Goldman Sachs Partner: Profitability is the core driving force, and the S&P 500 is expected to reach a new historical high within the year

Author: Zhao Ying

Strong corporate earnings are providing the most powerful support for the bulls in the U.S. stock market. Goldman Sachs partner John Flood believes that as market positions become "cleaner," the S&P 500 index is expected to reach a new historical high this year, driven by the core logic of earnings.

According to Goldman Sachs data, the year-on-year growth rate of the S&P 500 index's earnings per share (EPS) for the second quarter reached 45%, far exceeding the market consensus expectation of 22% at the beginning of the quarter. Even excluding non-recurring items such as approximately $151 billion in "other income" related to equity investments from Alphabet and Amazon, the S&P 500 EPS growth rate still reached 26%, accelerating from the first quarter and marking the fastest growth rate since 2021. Meanwhile, analysts have begun to raise their earnings expectations for 2027, with positive revisions seen across most sectors.

In terms of positioning, Goldman Sachs sentiment and positioning indicators have retreated from previous highs, with rapid positioning indicators generally turning bearish, hedge funds showing significant deleveraging, and retail investor leverage also beginning to cool. John Flood believes that this "cleaner" positioning environment creates conditions for further market upside.

Earnings Exceed Expectations, Growth Rate is the Fastest in Five Years

Goldman Sachs data shows that the year-on-year growth rate of the S&P 500 index's EPS for the second quarter reached 45%, significantly exceeding the consensus expectation of 22% at the beginning of the quarter. Of this, 19 percentage points of growth came from approximately $151 billion in "other income" related to equity investments from Alphabet and Amazon, with Microsoft also contributing about $3 billion in similar income.

Excluding the aforementioned non-core income sources, the S&P 500 EPS growth rate still reached 26%, further accelerating from the first quarter and achieving the fastest growth pace since 2021. From an individual stock perspective, the median year-on-year EPS growth tracking value among S&P 500 constituents was 12%, also exceeding the consensus expectation of 9% at the beginning of the quarter, indicating that earnings improvement is broad-based and not solely driven by a few tech giants.

Forward Expectations Continue to Be Upgraded, Correction Breadth Remains Positive

Strong second-quarter performance not only reflects past operational results but also drives analysts to continuously raise forward earnings forecasts. Since the beginning of the third quarter, the market consensus expectation for the S&P 500 index's EPS in 2027 has been raised by about 1%, with the energy and financial sectors receiving the largest upward revisions.

In terms of correction breadth, the number of companies within the S&P 500 whose earnings expectations have been upgraded continues to exceed those whose expectations have been downgraded, maintaining a positive correction breadth. Goldman Sachs believes that this comprehensive upward revision trend is an important foundation supporting market valuations.

Positioning "De-Bubbling," Creating Space for Upside

In terms of market sentiment and positioning, Goldman Sachs sentiment and positioning indicators have fallen to the 53rd percentile, significantly retreating from previous highs. Most rapid positioning indicators have turned bearish: while futures positioning remains relatively high, it is no longer at extreme levels, the purchase/sale ratio has decreased, investor surveys show a decline in optimistic sentiment, and the equity positioning of actively managed funds (NAAIM index at 79.7) has also contracted.

At the hedge fund level, deleveraging is particularly significant—total leverage has given back half of its gains for the year, and net leverage has decreased since the beginning of the year. For retail investors, leverage levels are beginning to cool, with margin balances in the South Korean stock market retreating from historical highs, and the scale of financing purchases in Japan also pulling back from the highest levels since 1990. The buying intensity of U.S. investors in semiconductor stocks has also slowed.

John Flood believes that the "de-bubbling" of the aforementioned positioning indicates a healthier market structure, with potential selling pressure alleviated, creating more favorable conditions for the index to rise further.

Valuations Relatively Low, AI Cycle Provides Long-Term Support

From a global comparative perspective, Goldman Sachs data shows that U.S. stock valuations are currently at relatively "cheap" levels compared to other major markets.

At the same time, John Flood points out that the main dividends of the AI supercycle have not yet been fully released, and the world's largest tech companies are continuing to increase capital investments, expanding the breadth and depth of earnings improvement.

However, Goldman Sachs also highlights a seasonal risk worth noting: since 1974, in 13 midterm election years, the median return of the S&P 500 index from early August to election day has been 0%. This means that even if the earnings fundamentals continue to improve, John Flood's prediction of a new high within the year still carries uncertainty in terms of timing. Goldman Sachs concludes that the earnings outlook provides strong support for the bulls, but whether this can be sustained remains a key variable.