, the yield stands at 4.575%, up about 12 basis points in the past five days.

The second is liquidity risk. Wilson said, "In our view, liquidity driven by the Fed and Treasury has begun to tighten after rapid expansion in Q1. This dynamic has been reflected in the weak performance of precious metals and cryptocurrencies in recent months, and last Friday's further decline again confirmed this."

Bull Market Framework Unchanged: Year-End Target 8,000 Points Firm

In summary, Wilson concludes that the post-March surge is unlikely to continue in a straight line, and that corrections are both expected and beneficial to the ongoing healthy development of the bull market.

"In our view, if this bull market is to continue to year-end, corrections are inevitable and ultimately beneficial," he wrote, "This remains our base case, and our year-end S&P 500 target stays at 8,000 points."

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