Markets

Morgan Stanley's Mike Wilson: 'I'm rooting for a recession in some ways' to reset stock market

Key Points
  • The economy isn't as strong as the stock market suggests, Morgan Stanley's Mike Wilson tells CNBC. 
  • Wilson points to the weakness of small- and mid-sized companies, arguing they have significantly underperformed their larger counterparts. 
  • "I'm rooting for a recession in some ways because that's what would get the flush in terms of expectations that still has to happen," Wilson says. 
VIDEO1:4201:42
Morgan Stanley's Mike Wilson on how a recession could help reset the market

The economy isn't as strong as the stock market suggests, and a recession would help "flush" out those misplaced expectations, Morgan Stanley's Mike Wilson said Wednesday on CNBC.

"I'm rooting for a recession in some ways because that's what would get the flush in terms of expectations that still has to happen," Wilson said on "Halftime Report." And then we can have a cyclical recovery."

Wilson, among Wall Street's most bearish strategists, said his viewpoint, which he acknowledged "may sound ironic," is rooted in the health of small- and medium-sized companies. He said there is more weakness there than the overall stock market levels would suggest.

In general, those companies have had disappointing earnings due to negative operating leverage, said Wilson, the firm's chief U.S. equity strategist.

"We have actually positive sales growth still in the economy. We have small, mid cap companies delivering three, four, five percent top line but actually seeing 10 percent negative earnings growth," Wilson explained. "If I saw companies start to firing people, I would get more positive because that is going to protect profit margins into next year ... That's the thing I'm looking for."

Small and mid cap stocks have significantly unperformed large companies, Wilson said, arguing "the bigger story is in the S&P 1,000."

"Mid, small caps are down almost double digits three quarters in a row," Wilson said. "And we can agree that the engine of jobs growth in this country is small and medium businesses. ... My concern continues to be if this doesn't improve for small, mid companies, then they are going to have to start laying people off."

"To say that risk is behind us is premature," Wilson said.

While there has been positive news in recent months to drive a stock market rally, such as interest-rate reductions and encouraging signs on Brexit and the U.S.-China trade deal, Wilson said he doesn't see any reason for the S&P 500 to break out of its current range.

The S&P rose as high as 3,003.27 on Wednesday, before dropping back just below 3,000. Morgan Stanley has long had 3,000 as its top of the range bull case.

"It's the same set up we had this summer," Wilson said. "Earnings season is going to be mixed ... and until that mid small cap area in particular shows improvement, I think the risk of an employment cycle is elevated."


VIDEO10:4310:43
Morgan Stanley's Mike Wilson on risks to the market rally