Morgan Stanley’s Wilson Sees Earnings-Led Upturn in Industrials

(Bloomberg) -- A steep drop in US stock valuations since early summer has left some areas of the market looking attractive as earnings growth shows few signs of waning, according to Morgan Stanley strategists.

A team led by Michael Wilson said the extent of the pullback has created a "better setup" for sectors linked to the economic cycle where the fundamental outlook remains robust. They said capital-goods names stand out, with the group having among the strongest earnings revision profiles.

"Parts of the asset-heavy universe are beginning to look more interesting after recent de-rating," Wilson wrote in a note on Monday.

The US stock rally has faltered since mid-August as rising bond yields offset the boost from one of the strongest earnings seasons on record and the prospect of more to come when companies start reporting for the third quarter in coming weeks.

Analysts expect S&P 500 profits to jump 25% in the July-September period versus a year earlier, following a 34% surge in the previous three months, according to data compiled by Bloomberg Intelligence.

Growth has been powered by the artificial intelligence demand, record capital spending by hyperscalers and a strong macro-economic backdrop.

Wilson said the lofty expectations were "creating a high bar" for companies. "We expect earnings quality, free cash flow and revisions breadth to be the key differentiators."

Within industrials, Carlisle Cos Inc., Caterpillar Inc. and General Dynamics Corp. were among the top stocks based on quality, improving earnings revision and a drawdown of more than 10% from June 2026 peaks, the strategists said.

"Broadening backlogs across machinery, fabricated metals and other categories are improving revenue visibility and supporting a shift back into higher-quality industrials," they wrote.

For Goldman Sachs Group Inc. strategists, third-quarter earnings growth will be driven by the beneficiaries of AI infrastructure spending. AI monetization and productivity will also be important themes, they said.

"Recent economic growth data have been strong and S&P 500 earnings revision breadth has remained positive," the team led by Ben Snider wrote. "We expect most companies will once again surpass consensus earnings estimates this quarter."