Compared to the Fed rate cut, the upcoming earnings season is more important for US stocks, beware of October panic

Currently, all market attention is focused on the Federal Reserve, but the news that could truly drive the future trend of US stocks will not be announced until next month.

The Federal Reserve began its rate-cutting cycle this Wednesday. US stocks are still at high levels, with the S&P 500 index up about 19% year-to-date, reaching a historic new high during Tuesday's trading.

Analysts believe that the actual rate cut by the Federal Reserve is unlikely to trigger a significant rise in US stocks, as investors are already fully positioned, expecting the Fed to relax its policies and implement a series of rate cuts. This has led investors to believe that interest rates will not rise, instilling confidence in the US economy.

However, there are many concerns about the US stock market. Firstly, the rise in US stocks may have gone too far. The forward P/E ratio of the S&P 500 index is currently at 21.2, the highest level since early 2022. It is well known that early 2022 marked the mid-term peak of the US stock market. Following this, due to the Fed's aggressive rate hikes, the S&P 500 index once fell more than 27% from its peak, hitting a bottom in October of that year.

The current strength of the US stock market reflects a combination of US economic growth, increasing corporate profits, and lower interest rates. This means that everything from economic data to corporate earnings to interest rates must unfold perfectly for the US stock market to maintain its current level.

However, what if things are not so perfect going forward? It is necessary to be cautious as the economic mix can easily become overheated or too cold:

If the US economy is strong enough to boost corporate profits as expected by the market, inflation may rise again, thereby pushing up interest rates and putting pressure on US stocks.

On the other hand, disappointing corporate earnings or concerns about earnings can also pose problems. If the market expects a 3% decline in earnings for the S&P 500 index, this would mean that at the current level, the P/E ratio of the S&P 500 index is 22 times, a valuation multiple that has not been reached in many years. A decline in corporate earnings or downward revisions to earnings forecasts will force the S&P 500 index lower, making the valuation more reasonable.

Downward revisions to corporate earnings forecasts are highly likely

According to data from Trivariate research, the market expects that the total sales growth rate of non-financial companies in the S&P 500 index in 2025 will be slightly above 6%, which is one percentage point higher than the average level of about 5% since 2005. However, given that consumers and businesses are still tightening budgets in the face of high interest rates, achieving above-average growth is unlikely for next year.

The unexpectedly weak economic data in the US over the past few months also supports the possibility of downward revisions to corporate earnings forecasts. According to FactSet data, although recent US economic activity has been disappointing, sales expectations for the S&P 500 index for this year and next year have remained almost unchanged over the past three months.

Trivariate points out, "We believe that the above profit estimates are highly unlikely to remain unrevised downward."

Of course, companies may try to reduce costs as much as possible, but they also face fixed costs such as depreciation and loan interest. A downward revision in revenue forecasts implies a hit to profit margins, and profit forecasts are expected to be impacted

Focus on the Third Quarter Earnings Season

Next month, the US stock market will usher in the earnings season. Although the third-quarter corporate performance may look good, company executives may warn of a dim demand outlook. A stock market adjustment could potentially start from here, causing market panic in October.

Google's parent company Alphabet and Meta will announce their earnings at the end of October, providing more clues. Their comments on advertising spending will reveal whether marketers are preparing for stronger or weaker consumer demand. Apple will announce its third-quarter earnings in early November, which will impact a wider range of consumer electronics, chip manufacturers, and related business chains.

Adam Parker, CEO of Trivariate, stated that the bottom line is, before the October earnings season arrives, there is no reason for the US stock market to rise or fall. By then, we will have a clearer understanding of the growth trajectory and assess how much expectations need to be lowered