Key Drivers of the Forecast
1. Federal Reserve Rate Cuts:
Morgan Stanley anticipates the Federal Reserve will implement a series of rate reductions, totaling 175 basis points, bringing the federal funds rate down to a range between 3.5% and 3.75% by mid-2026. This monetary easing is expected to diminish the yield advantage of U.S. assets, making the dollar less attractive to investors.
2. Slowing Economic Growth:
The firm forecasts a slowdown in global economic growth, with projections of 2.9% in 2025 and 2.8% in 2026, down from 3.3% in 2024. This deceleration is partly attributed to the impact of higher U.S. tariffs, which are creating structural shocks and dampening global demand.
Currency Implications
As a result of these factors, Morgan Stanley predicts the euro to strengthen against the dollar, with the EUR/USD exchange rate reaching 1.25 by mid-2026. Similarly, the British pound is expected to appreciate, with a forecasted GBP/USD rate of 1.40 by the end of 2026.
Investment Outlook
Despite the anticipated dollar weakness, Morgan Stanley maintains a bullish stance on U.S. equities. The firm projects the S&P 500 index to rise to 6,500 by mid-2026, driven by factors such as Federal Reserve rate cuts, dollar depreciation, and advancements in artificial intelligence enhancing corporate efficiency.
Investors are advised to consider the potential impacts of currency fluctuations on their portfolios and to monitor developments in monetary policy and global economic conditions.
