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Positioning in financial stocks is light compared to other sectors, Morgan Stanley says.
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He views the group as underrated, citing its exposure to economic strength.
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Investors have held onto quality, defensive stocks despite the strong data.
Investors persist in defensive trades that do not take advantage of the strength of the economy, Morgan Stanley said, highlighting opportunities in underinvested sectors.
The firm, which just last week upgraded cyclical stocks to “overweight” relative to defensive stocks, described the financial group as particularly attractive.
Morgan Stanley said net exposure to the financial sector was in the bottom 15th percentile of a historical data series dating back to 2010. And, as the chart below shows, it is the sector with the least participation.
But Mike Wilson, the bank’s chief investment officer and chief U.S. equity strategist, sees a mix of headwinds that could lift financial stocks.
“In our opinion, this creates opportunities in [the financial] sector that we upgraded to overweight last week due to: the recovery in capital markets activity, a better loan growth environment in 2025, an acceleration of buybacks after the new Basel Endgame proposal and a relative valuation attractive,” he wrote.
Bank stocks have also seen more attractive valuations since de-risking last month after large-cap traders signaled caution about their operating environment. Morgan Stanley noted that this weakness lowered investors’ expectations for earnings season, making it easier for major lenders to beat forecasts.
JPMorgan and Wells Fargo have risen since posting better-than-expected earnings reports last week: they are up 3.8% and 8.8% since Friday’s open.
Despite this, Wilson found, the market’s appetite for finance has not materialized. This is not limited to banking stocks: investors are passing up other cyclical sectors, concentrating their exposure in quality, defensive names.
Utilities, healthcare and real estate, which are defensive activities, are among the four sectors with high net exposure.
Wilson argued that this shows that investors are still positioning for a soft growth scenario, which seems less likely in light of recent macroeconomic trends.
Although Morgan Stanley moved to neutral on cyclicals versus defensives late last month, it upgraded cyclicals to overweight last week after the September jobs report beat Wall Street forecasts.
“As several key macroeconomic data have turned out better than expected (namely the jobs report and the ISM services index) following the Federal Reserve’s 50 basis point rate cut, cyclicals have begun to show relative strength,” Wilson said.
At the same time, rates market yields are rising, indicating that growth concerns are easing.
The note said that cyclical stocks such as industrials, financials and energy rise when yields rise, while defensive stocks are negatively correlated with higher rates.
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