The stock market has been in freefall since the Fed said “pain was coming.” Morgan Stanley says hug for another drop

“Fire and ice” isn’t just a show about dragons and zombies on HBO. It was Michael J. Wilson’s vision of the stock market for 2022.

Wilson, the chief investment officer at Morgan Stanley, has argued that stocks are battling a toxic combination of economic headwinds – what he calls “fire” and “ice” – that are set to keep share prices subdued through late 2023.

The stock market’s summer rally was cut short last month as investors digested a reaffirmation of the Federal Reserve’s aggressive stance to fight inflation at the same time that Europe’s energy crisis took a turn for the worse. But even after a roughly 9% drop in the S&P 500 since mid-August, Wilson says buyers should (still) beware.

In a research note on Tuesday, CIO noted that its “fire and ice” moniker “has proven to be an effective way to describe the first half of this year” and expects that to continue into December.

Wilson believes the stock market is set to experience “fire and ice, Part 2” in the coming months following Fed Chairman Jerome Powell’s comments at the central bank’s annual banquet in Jackson Hole, Wyo., last week.

Powell argued that some “pain” may be needed to get consumer prices under control next year, and economists noted that asset prices (including stock prices) would have to fall to achieve that goal. The S&P 500 sank more than 5% in the days following Powell’s comments, and Wilson says that was just the beginning.

Fire and Ice, Part 2

While some market pundits and investment advisers argued that the stock rally was a buying opportunity during the summer, Wilson argued that it was nothing more than a trap for investors all along.

His argument was and is based on the idea that inflation and the Fed’s efforts to fight it with interest rate hikes act as a backfire against stocks, significantly reducing their valuations. Rising interest rates raise the cost of borrowing for companies as well, making it harder for them to invest in their future growth and make a profit.

And at the same time, the slowdown in economic growth or the “freeze” reduces consumer spending and, by extension, the profit potential of businesses.

All of these headwinds are bad news for stocks, and Wilson argues they won’t go away anytime soon. The CIO pointed to Powell’s comments in Jackson Hole, which “emphatically” dashed investors’ hopes of an “excessive shift” in rate cuts last month amid a weakening global economy.

Wilson also cut his earnings forecast for the S&P 500 on Tuesday, arguing that slowing economic growth and “sticky cost pressures, particularly on the labor side” from higher wages will squeeze corporate margins toward front.

He went on to note that the second half of the year should be “more frosty than fiery as slowing growth becomes the bigger concern for stocks, rather than inflation and the Fed.” All of this means that the bear market is far from over.

“While we acknowledge the stock’s poor performance year to date, we do not believe the bear market is over if our earnings forecasts are correct,” Wilson wrote.

Wilson’s “minimum downside” for the S&P 500 in 2022 is about 13% below current levels at 3,400, while a low of 3,000 (or 23% below current levels) is likely by the end of the year “if it comes recession”.

The S&P 500 should then recover to 3,900 by the end of 2023, or 3,350 in a recession scenario, according to Morgan Stanley.

This story was originally featured on Fortune.com

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