Goldman Sachs hedge fund chief: AI is "driving the market time and again," controversy is escalating, but "do not fight the bull market, nor chase it"

Author: Bao Yilong

Source: Hard AI

Goldman Sachs hedge fund chief emphasizes that the U.S. stock market is still in a bull market, but investors should not blindly chase prices at current high levels.

On September 11, Goldman Sachs hedge fund chief Tony Pasquariello's research report pointed out that the current AI-driven U.S. tech giants and loose monetary and fiscal policies are the two main pillars supporting the bull market. However, record high valuations and weakening short-term capital inflows indicate that the market needs to "consolidate" in the short term.

Tony Pasquariello emphasized the need for investors to remain patient, not to fight against the bull market, but also not to chase prices at these high levels. In the short term, it may be worth considering using low-cost options for hedging, preparing for the next wave of upward trends that may occur in the fourth quarter.

Macroeconomics and Corporate Earnings: Resilience Stronger than Grand Narratives

The report first analyzes the two fundamental factors driving the market: economic growth and corporate earnings.

In terms of economic growth, Goldman Sachs predicts that the U.S. GDP growth rate will slow to 1.3% by 2025, far below recent levels, especially as the labor market is operating in a "stalling state."

However, they expect the economy to return to trend growth levels of 1.8% and 2.1% in 2026 and 2027, respectively.

More importantly, the report emphasizes that a loose financial environment, strong fiscal support, deregulation, and a capital expenditure boom in the artificial intelligence (AI) sector all provide significant upside potential for economic growth.

Regarding corporate earnings, despite uncertainties such as tariffs, Goldman Sachs expects the S&P 500's earnings per share (EPS) to achieve a solid growth of 7% in both this year and next, reaching $262 and $280, respectively.

The report particularly highlights the strong performance of corporate earnings in stark contrast to the pessimistic macro narrative.

In the first half of 2025, in an environment where CEOs generally feel uncertain, the "S&P 493" (the S&P constituents excluding the seven giants) saw a year-on-year earnings growth of 7%, while the earnings growth of the tech seven giants reached an astonishing 28%. This indicates that corporate profitability is a solid foundation supporting the market.

Valuation and Capital Flows: Short-term Alerts Have Been Sounded

Goldman Sachs hedge fund chief pointed out two factors that have issued short-term warning signals for the U.S. stock market: market valuation and capital flows.

From a valuation perspective, the current price-to-earnings ratio of the S&P 500 based on expected earnings for the next 12 months is as high as 22 times, which is at the 96th percentile of the database since 1980.

The report bluntly states that this is a "harsh" valuation, which has only been seen at higher sustained levels during the tech bubble of the late 1990s in its market history.

However, the report also adds that high valuations are more of a "roadmap" for future returns rather than a short-term signal to short the market; the sustained high valuations over the past three years have not prevented the market from rising significantly.

From a capital flow perspective, the technical buying momentum that supported the market during the summer is weakening. The positions of systematic trading funds have become "quite saturated," and stock buybacks will also be limited in the coming months. This means that in the short term, liquidity will no longer be the main driving force of the market.

The report suggests closely monitoring the movements of U.S. retail investors after October, as they have been an important buying force in the market.

Three Key Variables: Federal Reserve, AI, and the Law of Large Numbers

In addition to the aforementioned fundamentals, the report emphasizes three swing factors that could have a significant impact on the market.

First is the Federal Reserve's interest rate cut cycle.

Goldman Sachs' economic team and the interest rate market generally expect that the Federal Reserve will implement about five rate cuts from now until mid-2026. Combining the expectations of rate cuts with the prospects of economic growth recovery, history shows this is extremely favorable for the S&P 500 index. The report's view is:

Do not fight the Federal Reserve, especially in the absence of an economic recession.

Although this positive factor may have largely been priced in by the market, it remains a powerful force that cannot be countered.

Second is the enormous swing factor of AI.

Since the end of 2022, AI has "repeatedly" driven the market forward. The debate about AI is intensifying: one side believes we are still in the early stages of the "second game" of the new world; the other side argues that this is the largest "capital misallocation" since the tech bubble.

The report believes that this narrative swing will continue. However, unless there is an economic recession or an external shock, the cyclical spending impulse of large enterprises on AI technology will remain "very, very strong."

Finally, there is the challenge of the "Law of Large Numbers."

The report acknowledges that U.S. large-cap tech stocks have performed exceptionally well for a long time, with unparalleled capital generation, capital returns, and earnings growth. However, from today's starting point, a realistic question is whether "the most explosive days are already behind us."

The report cites NVIDIA as an example, noting that when its earnings expectations were raised by over 100% for 2023 and 2024, its stock price achieved triple-digit gains. Now, however, its earnings expectations for the next 12 months have risen by about 30% year-to-date, and its stock price has "only" increased by 28% accordingly.

While this is still very impressive, it also reflects the challenges of maintaining high growth at such a large scale