In a note to clients on Monday, Morgan Stanley analysts advised investors not to chase low-quality deals and said large caps offer a more attractive risk-reward profile.
Economic releases will be busy over the next two weeks, with the ISM, wages, CPI and FOMC meeting all set to take place.
Morgan Stanley noted that stocks and bonds fluctuated last week based on Fed speeches and macro data as stocks held key technical levels.
“We highlight that the correlation between bond yields and equity returns has fallen further into negative territory over the past few weeks,” they wrote. “It is now at a 5-month low for large caps and a 9-month low for small caps.”
“While small-caps exhibit greater rate sensitivity (-0.6 correlation to rates vs. -0.3 for large-caps), we view this dynamic as somewhat asymmetrical,” they said, adding that higher rates are clearly are a relative drag for small-cap companies. .
“However, we are not convinced that lower rates will provide comparable benefits unless they are sustained over a longer period of time and accompanied by stronger growth/price strength,” the bank argued.
Overall, while Morgan Stanley respects the light positioning of small-cap stocks, they still believe large-caps offer “more compelling risk/reward” over the next few months.