The three big things you need to know: First, a better longer-term EPS outlook and more resilient operating margin forecasts help explain the recent outperformance of mega cap growth stocks and growth-oriented sectors. Second, Small Caps recently saw a brief/mild outperformance pop on mounting Fed cut optimism, but we remain neutral on Small Caps given elevated valuations and below-average consensus GDP expectations. Third, mixed vibes to end the summer make us question whether the sentiment recovery that has powered US stocks may soon hit a speed bump.
If you’d like to hear more, here another five minutes.
Starting with Takeaway #1: A Better Longer-Term EPS Outlook & More Resilient Operating Margin Forecasts Help Explain the Recent Outperformance of Mega Cap Growth Stocks & Growth-Oriented Sectors
sts have moved up sharply for:
• The forward earnings outlook does help to explain why the biggest market cap names have continued to lead. Consensus EPS growth forecasts for the Mag 7 for 2026 and 2027 have taken some hits since the start of the year, but remain above those of the rest of the S&P 500. When we look at the gap between Mag 7 and S&P 500 ex Mag 7 EPS growth rates, we find that 2026 is expected to show the narrowest Mag 7 advantage, before the gap widens again in Mag 7’s favor in 2027. We think the persistence of this earnings growth advantage has helped power the outperformance of the biggest market cap names in August, especially since the 2026-2027 EPS growth forecast generally hasn’t seen a major upgrade yet.
• Meanwhile, old economy sectors (Energy, Materials, Industrials) and Health Care (which like Industrials and Materials is impacted by tariffs) have seen margin forecasts come down a bit recently for both 2Q25 and 3Q25. Tech is the only sector that has seen operating margin forecasts move up recently for both time periods. Communication Services has seen some pressure for 2Q25 but an improvement for 3Q25. The greater margin resiliency of “growth sectors” relative to value or old economy sectors also helps to explain their outperformance of late, in our view.
Moving on to Takeaway #2: Small Caps Saw a Brief/Mild Outperformance Pop on Mounting Fed Cut Optimism Recently, But We Remain Neutral Given Elevated Valuations & Below-Average Consensus GDP Expectations
in:
• We remain neutral on Small Cap relative to Large Cap on a 6- to 12-month view. Near term, the earnings outlook (at least on paper) and deep net short positions per CFTC’s latest data could keep this trade going short term if expectations for Fed cuts continue to grow.
ch runway here as the Russell:
• Most importantly, Small Caps tend to need an outright recession or a very hot economy (ramping ISM, accelerating jobs growth, above-average GDP) to see sustainable outperformance – conditions that are lacking at the moment.
Moving on to Takeaway #3: Mixed Vibes to End the Summer Make Us Question Whether the Sentiment Recovery That Has Powered US Equities May Soon Hit a Speed Bump
• For Institutional Investors: Overall positioning in US equity futures got a bit more elevated after last week’s update but remains below peak levels. On some calculations, Nasdaq 100 futures positioning is starting to look stretched.
• For Retail Investors: Net bullishness on the AAII survey has deteriorated sharply in August. While this is a bullish longer-term signal for the S&P 500, this deterioration is reminiscent of the move lower seen in this survey in 1Q25.
• For Small Businesses: Optimism in the NFIB survey has moved up slightly, but so has uncertainty. Views on the economy, employment, and capex improved, but the latter two remained quite weak.
and R:
Wrapping up with Our Bottom Line on the Broader US Equity Market: We Are Still Nervous About the Fall
• We continue to think the summer rally in the S&P 500 has generally made sense from a sentiment perspective, but is also starting to run out of room from that angle.
assumptions and data back to:
• We continue to feel neutral, though not bearish on US equities. The earnings dynamics that have supported the recent rise in the S&P 500 have nevertheless exacerbated some risks, as forward P/Es are close to recent peaks for the S&P 500 on a market cap weighted basis, an equal weighted measure of the top 10 market cap names in the index, and the Nasdaq 100.
• Mindful of this valuation pressure, along with the tendency of September and October to be tough months for S&P 500 performance in recent years, and the sudden deterioration in AAII net bullishness, we remain on guard for choppy conditions in the balance of the year.
• In terms of the broader macro, S&P 500 company commentary in 2Q25 reporting season has also kept us in the camp that the real test from tariffs from a US corporate profitability, inflation/cost pressure, and demand perspective is coming up in 3Q/4Q.
That’s all for now. Thanks for listening. And be sure to reach out to your RBC representative with any questions.
