US Equity Markets Were up Sharply As the S&P 500 Gained Over 2% Bringing the Index Back

December17, 2014

Dear Client,

US Equity markets were up sharply as the S&P 500 gained over 2% bringing the index back above the 2,000 level (closed at 2,012.89). This was the strongest day for the S&P since October of 2013. Gains were broad based as the other broad U.S indices,specifically the Dow Jones Industrials and Nasdaq were also sharply higher. It was an extremely busy day of news for the equity markets and for the most part, news did not disappoint. Therewere several catalyststoday for the move higher, which we highlight below.

Oil, which has been a focal point of the markets of late,bounced from near five year lows. The move in oil precipitated some short covering and “bottom fishing” in energy stocks as well, which augmented the move throughout out the day. Energy was the best performing sector in the equity markets having posted its biggest gain in three years.

The second catalyst today was the announcement from the Federal Open Market Committee (FOMC) as well as Janet Yellen’s press conference. The FOMC left its benchmark rates unchanged at 0.00% to 0.25%, while slightly altering the language in the Fed’s press release, emphasizing patience as well as the importance of data as to when they might begin to normalize rates. The market interpreted these comments from the Chairwoman positively. In addition to seeing equities rally, the US Dollar also moved higher following the comments from the Fed.

A third catalyst today was the recovery of the Russian markets following significant volatility seen over the past few days. Short term stabilization in oil prices as well as recent actions taken by the Central Bank of Russia to fortify their banking and currency markets contributed to today’s renewed confidence in risk assets.

Other policy support headlines were fairly upbeat today and contributed to this confidence in risk assets, which extended beyond the equity markets to the credit markets where investment grade and high yield bonds stabilized throughout the day. The ‘risk on’ sentiment today was seen across asset classes as Treasuries sold off late in the day; the sell-off lifted treasury yields across the board (the much watched 10-yr treasury closed around 2.13% - up from levels earlier this morning).

For the day, all 10 S&P 500 sectors finished positively. Energy, Materials and Financials were the clear outperformers today. As a reminder, the firm remains constructive toward Consumer Discretionary as well as Energy. Morgan Stanley Chief Equity Strategist Adam Parker continues to have an Overweight bias toward this sector believing that weakness in oil could be a positive catalyst for the US Consumer, a comment which was also reiterated by Janet Yellen this afternoon. Regarding Energy, recall that back in May of this year, the energy sector was the bestperforming sector year-to-date, but following weakness over the past several months, Energy is now the worst performing sector this year, lagging the S&P 500 by nearly 22%.

While investors are celebrating some ‘holiday cheer’ today, we expect the market volatility from the past few weeks to continue. As a reminder, our Global Investment Committee published a whitepaper titled, ‘Volatility… It’s Back!’ In the paper, Lisa Shalett, Head of Investment and Portfolio Strategies for Morgan Stanley Wealth Management, and team discussed their view that volatility is likely to normalize going forward following five years of relatively low volatility across major asset classes. As a result, they believe investors should focus on risk management next year. For a copy of this whitepaper, please contact your Financial Advisor.

As a reminder, MS & Co. chief US equity strategist, Adam Parker, has a year-end 2015 price target of 2,275 for the S&P 500. This represents roughly 13% potential upside from today’s close. Beyond the S&P 500, Adam believes small-caps are set to outperform next year following underperformance to date this year. Adam remains bullish on equities for the third straight year, based on his view that earnings will grow 7% annually over the next two years, and that markets can see modest further multiple expansion from here, with the S&P 500 approaching 17x forward earnings in his base-case.

Market data provided by Bloomberg.

Dow Jones Industrial Average is a price-weighted index of the 30 largest, most widely held stocks traded on the New York Stock Exchange. An investment cannot be made directly in a market average.

MSCI Emerging Markets Index measures the performance of equities issued by companies domiciled in emerging markets.

NASDAQ Composite Index is a market-value-weighted index of all common stocks listed on NASDAQ. An investment cannot be made directly in a market index.

S&P 500 Index is an unmanaged, market value-weighted index of 500 stocks generally representative of the broad stock market. An investment cannot be made directly in a market index.

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