Trade optimism rises, Goldman Sachs lowers U.S. recession expectations and raises S&P 500 target price

Driven by optimistic trade sentiment, Goldman Sachs expects an improvement in the U.S. economic outlook and has raised its earnings and return expectations for the S&P 500, while believing that stocks with strong pricing power and AI-related stocks will be favored.

According to news from the Chase Wind Trading Desk, Goldman Sachs, in a report on May 12, upgraded its U.S. economic outlook, raising its 2025 real GDP growth forecast from 0.5% to 1%, and lowered the probability of a U.S. recession from 45% to 35%.

Furthermore, benefiting from tariff reductions, improved economic growth, and reduced recession risks, Goldman Sachs significantly raised its earnings forecast and return outlook for the S&P 500 index, expecting a 12-month return rate of 11% for the S&P 500 index, with a target of 6,500 points, while also raising its earnings per share expectations for 2025-2026.

Goldman Sachs is particularly optimistic about stocks with strong pricing power and AI-related stocks, as stocks with strong pricing power can maintain profit margins in the face of high input costs, and as the volatility related to tariffs subsides, AI stocks should regain momentum.

Earnings Growth Expectations Significantly Raised, Valuation Expectations Moderately Adjusted

Goldman Sachs now predicts:

The S&P 500 index's 3-month and 12-month return rates are +1% and +11%, respectively, corresponding to index levels of 5,900 points and 6,500 points (previously predicted at 5,700 points and 6,200 points). The return forecast for the end of 2025 (6-month period) is +4%, corresponding to an index level of 6,100 points (previously 5,900 points).

At the same time, Goldman Sachs has raised its earnings forecast for the S&P 500 index over the next two years:

It is expected that earnings per share will reach $262 in 2025 (a year-on-year increase of 7%) and $280 in 2026 (a year-on-year increase of 7%), which is significantly higher than the previous growth expectations (3% and 6%, respectively).

This earnings improvement is mainly based on three factors: better-than-expected performance in the first quarter of 2025, improved U.S. economic growth prospects, and lowered expectations for trade tariffs. It is worth noting that Goldman Sachs expects the effective U.S. tariff rate to increase by 13 percentage points in 2025, lower than the previously expected 15 percentage points.

Goldman Sachs raised the 12-month expected price-to-earnings ratio for the S&P 500 index to 20.4 times (previously 19.5 times). Currently, the price-to-earnings ratio of the S&P 500 index is about 21 times, at the 90th percentile level since 1990, only 5% lower than the peak of 22 times earlier this year. The report states:

Our updated fair value estimate reflects reduced uncertainty, accelerated earnings growth, lower inflation, and a recovery in market confidence in the fundamentals of the largest stocks in the index. However, the market has already priced in an optimistic economic growth outlook, which may limit further upside potential for stock valuations in the coming months.

Goldman Sachs believes that investor positioning remains low, which is the strongest argument supporting further short-term market gains. Last Friday, Goldman Sachs' U.S. stock sentiment indicator showed -1.5 standard deviations, a level that typically indicates above-average return rates for the S&P 500 index over the next 2-8 weeks. Hedge fund net leverage and systematic fund equity exposure remain at particularly low levels compared to recent history

Stocks with Strong Pricing Power Favored, AI Stocks Expected to Regain Momentum

Despite an improved economic growth outlook, Goldman Sachs still advises investors to focus on stocks with strong pricing power, as these companies can maintain profit margins in the face of high input costs. The Goldman Sachs report notes that although the growth outlook has recently improved, the tariff rates for 2025 may still be significantly higher than those for 2024, which will put pressure on profit margins.

At the same time, Goldman Sachs points out that as tariff-related volatility diminishes, AI stocks should regain momentum. Although technology stocks have performed poorly during the market pullback, first-quarter results show that large tech companies continue to report strong earnings (growing 30%, compared to just 9% for the S&P 493), with no signs of a slowdown in AI investment spending.

The report states:

We expect investors to be attracted by the long-term earnings growth prospects of many AI-related stocks, especially in the context of moderate economic growth, particularly considering the currently relatively reasonable valuations. The median stock in Goldman Sachs' AI stock basket has returned -1% so far this year, despite a 4% increase in forward two-year earnings expectations