Record earnings beats fail to lift stocks amid AI spending fears

A paradox has emerged in earnings season: corporate profits are performing at levels that would typically excite investors, yet stock prices are responding with indifference or decline. About 85% of S&P 500 companies that have reported earnings so far have beaten profit estimates, the highest proportion in five years according to Bloomberg Intelligence data. Analysts had projected a 23% surge in S&P 500 earnings for the second quarter, among the best readings on record, and European profits were similarly expected to show the strongest growth in three years.

Yet the market is not rewarding these results. The median stock has been unable to outperform the S&P 500 benchmark on the day after reporting beats. In Europe, the pattern is even starker: shares of companies delivering only modestly better-than-expected earnings have gone unrewarded on average, according to Morgan Stanley figures, while those missing estimates have underperformed by an above-average 4.7 percentage points. Specific examples illustrate the pattern: Texas Instruments shares fell 3.1% even as the US chipmaker issued a better-than-expected outlook, and Nokia declined 5.1% as investors were disappointed the Finnish company failed to raise its growth outlook for the IP and optical network segments.

Market participants attribute the muted reaction to the fact that a lot of the good news was already priced in before the reporting period began. The S&P 500 and European benchmark indexes both scaled records shortly before earnings season started. Since the major US banks kicked off the earnings season last week, the S&P 500 has declined about 1.4%, while the Stoxx Europe 600 Index is practically unchanged. As Karen Georges, an equity fund manager at Ecofi in Paris, observed: "The market reaction on beats has been somewhat muted because the bar has been set so high since the stellar first-quarter earnings season."

Underlying the market's caution are two major concerns. First, investors are getting nervous about hundreds of billions of dollars being spent on artificial intelligence development, questioning whether such massive capital deployment will generate sufficient returns. Second, renewed tensions between the US and Iran have sent oil prices surging again, stirring worries about inflation and the outlook for economic growth. With these headwinds in place, the market is moving toward the next test: results from some of the biggest technology firms, including Microsoft, Meta Platforms, and Apple.

Despite beating earnings expectations at the highest rate in five years, the stock market has struggled to reward companies with strong results. The disconnect reflects a market dynamic where good news has been largely priced in ahead of time—benchmark indexes in both the US and Europe reached records shortly before the reporting period began, leaving little room for further upside. Analysts had projected a 23% surge in S&P 500 earnings for the second quarter, among the best readings on record, yet investors appear skeptical that this performance will translate into sustainable growth.

The muted market reaction is driven by forward-looking concerns that overshadow historical results. Chief among these is uncertainty surrounding the scale and return on investment for artificial intelligence spending, with investors nervous about hundreds of billions being deployed for AI development. Additionally, geopolitical tensions between the US and Iran have reignited inflation worries and clouded the economic growth outlook. In this environment, even modest misses are being punished—European companies falling slightly short of expectations have underperformed by 4.7 percentage points on average—suggesting the market is scrutinizing forward guidance and strategic positioning more carefully than raw profit beats.

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