Weekly market commentary

The recent equity pullback has put a central debate back into focus: can solid U.S. corporate earnings growth keep offsetting a higher-for-longer interest rate environment? Equities have remained relatively resilient as bond yields jumped to one-year highs on inflation concerns as markets shifted to price in a potential Federal Reserve rate hike. The latest tech retreat suggests the balance between earnings growth and rates is a fine one – and earnings need to keep delivering.

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Earnings growth vs. rates
Change in 2026 U.S. expected earnings growth and short-term rate path

Tech has proved a corner of the stock market able to outrun persistent pressure stemming from higher interest rates. See the chart. This reflects the strength of the forces driving earnings growth, in our view: strengthening AI investment spending and broader conviction in the AI theme. The chart shows the potential drag from a higher policy rate path on a permanent shift higher (yellow dots) and temporary one (gray dots) that fades after five years. U.S. tech earnings this year have so far outpaced that potential drag – and tech earnings have a higher hurdle to clear given their sensitivity to interest rates from the long-term nature of their earnings growth. See the orange dot. Whether tech shares can keep doing so will depend not only on the durability of earnings momentum, but also whether we see a further acceleration of the AI buildout amid the constraints.

The AI buildout has helped turbocharge U.S. tech sector earnings: growth jumped to a 52% year-over-year pace in Q1, easily beating expectations for a 36% gain at the start of the quarter and almost double the growth of the broader market, according to Blomberg data. The capital needs for the AI buildout are front and center after SpaceX’s record-beating $75 billion initial public offering (IPO) last week, the first of other big AI IPOs building in the pipeline. OpenAI's IPO filing just before SpaceX’s listing highlights sustained investor confidence in the AI theme. Yet a growing wave of equity-over-debt issuance from mega cap tech hyperscalers such as Meta and Google-parent Alphabet raises questions of where will the capital come from. We think market absorption of this supersized equity issuance is a real risk to watch but not on its own a reason to question the AI fundamentals.

Tech in the lead

This comes as U.S. growth has held up thanks to the ongoing AI buildout while inflation has proved sticky. The supply disruptions from the Middle East conflict have caused limited damage so far – just as a potential U.S.-Iran deal seems close again – but have reinforced concerns about inflation, prompting markets to price in a potential Fed rate hike this year compared with a few cuts at the start of the year.

This puts the spotlight on Fed Chair Kevin Warsh's first policy meeting as head of the central bank this week and the communication challenge the Fed faces. We’re closely watching how Warsh frames the balance between growth and inflation and any changes Warsh signals on Fed communication, such as reducing reliance on forward guidance to signal how it might act on policy rates next. That potentially makes the Fed’s policy changes a source of volatility as investors try to infer future moves from fewer clues – and could add to reasons for investors to demand more term premium for holding long-term bonds, keeping upward pressure on long-term yields. Any Warsh comments on AI-linked productivity gains will also be key – especially as productivity gains from AI signal a strong investment backdrop and competition for capital that would also push interest rates higher.

Our bottom line

Tech earnings are offsetting the pressure from higher interest rates. We stay nimble in how we implement the AI theme as the potential ways to express it evolve in different markets and regions.

Market backdrop

The S&P 500 advanced nearly 1% on a rebound in tech shares and hopes of a peace deal between the U.S. and Iran that also sent Brent crude oil prices to a three-month low. SpaceX’s record debut marked the first of several expected AI-related IPOs. U.S. 10-year Treasury yields pulled back to 4.48% as lower oil prices helped ease yields off a one-year high. Following the May CPI report, we think the data leaves very little wiggle room, if any, for the Fed heading into Warsh’s first meeting as chair.

All eyes are on next week’s Fed meeting and how Chair Kevin Warsh frames the outlook for growth, inflation and policy. Investors will be looking to see if the Fed drops its easing bias and for clues about how much forward guidance the Fed intends to provide given Warsh’s questions about its usefulness. Beyond the Fed, China credit data, a Bank of Japan policy meeting plus UK inflation data will help shape the global macro picture.

Read our past weekly market commentaries here.