NEW YORK, NY – Investment banking giant Morgan Stanley has released a revised mid-year economic outlook, now forecasting two Federal Reserve interest rate cuts in 2025 based on new projections for cooling inflation.
- Revised Inflation Forecast – The firm lowered its year-end 2025 forecast for core Personal Consumption Expenditures (PCE) inflation to 2.5%, closer to the Federal Reserve’s 2% target.
- Two Fed Rate Cuts Expected – Analysts now project two 25-basis-point rate cuts in the second half of 2025, one in September and one in December, an increase from their previous forecast of a single cut.
- Shift in Market Strategy – The bank’s investment office is advising a portfolio rotation from high-valuation mega-cap technology stocks toward more cyclical sectors like industrials and financials.
The updated forecast paints a clearer picture of a potential “soft landing” for the U.S. economy, where inflation subsides without triggering a significant recession. This delicate balance, however, comes with important new considerations for investors navigating the second half of the year.
The Real Story Isn’t the ‘Soft Landing’—It’s the Strategy
It’s easy to get fixated on the headline forecast of a “soft landing” and future rate cuts. But the most actionable intelligence from Morgan Stanley isn’t just about where the economy is going; it’s about how investors should position for it. The data points to a crucial strategic rotation happening beneath the market’s surface—a story that the numbers tell far better than the headlines. This is where the real opportunities and risks now lie.
The New Numbers Behind Morgan Stanley’s ‘Soft Landing’ Forecast
At the core of the revised outlook is a more optimistic view on inflation. The report, led by Chief U.S. Economist Ellen Zentner, now projects that core PCE—the Federal Reserve’s preferred inflation gauge—will end 2025 at 2.5%. This is a downward revision from a previous 2.8% forecast and signals growing confidence that price pressures are sustainably moving toward the central bank’s 2% goal.
At the same time, the firm maintained its forecast for U.S. real GDP growth at 1.9% for the full year. The combination of moderating inflation and resilient, albeit slower, economic growth is the classic definition of a “soft landing.” This scenario avoids both the high inflation that has plagued the economy and the painful recession many feared would be necessary to control it. The question for markets is how the Federal Reserve will react to this evolving data.
Why the Federal Reserve Is Now Expected to Cut Rates Twice
The projected path of inflation is the primary driver behind Morgan Stanley’s new call for Federal Reserve action. With inflation trending downward and growth moderating, the rationale for keeping interest rates at their current restrictive levels diminishes.
The forecast now anticipates the Federal Open Market Committee (FOMC) will implement two separate 25-basis-point (0.25%) rate cuts before the end of the year. The timing is specific: one cut is projected for the September meeting, with a second to follow in December. This outlook is more “dovish,” or supportive of lower rates, than the firm’s prior expectation of a single cut. It suggests that Morgan Stanley’s analysts believe the Fed will have enough evidence of cooling economic activity by late summer to begin normalizing monetary policy.
What This Forecast Means for Investment Portfolios
While the macroeconomic outlook appears stable, the investment strategy portion of the report, shaped by Chief Investment Officer Mike Wilson, signals a significant shift beneath the market’s surface. The firm has maintained its year-end price target for the S&P 500 at 5,400, which suggests limited upside for the broad market from its current levels.
Instead of chasing broad index gains, the report advises a strategic rotation. It suggests reducing exposure to the mega-cap technology and growth stocks that have led the market for the past year, arguing their high valuations already reflect a perfect economic outcome. The strategists recommend reallocating capital into more value-oriented and cyclical sectors, such as industrials and financials. These sectors are seen as having more attractive valuations and could benefit disproportionately as interest rates begin to fall and economic activity remains steady. This strategic advice highlights a market that may be more about careful stock selection than passive index investing in the months ahead.
The Analyst’s Take: Beyond the Soft Landing
Morgan Stanley’s revised forecast provides a data-driven blueprint for a “soft landing,” but the real story for investors lies beneath the surface of the headline numbers. With limited upside projected for broad indexes, the focus now pivots from macroeconomic tailwinds to microeconomic fundamentals. Ultimately, navigating this next phase of the market will depend less on riding a single wave and more on a rigorous analysis of the specific sectors and companies best positioned to perform in a stable, lower-rate environment.
