U.S. companies have just delivered one of their strongest earnings seasons in recent years, yet the stock market has not responded positively. A clear disconnect has emerged between robust corporate profits and weak market performance.
According to Bloomberg, S&P 500 companies reported a 13% increase in fourth-quarter earnings, surpassing expectations by nearly 6 percentage points. However, over the six-week period bookended by earnings reports from JPMorgan Chase & Co. and Walmart Inc., the S&P 500 index declined by 1.7%, matching its worst performance during an earnings season over the past ten quarters.
A "panic trade" sparked by artificial intelligence, global geopolitical risks, and concerns over private credit have collectively dampened market optimism. Investors are rapidly reassessing industries vulnerable to disruption by AI technology, leading to capital outflows from high-valuation sectors into safer assets.
Despite short-term uncertainties causing U.S. stocks to trade sideways, market participants still believe that the underlying strength of corporate fundamentals will ultimately dictate market direction. Once investors gain clarity on the scope and pace of AI's disruptive impact, U.S. stocks are expected to resume their upward trajectory.
Strong earnings performance was met with indifference from the market. The profit fundamentals of U.S. companies in the fourth quarter were exceptionally solid. Data cited by Bloomberg from Jefferies Financial Group Inc. showed not only that earnings growth exceeded expectations, but also that companies expressed optimism about their profit outlook for the coming year. Within the Russell 3000 Index, the ratio of companies raising their earnings guidance to those lowering it reached 4-to-1, a level last seen following the economic recession or after the 2018 tax reforms.
However, these impressive figures did not translate into stock market gains. Part of the reason lies in the elevated market levels at the start of the earnings season. Driven by enthusiasm for AI and expectations of resilient consumer spending, U.S. stocks were already trading near historic highs.
Michael Bailey, Director of Research at Fulton Breakefield Broenniman, suggested that markets may have entered an era of "buy the rumor, sell the news." Over the past three years, the bull market in AI and large-cap tech stocks pushed investor expectations to a fever pitch. This implies that simply reporting earnings that "beat estimates and raise guidance" is now considered the baseline and is no longer sufficient reason for market celebration.
A more significant challenge comes from the multitude of uncertainties recently clouding investor judgment. What was once a one-way upward trend in AI-related trades has evolved into a reassessment of potential winners and losers, and has recently transformed into a so-called "panic trade." The market has begun to rapidly reprice sectors perceived as susceptible to disruption by AI technology.
This concern over AI's disruptive potential erupted on Monday. A bearish report from an entity called Citrini Research, coupled with warnings from Nassim Taleb, triggered a wave of selling. International Business Machines Corp. became a casualty of this sell-off, recording its largest single-day decline in over 25 years.
Beyond valuation pressures from AI, geopolitical and macroeconomic risks are also prompting investors to seek safety. Concerns are widespread regarding a potential U.S. incursion into Iran and its possible impact on global energy markets. Simultaneously, troubles at Blue Owl Capital Inc. have raised doubts about private credit firms. Furthermore, while the U.S. Supreme Court's overturning of certain global tariff policies initially sparked market cheers, subsequent promises of new import taxes quickly dampened that optimism.
Amid these intertwined risks, the S&P 500 has recently entered a period of sideways movement. Sameer Samana, Global Head of Equity and Real Asset Strategy at Wells Fargo Investment Institute, noted that despite solid earnings, uncertainties surrounding AI and private credit have reduced the valuation multiples investors are willing to pay for sectors like software and fintech. While sectors like industrials and energy have seen valuation increases due to their higher certainty, their weighting in the index is insufficient to lift the broader market.
Tom Hancock of GMO added that investors are worried about the future impact of AI, whether it's the capital expenditure from hyperscale tech companies or the potential disruption to software firms. Because these concerns are not yet reflected in current quarterly earnings, a disconnect has emerged between stock returns and present fundamentals.
Nevertheless, long-term confidence in the underlying strength of U.S. corporate fundamentals persists. Samana pointed out that investors need time to assess the scope and pace of AI disruption, but he believes the economy remains robust and markets will eventually reach new highs.
Bailey also maintains an optimistic outlook. He stated that if companies can achieve the strong consensus growth expectations for 2026 and market sentiment stabilizes, U.S. stocks could deliver another impressive performance, with the S&P 500 potentially achieving a 10% to 15% gain this year.
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