Looks like the Party is over... for the moment

Morgan Stanley issues triple sell warning on equities
By Ambrose Evans-Pritchard
Last Updated: 1:34am BST 06/06/2007

Morgan Stanley has advised clients to slash exposure to the stock
market after its three key warning indicators began flashing a "Full
House" sell signal for the first time since the dotcom bust.

Morgan Stanley warns the 'mid-cycle rally is over'

Teun Draaisma, chief of European equities strategist for the US
investment bank, said the triple warning was a "very powerful" signal
that had been triggered just five times since 1980.

"Interest rates are rising and reaching critical levels. This matters
more than growth for equities, so we think the mid-cycle rally is
over. Our model is forecasting a 14pc correction over the next six
months, but it could be more serious," he said. Mr Draaisma said the
MSCI index of 600 European and British equities had dropped by an
average of 15.2pc over six months after each "Full House" signal, with
falls of 25.2pc after September 1987 and 26.2pc after April 2002. "We
prefer to be on the right side of these odds," he said.

The first of the three signals Morgan Stanley monitors is a "composite
valuation indicator" that divides the price/earnings ratio on stocks
by bond yields. It measures "median" share prices that capture the
froth of the merger boom, rather than relying on a handful of big
companies on the major indexes.

"If you look at all shares, the p/e ratio is at an all-time high of
20," he said.

The other two gauges measure fundamentals such as growth and
inflation, as well as risk appetite. "Investors are taking far too
much comfort from global liquidity. Markets always return to
fundamental value, so people could be in for a rude awakening. This is
the greater fool theory," he said. "The trigger may be rate rises by
the Bank of Japan, or a widening of credit spreads. There are lots of
little triggers."

Morgan Stanley is not predicting a recession, believing bond yields
will fall during a correction and act as an "automatic stabiliser" for
the world economy. Once the market shakes off the latest excesses,
it's back to the races.