This Wall Street Expert Thinks the Fed Has ‘More Room to Cut’ Than Most Expect in 2026

A nice surprise in U.S. labor market data could be the gift that keeps giving next year.

Michael Wilson, Morgan Stanley’s chief investment officer and chief U.S. equity strategist, in wondering why the market has behaved the way it has—the S&P 500 has had a strong year by any standard—has landed on a possible answer: April marked the end of a rolling recession and the start of a new bull market, and the Fed is still playing catch-up.

The Federal Open Market Committee is expected to cut rates by a quarter of a percentage point this week, per CME Group and prediction markets data. What the central bank does next remains an open question, but Morgan Stanley thinks that job-market woes—private market data show U.S. employers cut 9,000 jobs in November, the fifth month of negative data in the past seven—could spur the Fed to lower rates even further next year as it seeks to correct a delayed reaction to lagging segments of the U.S. economy born out of a lack of labor data, boosting U.S. stocks.

Investors can find confirmation that a new bull market began in April in S&P 500 constituents’ earnings, which are now growing close to 10%, the best in four years, according to Wilson. “That is very important for next year, because it means the Fed has more room to cut than probably people think,” he said in an interview with CNBC Tuesday.

The private sector has been experiencing a rolling recession post-Covid, with every sector going through its own recession rather than an across-the-board collapse, according to Wilson. Though real-time data hasn’t given the Fed reason to cut, data revisions could help the U.S. central bank come to the realization that parts of the U.S. economy need it to move out of the so-called K-shaped recovery.

“I don’t know how much they’re going to cut next year, but it’s unlikely they’re raising rates, and they’re probably going to add liquidity to the balance sheet at a time when accelerating inflation is driving better earnings growth,” Wilson said. “That’s a very good setup for equities typically.”

CME data puts the highest odds on at least two more cuts by December 2026, assuming this week’s is in the bag; Wilson has said more dovish policy “than the market currently expects” could be forthcoming. Morgan Stanley’s price target for the S&P 500 is 7800 by the end of 2026, roughly 14% above current levels. Wilson is bullish on this year’s sector laggards, including health care and industrials.

The risk in the bank’s outlook is that inflation hits a point that forces the Fed to react in a different way, according Wilson. “The question is at what point [does the Fed] feel like they have to then raise rates into that,” he said. “That will kill the bull market.”