Goldman Sachs: As long as the U.S. economy does not fall into recession, interest rate cuts are positive for U.S. stocks.

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According to Goldman Sachs’ latest analysis, the rate cut cycle initiated by the Federal Reserve will support the U.S. stock market, provided that the U.S. economy can successfully avoid a recession.

According to news from the Chasing Wind Trading Desk, this week, the Federal Reserve implemented its first rate cut since December 2024, driving the S&P 500 up 1% for the week and marking its 27th new high this year. Goldman Sachs economists forecast in their latest report that the Fed will cut rates by two more 25-basis-point reductions this year, and further reduce rates twice in 2026, a path largely in line with current market expectations.

As the market has largely priced in rate cut expectations, Goldman Sachs points out that the boost of interest rates to valuations may weaken. Of the S&P 500’s 14% total return so far this year, earnings growth has contributed 55%, while valuation expansion has contributed 37%. Strategists expect that long-term interest rates will stay around current levels next year, and unless the economic outlook worsens, room for further significant declines is limited.

Goldman Sachs believes that corporate earnings will replace interest rates as the core driver of future U.S. stock market gains. At the same time, despite the stock market repeatedly hitting new highs, investor positions remain generally low, which provides tactical upside room for the market if the macroeconomic environment remains favorable.

Earnings to replace valuations as main driver of market gains

Goldman Sachs chief U.S. equity strategist David J. Kostin stated in a report that as the Fed’s policy path has been largely priced in by the market, the logic driving the stock market is changing. They expect corporate earnings to continue to be the main driving force for stock prices.

According to the report, the S&P 500’s forward price-to-earnings ratio has risen from 21.5 at the beginning of the year to 22.6 currently. Goldman Sachs believes that although this valuation level is relatively high compared to history, considering the current macroeconomic and corporate fundamentals backdrop, its valuation is close to fair value.

Strategists judge that an accommodative Fed policy and forecasted acceleration of economic growth in 2026 will support the market in maintaining its current valuation level, so that earnings growth can drive continued returns in U.S. stocks. Goldman Sachs forecasts that S&P 500 earnings per share (EPS) will grow by 7% in both 2025 and 2026.

From historical experience, a rate cut cycle that avoids recession is positive for the stock market. Reviewing data from the past 40 years, Goldman Sachs found that of the eight rate cut cycles initiated more than six months after the Fed stopped raising rates, half ended with the economy in recession.

But in the other four “non-recession rate-cut cycles” where the economy continued to grow, the S&P 500 saw median returns of 8% and 15% in the six and twelve months following the rate cut, respectively. Sector-wise, Information Technology and Consumer Discretionary performed the best during these periods. In terms of investment styles, high-growth stocks outperformed.

Investor positions remain low, providing tactical upside room

Despite the stock market being at record highs, Goldman Sachs believes that low investor positioning remains the strongest argument supporting short-term stock market upside. The bank’s Sentiment Indicator is currently at -0.3, indicating stock investor positions are still “low.”

The report points out that among the nine components of the sentiment indicator, only one deviates more than one standard deviation from its 12-month average. This uncrowded positioning means that if the macro backdrop remains stable and positive, there is still substantial capital that may flow into the stock market, providing “tactical upside” opportunities.

Based on its market judgment, Goldman Sachs has adjusted its investment recommendations. Strategists continue to recommend holding companies with a high proportion of floating-rate debt, as such companies can see tangible earnings boosts from declines in short-term interest rates. According to estimates, for every 100 basis point reduction in debt cost, these companies’ earnings will increase by more than 5%.

Meanwhile, Goldman Sachs cautions that the recent outperformance of some rate-sensitive stocks may fade. For example, homebuilders and biotechnology sectors have largely benefited from declines in long-term interest rates in their recent rallies. Since Goldman Sachs expects limited room for further declines in long-term rates, these sectors may see growth momentum diminish. Strategists believe that among rate-sensitive stocks, preference should be given to those also sensitive to economic growth prospects, such as small and mid-cap stocks.

Summing up the above analysis, the Goldman Sachs strategist team has updated its forecasts for the S&P 500. They have raised their 3-, 6-, and 12-month target levels to 6,800, 7,000, and 7,200 points, respectively. This means that from the current level, the index still has about 8% upside potential over the next year.

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The above highlights are from Chasing Wind Trading Desk.

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Risk Warning and DisclaimerThe market has risks; investments must be cautious. This article does not constitute personal investment advice, nor does it take into account the special investment objectives, financial situation, or needs of individual users. Users should consider whether any views or conclusions in this article are suitable for their particular situation. Investment is at your own risk. ```