Don't be fooled into thinking this year's stock rally is the start of a new bull market, Morgan Stanley's top strategist says

• This year's stock rally isn't the start of a new bull market, Morgan Stanley's top strategist says.
• The S&P 500 and Nasdaq have both jumped in 2023, powered higher by surging tech stocks.

Investors shouldn't be fooled into thinking this year's stock rally marks the start of a new bull market, Morgan Stanley's chief US equity strategist has warned.

Mike Wilson, who's often one of the most bearish voices on Wall Street, said Monday that he's not expecting equities' strong run to last — even though the benchmark S&P 500 passed 4,200 points for the first time in over six months last week.

"Is this finally the breakout to confirm a new bull market? The short answer is no," he said in a research note seen by Insider.

The strategist's base case is that optimism around the rise of AI and the Federal Reserve have masked "many technical signals and fundamental factors" that suggest stocks aren't headed for a period of longer-term gains.

That's despite equities starting 2023 on a tear, with the S&P 500 up 9% and the Nasdaq Composite jumping 21% year-to-date.

Most of those gains have been powered by a small group of tech stocks that includes Microsoft, Meta, and Nvidia, which have capitalized on the surge in interest in ChatGPT and artificial intelligence.

AI will likely aid companies' future cost-cutting efforts — but not enough to prevent a significant drop in profits later this year, according to Wilson.

"While we believe that AI is for real and will likely lead to some substantial efficiencies that help to fight inflation, it's unlikely to prevent the earnings recession we forecast for this year," he said.

The expectation that the Fed will soon wind down its tightening campaign has also boosted stocks. Equities are typically valued at a multiple of their future profits, and when interest rates stop rising and start to fall, companies' borrowing costs decline and demand tends to pick up, which tends to provide an earnings boost. Lower interest rates also lift the appeal of stocks relative to savings accounts and bonds, which generally yield less as rates fall.

Again, that's probably distracting investors from a looming slowdown in earnings that threatens to hammer stocks later this year, Wilson said.

"Central bankers are already close to pivoting on policy or are already cutting rates which can prompt stocks to diverge from weakening fundamentals," he wrote.

Read more: The S&P 500 will crash 30% by December as spending slumps, profits shrink, and banking problems mount, markets guru Larry McDonald warns