Stocks priced for ‘sunshine and rainbows’ now face earnings test
Wall Street is anticipating a near-record earnings season, but for investors a key question remains: Will it be enough to keep stock market bulls running?
Wall Street is anticipating a near-record earnings season, but for investors a key question remains: Will it be enough to keep stock market bulls running? The stakes have rarely been higher. The S&P 500 Index shook off a tough start to the year and now is up more than 10% in 2026. But the move feels fragile since the typical drivers of the rally — the technology behemoths known as the Magnificent Seven — are barely participating, with an index tracking the group gaining just 3.2% this year. If that continues, the S&P 500 will need strong performances from its other 493 stocks to continue powering the index through the second half. Second-quarter earnings season kicks off Tuesday with reports from Wall Street giants Goldman Sachs Group Inc. and JPMorgan Chase & Co. Profits from S&P 500 firms are expected to rise 24% in the three months through June, data compiled by Bloomberg Intelligence show, which would be among the best readings ever outside of recoveries from major recessions. The problem is those rosy projections are running up against sticky inflation, climbing energy costs and rising odds of interest rate hikes by the Federal Reserve, all of which could eat into profit margins. And with the stock market trading near all-time highs and valuations looking stretched, the setup suggests little room for error. “The market is in an unusually delicate position,” said Violeta Todorova, senior research analyst at Leverage Shares. “This is a season where in-line will be treated as a disappointment, particularly in the names that have led the rally.”Companies may end up surpassing sell-side’s profit estimates like they did last quarter, but there’s no guarantee. Artificial intelligence will likely be a major focus again, with eyes on which tech firms are seeing payoffs from their heavy spending. In addition, traders are looking for guidance from companies in capital-intensive industries about whether they’re continuing to invest in growth.“There’s just less room for companies to blow away investors — they expect sunshine and rainbows and that’s what companies are going to have to deliver,” said Anthony Saglimbene, chief market strategist at Ameriprise Advisor Services. “The bar is super high.”Here are the key themes investors are watching this earnings season:Peak ExpectationsWall Street analysts have been aggressively raising their earnings estimates for S&P 500 companies, with firms representing just shy of 64% of the benchmark being revised higher in May, a record, according to Ned Davis Research.
The number is still elevated but slipped to 63.6% in June. The question is whether that can continue.“High valuations tend to not be a problem when earnings growth is strong, but that does not mean the market is immune from a correction once EPS growth inevitably slows,” Ed Clissold, chief US strategist at Ned Davis Research, wrote in a July 7 note.Large swaths of the market are seeing earnings growth cool, including stocks in the consumer discretionary and staples, financials, industrials and healthcare sectors. On the other hand, chipmakers are poised to post earnings expansion of 136% from a year ago as cash pours in from AI spenders, according to data from BI.132340952The setup for sectors that are still seeing accelerating growth and sharp share-price gains, like semiconductors, is “precarious” and the companies had “really better deliver” to meet heightened expectations, said Marta Norton, chief investment strategist at Empower.“What analysts are putting out there is really astonishing,” she said.AI BillsTech stocks are center stage this earnings season as the biggest drivers of market rallies in the US, Taiwan and South Korea. In the US, information technology companies are expected to post 67% profit growth, second-best among S&P 500 sectors after energy at 118%, BI figures show.But investors have been hard to impress. Blowout results from Samsung Electronics Co. and Micron Technology Inc. failed to push semiconductor stocks higher amid concerns of bloated valuations. The MSCI World Semiconductors & Equipment index hit a record on June 22, but is down 6.1% since then, making next week’s reports from ASML Holding NV and Taiwan Semiconductor Manufacturing Co. key.Meanwhile, results in a few weeks from the big spenders on AI infrastructure — Alphabet Inc., Amazon.com Inc., Meta Platforms Inc., Microsoft Corp. and Oracle Corp. — will offer guidance on whether their investments are paying off. The group was among the biggest winners in the AI trade until recently, when investors turned skeptical on how much cash is heading out the door.132340960 The largest US AI companies are expected to shell out more than $700 billion in capital expenditures this year. However, changes in spending are a double-edged sword. A decline could be well received, but pulling back too hard could spook investors by showing a lack of confidence in those investments paying off. “If you start to see too much debt issued, then the market will say this is too much,” said Daniel Murray, deputy chief investment officer at EFG Asset Management.
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