Surprises in the market as the norm: time to cash out?

On August 1, the fear index rose above the psychologically important mark of 20 points. Markets collapsed because of Donald Trump's new trade duties, as well as bad data  on US non-farm payrolls - they were more than a quarter worse than expected. It all comes at the height of the US reporting season. It started better than analysts' expectations. Microsoft's results even set a record, with the company's value reaching $4 trillion. The paradox is that "surprises" have long been the rule: companies in the S&P 500 index publish results above consensus almost every quarter, although analysts' forecasts remain understated time after time. Everything is so good that the question arises: when to cash out?

According to Factset, the average share of positive earnings per share (EPS) surprises among S&P 500 companies over the past 5 years is 78% and 75% over the past 10 years. Moreover, even at the height of the global financial crisis  2008 - 2009, the share of positive EPS surprises did not fall below 50%: at the end of the worst - Q4 2008 - it was 53%. 

As of July 25, roughly one-third of companies in the S&P 500 Index have reported for 2Q 2025, and the share of companies with EPS better than expectations was 80%, beating analysts' forecasts by an average of 6.1%. And as of now, Q2 2025 is the best quarter for positive EPS surprises since record Q3 2023, when the proportion of companies with EPS above expectations was 81%. This proportion will certainly still change, but it is already safe to say that once again the companies in the S&P 500 index reported noticeably better than analysts' forecasts.

From a revenue perspective, Q2 2025 looks even better, with 80% of companies currently exceeding analysts' forecasts with an average +2.3% surprise. Over the past 10 years, these showed averages were  64% and 1.4%, respectively.

Yet despite all the optimism of the current reporting, the S&P 500 Index added only a little more than 2%  between July 11 and July 25, albeit continuing to setnew all-time highs along the way. 

Moreover, quotes of some companies that reported better than expected. For example, PayPal, whose shares collapsed after the report and lost all their growth over the past 2 weeks. At the same time, the company's adjusted EPS for Q2 2025 was $1.4, compared to analysts' expectations of $1.3,  revenue of $8.3 billion also beat consensus of $8.08 billion.Investors chose to focus on the negative performance here: on slowing growth in the key area of branded checkout - the core business of payments through branded checkout  branded payments - grew just 5%, up from 6% last quarter. On July 29, Paypal shares plunged by 8.7% and continued to decline the next day. And although the dynamics of PayPal quotations after the publication of good reports is out of the general series, as a whole the companies of the index behave in accordance with common sense: the report is better than expected - positive dynamics of quotations. The report is worse than expected - decrease, and, as a rule, with a greater amplitude. Thus, according to the Factset data, the average growth of quotations of companies that reported better than expected over a four-day period (2 days before reporting, 2 days after) for the last 5 years amounted to +1% (for the second quarter of 2025 so far this growth is +2.1%). For companies that reported worse than expected, the drop is 2.4% (-3% for the current reporting season).

Nevertheless, PayPal's dynamics after the results publication should not be very surprising for a number of reasons. First of all, the reports are not only the results of the previous quarter, but also, more importantly, the comments of the management and its forecasts for the next periods. And the latter is much more important, because in theory the market "looks forward".

As of July 31, 13 of the companies that reported and updated their forecasts announced negative expectations for Q3,  12 are positive. I note, firstly, that the forecasts for Q2 were significantly downgraded earlier due to the general economic situation, and the "quality" of the positive surprise may at least raise questions for some market participants. The S&P 500 Index EPS estimate for Q2 2025 fell by4.1% between the end of March and the end of June. Secondly, no one abolished the rule - "buy on rumors, sell on news", especially after such a rapid rise in the index after the "Liberation Day". Some investors probably preferred to "fix their profits". And the most important thing is that the market looks very expensive at the moment. And August and September are not the strongest months from the point of view of quotations dynamics. In fact, there are not so many growth drivers left at the moment, and economic risks are still high. By many parameters, the rally of the last months is gradually running out of steam, and there is a feeling that the market at least needs a break. But let's go through everything in order.

Even though EPS forecasts for the S&P 500 Index stopped falling after a good start to Q2 reporting, the market is still trading at a fairly high multiple. While on June 30, according to Factset, analysts expected the EPS of the S&P 500 Index to grow 9.1% y/y, the growth rate forecast increased to 9.6% y/y on June 25. For 2026, the growth rate rose less dramatically, from 13.8% y/y to 13.9% y/y over the same time period. 

The index is valued at 22.4x on a 12-month forward P/E basis, which is above the five-year average (19.9x) and the ten-year average (18.4x). At the same time, only two of the nine sectors are now trading cheaper than their five-year averages.

On a trailing P/E basis, the index is also trading well above its historical average. In fact,performance above current levels has only been seen during recessions following the collapse of the dot-com bubble, the Great Recession (the 2008 mortgage crisis) and during the  Covid-19 pandemic, when corporate profits declined much more severely than the index, which also collapsed during those events. According to Factset, the trailing P/E of the S&P 500 Index currently is 27.9x, compared to a five-year average of 25x and a 10-year average of 22.5x.  

And all that would be fine, but there are two of the seasonally weakest months of the year ahead in terms of index performance.  Over the past 15 years, August and September are the only months of the year when the average index growth was negative. What's more, even the median returns of those months over the designated time period were negative. If we take  longer time periods, the situation does not change dramatically;

Statistics is not always right, and the fact of high multiples does not automatically mean that indices will fall. However, for this to be avoided, it is necessary that both current and expected growth rates of profit remain high. And there are still some problems with this, even though analysts expect the EPS growth rate of the S&P 500 index to reach double digits again in 2026. At least in the second half of 2025, as predicted, we will see a further slowdown in EPS growth - only +7.6% y/y in Q3 and +7% y/y in Q4. By comparison, Q1 2025 EPS grew 13% y/y in Q1 and 11.4% y/y in 2024. 

We should also keep in mind that the nominal growth rate of the US economy in the coming years is unlikely to beabove 5%, and this is a pretty close proxy for the growth rate of corporate profits in the long term. Yes, in certain periods of time, profit growth rates can noticeably outpace nominal GDP growth rates (which is what we have seen in the last 2 years), especially as companies in the S&P 500 index only 59% of profits are generated in the US. But this situation cannot continue forever, especially given the recent not-so-strong data on the US macroeconomy. Yes, the country is highly likely to avoid a recession despite a significant increase in uncertainty in 2025, but real GDP growth will remain relatively low for at least the next 3 years, especially in terms of current multiplier levels.

Moreover, the Fed is not yet going to please the markets and stimulate economic growth with a rate cut, despite very serious pressure from President Trump. According to the results of the last meeting held on July 28-29, the rate remained unchanged again - 5 times in a row. The head of the Fed remains true to himself and prefers not to make drastic steps, even though, at least for the moment, fears about the impact of rates on inflation have turned out to beclearly exaggerated. In addition, as practice during the pandemic showed, an overly cautious approach can have a very high cost to the economy. Back then, delaying a rate hike led to a spike in inflation and the need to raise the rate very quickly and substantially. Now it is exactly the opposite: delaying a rate cut could be the factor that pushes the economy into recession, which would, among other things, cause unemployment to rise, and of course lead to a significant drop in equity markets. Anyway, in order to at least stay at current levels, the market clearly needs a cut in interest rates. According to Goldman Sachs, every 50bp cut in real rates leads to a 3% increase in multiples, which can be quite critical when one of the few remaining hopes for faster economic growth is the fiscal stimulus envisioned by the Big Beautiful Law. However, it should be noted that the latter is a double-edged sword, as it is far from certain that its impact will be positive in the long run, given the size of the increase in the budget deficit and the debt/GDP ratio it implies.

In this regard, at least it makes sense to increase the share of cache in your portfolio for a while and get rid of stocks with high beta. For those who are ready to take risks even in case of hedging, it is possible to consider buying the VIX volatility index, especially its seasonality suggests that in 3 - 4 months the index may become noticeably higher than the current levels.

This article was AI-translated and verified by a human editor