According to financial data insights, the latest concern for the US stock market is surprisingly ironic: profit growth is too strong. As the latest earnings season nears its end, all signs point to the second quarter being one of the most impressive three-month periods in recent memory, with profit growth rates exceeding 30%.
The only lingering question? This fiery momentum may be hard to sustain. Bank of America strategists note that current consensus estimates expect growth to dip below 20% by the first quarter of 2027, then slow to around 15% mid-range for the rest of the year. While still healthy from a historical perspective, markets often struggle to maintain the same level of support when profit growth retreats from elevated levels.
This dynamic could push the stock market into its most vulnerable phase next year. According to BofA data, when earnings per share (EPS) growth is above trend but decelerating, the S&P 500's median 12-month annual return is 6.7%, with a 72.3% probability of gains. In contrast, when EPS growth is above trend and accelerating, the median return jumps to 14%, with an 83.3% chance of positive performance.
Outstanding earnings growth. However, historical data on such profit explosions is limited. The strategist team led by Savita Subramanian at Bank of America expects growth to remain above 20% in the third and fourth quarters, marking four consecutive quarters above that threshold. Such a streak is rare, occurring only 10 times since 1936. Strategists note that recent instances occurred after EPS recessions, like the COVID-19 pandemic and the global financial crisis.
Growth rate isn't the only standout metric from the second quarter earnings season. According to Citadel Securities, the profits of S&P 500 components are also on track to set one of the historical records for the largest beats relative to analyst expectations. Scott Rubner, head of equities and equity derivatives strategy at the firm, points out that companies have also driven the strongest earnings revision trajectory in at least 26 years. Rubner wrote in a Tuesday report, "Importantly, this is not just an AI story." "The macro discussion remains complex, but the message from Corporate America is much simpler: earnings are beating expectations, and by a wide margin."
Data shows that, as of Friday's close, 85.6% of companies beat Wall Street's EPS estimates, the highest proportion since 2021. Conversely, only 10.6% missed, the lowest figure in three decades. The suspense now is: have we reached the peak? Ben Inker, co-head of asset allocation at GMO, says second-quarter earnings were "outstanding." Yet, there is a divergence between the AI sector and the rest of the market. Much of the latter's superior earnings can be attributed to a "cyclical recovery." "If the recovery continues, it could push inflation and interest rates higher; if it stalls, corporate performance relative to upgraded forecasts may disappoint," Inker says.
While Bespoke Investment Group analysis shows companies are raising their growth forecasts at the fastest pace in 25 years, the firm remains cautious and wary of extreme scenarios. Noah Weisberger, chief US equity strategist at BCA Research, believes the rise in analyst expectations and corporate guidance increases the "possibility of localized overheating." However, he adds that earnings growth expectations reaching the low end of the 10%-15% range by 2027 seem achievable.
Nevertheless, with interest rates staying high and a flood of new stock supply as more AI companies go public, peak earnings growth is a dangerous moment. "Given elevated valuations and the IPO wave still needing to be absorbed at current valuation levels, the bond market remains our primary concern for equities," Weisberger says. "At some point, investors will justifiably choose not to pay peak valuations for peak earnings." Investors may be realizing that the bar for corporate performance in coming quarters could be set too high. Jill Carey Hall, a strategist at Bank of America, notes that market reactions to earnings beats and growth have been subdued compared to previous quarters, suggesting "most positive news has already been priced in."
Companies like Western Digital, Datadog Inc., SanDisk, and DaVita Inc. saw their stocks sold off despite beating revenue and profit estimates. Data shows that for companies beating on revenue, earnings, or both, the average one-day excess return was flat; missing estimates triggered more severe sell-offs. Carey Hall says, "Investors have effectively been positioning ahead of time for these positive news and strong earnings." "So, when stocks beat expectations, the rewards are actually not as generous as typically seen."
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