The latest earnings reports have brought to the forefront two significant concerns that have been quietly eroding confidence in the US stock market: the potential overvaluation of artificial intelligence investments and the looming threat of a slowdown in consumer spending.
While overall corporate profits continue to grow at a healthy rate and banks' earnings remain robust, these concerns have halted a stock market rally that had been driving major indexes to new highs earlier this year.
Tech Sector and AI: A Reality Check
The Nasdaq 100 Index experienced a 2.6% decline, marking its third consecutive weekly loss. This drop was largely influenced by Alphabet Inc.'s recent earnings report, which has sparked broader worries about the timeline for AI investment returns. Alphabet, the parent company of Google, reported higher-than-expected sales and cloud revenue. However, its capital spending rose to $13.2 billion in Q2, exceeding Wall Street’s estimates, raising questions about the immediate financial benefits of AI technologies.
Ohsung Kwon, an equity and quantitative strategist at Bank of America Corp., encapsulated the market's sentiment: "We are moving from a 'tell me' story on AI to a 'show me' story." Investors are increasingly demanding concrete evidence of AI monetization, which has yet to materialize.
Consumer Spending: Signs of a Slowdown
Updates from companies like Southwest Airlines Co., United Parcel Service Inc. (UPS), and Whirlpool Corp. have intensified concerns about a potential pullback in consumer spending. Southwest Airlines lowered its earnings forecast, reflecting pressures from high interest rates and inflation on consumer travel demand. UPS also trimmed its earnings outlook due to weaker demand for shipping services, indicating broader economic concerns as reduced shipping volumes reflect decreased trade activity. Whirlpool revised its full-year earnings forecast downward due to a decline in big-ticket appliance purchases, influenced by a weakening housing market and cautious consumer spending.
Earnings Reports: A Mixed Bag
Despite the challenges, there are still positive signs in the earnings landscape. Approximately 69% of S&P 500 companies that have reported their results so far have shown higher per-share earnings compared to the previous year, according to Bloomberg Intelligence. Banks have outperformed expectations, and the profit squeeze for industrial companies appears to be easing.
However, the tech sector remains a point of contention. With major players like Microsoft Corp., Meta Platforms Inc., Amazon.com Inc., and Apple Inc. set to release their earnings soon, the market is on edge. These tech giants are heavily invested in AI, and investors are wary about the payoff timeline.
Market Sentiment: A Shift in Perspective
The sentiment has shifted from earlier this year, when optimism about a soft landing for the economy and excitement over AI drove the S&P 500 to 38 record highs. Now, the focus is on tangible results and the sustainability of consumer spending.
Matt Gokhman, senior vice president at Franklin Templeton Investment Solutions, highlighted the current market setup: "The bar is as high as it’s ever been and the headwinds are as strong as they’ve ever been."
Looking Ahead
As earnings season continues, the stakes are high. Investors are closely watching tech bellwethers and consumer-focused companies for any signs of weakness or strength. The recent data showing solid economic growth and easing inflationary pressures have bolstered hopes that the Federal Reserve might cut rates sooner than expected, which could benefit small-cap stocks with higher debt burdens.
However, the concerns about AI's immediate financial impact and consumer spending trends will likely continue to dominate market discussions. As we move forward, it's essential to stay informed and be prepared to navigate the uncertainties that lie ahead.
