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US SECTORS CALL: Technology & Health Care
Momentum returned to the AI trade early last week. Anthropic’s IPO filing on Monday revealed a far more profitable business than investors had expected, and the AI trade rallied. SK Hynix added to it with blockbuster results overnight Tuesday. Then the trade unraveled. Alphabet’s earnings disappointed on Wednesday, and Intel’s report triggered a chip rout on Friday. The Nasdaq fell 2.9% on the day. Intel plunged 28.6%. SanDisk fell 13.5%, AMD 10.9%, and Arm 10.0%. The S&P 500 slipped 0.6% for the week, with its Communication Services sector down 8.5% and Information Technology down 1.8% (table). While those two sectors took hits as investors struggled to sort AI’s winners from its losers, the other nine S&P 500 sectors rose last week, led by Health Care (OW), which rose 3.1%. Here's more on the Information Technology and Health Care sectors: (1) Information Technology. The hyperscalers split into two camps last week. The winning camp included Microsoft and Amazon, which pay for AI out of operating profits. Over the past four quarters, Microsoft’s cloud revenues totaled $229.2 billion and AWS’s $161.4 billion (chart). Azure grew 48% y/y in the latest quarter, and AWS grew 39%. Alphabet is in the second camp. Google Cloud generated $93.3 billion over the same period, but Alphabet’s Q3 revenues of $127.6 billion fell short of the $128.2 billion consensus on a miss in Search, and its free cash flow disappointed. The stock dropped 12.3% on Thursday. Oracle is working its way into the first camp. At its Investor Day on October 28, management guidance included revenue growth of more than 35% a year through fiscal year 2030. The stock rose 10.6%, but has since given back almost all of the gain. Demand is not the problem. The four largest cloud providers now report a combined $2.5 trillion in remaining performance obligations. Microsoft leads with $677 billion, up 73% y/y. Oracle follows at $664 billion, and Amazon’s backlog doubled to $578 billion. Alphabet’s reached $567.7 billion. The constraint is funding and delivering the AI infrastructure buildout necessary to monetize that backlog. Alphabet’s selloff showed how quickly investors punish spending that fails to convert into cash. Semiconductors are where the profits from that AI spending show up. The industry represents 20.4% of the S&P 500’s forward earnings yet just 15.7% of its market cap (chart). Investors are not paying up for semiconductor earnings. The industry index trades at a forward P/E of 13.5, below the S&P 500’s 18.5. Yet analysts expect the industry’s earnings to rise 114.3% this year and 77.9% next year. Apparently, investors doubt the 2027 number. Intel showed why in its Q3 earnings report on Thursday night. Intel management gave guidance for Q4 revenues that was well below the consensus estimate, and the stock plunged 28.6% on Friday. Yet Intel’s data center and AI business boomed last quarter, with revenues up 78% y/y to $7.3 billion, the fastest growth in 15 years. PCs were the problem. Intel blamed PC makers’ cutting inventory as memory prices and shortages pushed up system prices. Intel expects the PC market to shrink 12% this year and another 10% in 2027. The forward profit margin of the Technology Hardware, Storage & Peripherals industry has already slipped to 21.3% from a recent peak of 22.6% (chart). AI’s appetite for memory is leaving none available for other uses. That means pricing power for the memory makers, which are sold out into 2029. We remain constructive on the chip trade, memory included, despite Friday’s rout because AI spending is not slowing. We retain our market weight rating on Information Technology. (2) Health Care. Eli Lilly delivered the week’s best earnings report. Q3 revenues jumped 39% y/y to $24.4 billion, led by a 65% gain in Mounjaro sales. Lilly raised its full-year revenue guidance. Its forward profit margin rose to a record 40.3%. The stock is up 31.2% ytd (chart). Health Care is up 19.4% ytd, while its forward earnings is up 8.7% and forward P/E is up 6.7% (chart). Its forward P/E of 19.9 now exceeds the S&P 500’s 18.5. Acquired In-Process R&D charges have depressed this year’s results. Analysts expect sector earnings to rise 1.2% this year, then rebound 22.4% in 2027 (chart). The Pharmaceuticals industry’s earnings are forecast to fall 7.4% this year before jumping 29.1% in 2027, keeping its forward P/E aloft at 19.8, near the highest since 2002. AI is paying off here too. Moderna is up 618.5% ytd following the success of its AI-designed cancer vaccine. We continue to recommend overweighting the sector.
GLOBAL MARKETS CALL: Government Bond Yields Ease, Gold Falls
Investors sought safety in government bonds last week as the AI selloff rattled stock markets worldwide. Yields eased across most of the major bond markets. The stock market selloff has been hardest on the markets that soared the most this year. October is ending with the US well ahead of the rest of the world. That validates our recent shift to market weight on the Go Global portfolio strategy. Here’s more: I. Stock Market Performance The Stay Home vs Go Global ratios have rebounded sharply since mid-year, driven by US outperformance (chart). They remain below their early 2025 peaks but are heading back up. The US MSCI’s share of the All Country World MSCI’s market cap has risen back to 65.3% (chart). Its share of forward earnings is 54.3%. That 11-point gap is the widest since January 2025. US stocks again are pricing in far more than their share of global earnings. October’s biggest losers were this year’s AI winners. South Korea finished the month at the bottom of the country ETF rankings, down 16.4% in dollars (chart). Taiwan fell 10.4%. Switzerland topped the board with an 8.8% gain, followed by Mexico (4.8%). The US slipped 0.9%, while the All Country World ex-US ETF fell 2.9%. II. Stock Markets Earnings & Valuation Overseas forward earnings momentum is the strongest in over 15 years. Forward earnings for the All Country World ex-US MSCI is up 41.7% y/y, topping its 2021 post-pandemic peak (chart). Forward revenues is up 11.6% y/y. Earnings outpacing revenues by that much implies forward profit margins are widening significantly. Japan leads the major markets in forward earnings growth since early 2009 (chart). Its forward earnings has risen 720.7% in yen. The US is up 524.6%. EM forward earnings has surged this year and is now up 224.7% over the same period. The EMU and the UK have barely doubled. Valuation multiples are falling even as earnings soar (chart). The US MSCI’s forward P/E has dropped to 19.1 from 23.7 a year ago. Japan’s is 14.7, and the EMU’s is 13.9. The UK trades at 11.9. EM trades at 8.9, its lowest since the 2008 financial crisis. III. Fixed Income Government bond yields eased last week in most major markets in response to the AI selloff (chart). The US 10-year Treasury yield has fallen to 4.91% from 5.00% a week earlier. France’s 10-year government bond yield has eased to 4.98%. The UK’s 5.30% and Australia’s 5.14% remain the highest in the group. Japan’s yield has dropped to 2.76%. IV. Gold We've been bullish on the gold price since it jumped to a new record high above $2,000 per ounce in early 2024. We reckoned that buying by the central banks of countries that feared the US and Europe might freeze their forex reserves, as happened to Russia after it invaded Ukraine, which would be bullish for gold. That was true until the war started in the Middle East on February 28, 2026 (chart). We aren't sure why gold hasn't bounced off of its key support levels. Instead, it dropped back below $4,000 last week. The next support is around $3,400. Rising interest rates may explain why gold has been so weak if central bank buying is being swamped by selling from private investors. The People's Bank of China is still buying gold (chart). Chinese investors have lost lots of money in their property and stock markets. Now, they may be bailing out of gold. Is there still a case for gold to reach a price of $10,000 per ounce by the end of the decade? Yes, but the case is getting weaker. If the S&P 500 reaches 10,000 by the end of the decade, investors might rebalance their portfolios by allocating more to gold (chart). V. Focus On China & Brazil China’s MSCI stock price index has fallen to 66.4 in dollars, down from 92.0 at its 2025 high (chart). The property bust and deflation continue to weigh on the market. So does the rapidly aging population. Chinese tech has missed the AI boom entirely (chart). The China Technology ETF (CQQQ) has fallen to 37.78, 65.2% below its February 2021 record high. The Nasdaq-100 ETF (QQQ) is 9.5% below its record high. We continue to favor EM ex-China over China. In Brazil, President Luiz Inácio Lula da Silva won the October 25 runoff with nearly 52% of valid votes after trailing Senator Flávio Bolsonaro in the first round. Investors had positioned for a Bolsonaro win, and Bolsonaro says he will challenge the result in court. The Brazil MSCI stock price index fell to 3,508.86 in local currency, giving back most of its post-first-round gains (chart). It is now up just 1.0% ytd in local currency and 2.2% in dollars.
ECONOMIC WEEK AHEAD: November 2-6
The S&P 500 fell 0.6% last week, and the Nasdaq dropped 2.0%, both posting their third straight week of losses, as disappointing tech earnings revived concerns about AI-related spending. The FOMC held the federal funds rate (FFR) at 3.75%-4.00% on Wednesday in a 10-2 vote, with the dissenters favoring a 25bps hike. We believe the committee needs another 50bps of increases to get back to a neutral FFR that is neither accommodative nor restrictive. October’s employment report (Fri) caps a jam-packed week of labor market data, including JOLTS (Tue), ADP (Wed), and Challenger and jobless claims (Thu). ISM’s M-PMI (Mon) and NM-PMI (Wed) are also due. Six Fed officials are scheduled to speak. Tuesday’s midterm elections should be interesting. Rate decisions from the Reserve Bank of Australia and the Bank of England and earnings reports from Apple, Palantir, AMD, and Qualcomm round out the week's calendar. Here’s more: (1) Employment. October’s employment report is the economic headliner. Payrolls rose 29,000 in September, lowering the three-month average to 50,700 (chart). The unemployment rate rose to 4.2% from 4.1%, while average hourly earnings increased just 0.1% m/m. We expect a stronger payroll gain than the consensus, of approximately 55,000. Challenger’s October layoff announcements (Thu) follow September’s count of 43,300. Technology led September’s announced cuts, at 10,800. Initial unemployment claims (Thu) remain low, with a four-week average of 197,800 for the week ended October 24 (chart). We expect more of the same for both labor market indicators this week. The four-week moving average of ADP's employment measure peaked at 26,000 in late September before easing to 16,750 in early October (chart). September’s monthly ADP report showed a 90,000 gain in private payrolls, nearly double the Bureau of Labor Statistics’ 46,000. September’s JOLTS report (Tue) follows August’s 7.1 million job openings, down from 7.3 million in July. The share of consumers saying jobs are “plentiful” was 26.7% in October, little changed from 27.0% in August (chart). (2) PMIs. ISM’s M-PMI (Mon) follows September’s 54.5 reading, with the prices-paid index at 77.9. The NM-PMI (Wed) was 54.9 (chart). S&P Global’s flash M-PMI edged up to 56.0 in October from September’s 55.9, a 53-month high, while the flash NM-PMI eased to 57.9 from 58.8. Both still point to solid ISM readings. S&P 500 forward earnings rose 38.8% y/y as of October 26, up from 37.2% in September, suggesting more upside for the M-PMI (chart). (3) Earnings. The earnings reporting season continues this week, with 31% of the S&P 500 companies set to report. Apple, Palantir, AMD, Arista Networks, Qualcomm, and Arm headline the list. Analysts’ consensus estimates imply Q3-2026 operating EPS growth for S&P 500 companies of 23.8% y/y, down slightly from 24.1% last week, after Alphabet, Amazon, and Intel missed estimates (chart). Q4 growth estimates held at 30.2%. (4) Global. The Reserve Bank of Australia (Tue) is expected to hike its cash rate target by 25bps for a second straight meeting, to 4.85% from 4.60% (chart). The markets are pricing in 88% odds of that result, so it’s no sure thing. Last week, the Reserve Bank of New Zealand held its official cash rate at 2.75% despite 95% odds of a hike. Both central banks are often seen as bellwethers for the global rate cycle. The Bank of England (Thu) looks set to raise its rate by 25bps to 4.00%, with 98% odds priced into the markets. The markets see a 35% chance of another hike in December. The Eurozone’s flash CPI (Wed) is expected to rise in October from September’s 3.8% y/y, with the core rate holding at 2.5%. Among the major economies, Spain’s headline rate was the highest at 5.0% in September and Germany’s the lowest at 3.3% (chart).
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