Three Goldman Sachs Veterans Judge That the Peak Growth Rate of AI Capital Expenditure Is Near, and the Theme Is Shifting to a Conventional Narrative

In the latest podcast conversation, three Goldman Sachs veterans concluded: the peak growth rate of AI capital expenditure is already close at hand, and the market's pricing of the AI theme has shifted from one-sided optimism that "only considers the upside" to a two-sided game in which "both the good and bad sides must be weighed." At the same time, the actual magnitude of Federal Reserve rate hikes is likely to be lower than what the market is currently pricing in.

In this episode of "The Breaks of the Game," recorded on October 29, Tony Pasquariello, Goldman Sachs' global head of hedge fund coverage, Josh Schiffrin, global head of risk, and Dominic Wilson, senior advisor at Goldman Sachs Research, conducted a systematic review of the evolution of the AI capital expenditure narrative, the Federal Reserve's path, and the wall of macro risks just after the mega-cap tech earnings week.

Dominic Wilson said bluntly that AI has transitioned from a "supercharged theme" to a "more conventional narrative," and that the peak growth rate is "very likely already quite close."

The backdrop to this judgment is that the S&P 500 has essentially moved sideways over the past six months, and the Nasdaq has done the same. Tony Pasquariello noted that this earnings season "looks decent on the surface," but the upward revisions to forward earnings are far smaller than in the previous Q1 and Q2 periods—"enough to hold the line, but not enough to ignite another breakout rally."

Meanwhile, Josh Schiffrin listed an escalation in the Middle East situation as the biggest near-term growth risk and named "long global front-end rates" as the highest-conviction trade for year-end.

01

The AI trade reaching this point is the result of three threads appearing simultaneously. First, market prices already embed very optimistic expectations; second, the peak in investment growth is near; third, the credit demand financing this round of investment is beginning to leave traces in the market. Stacked together, this theme has gone from "just believe" to "you have to do the math"—belief alone is no longer enough; you have to look at financing, earnings, and whether rates can hold it up.

In the program, Dominic Wilson broke it down and noted that since the "bubble-like peak" in AI-related sectors last June, the firm has been concerned that the market's pricing of the entire AI space is already too high—"not that the pricing is absurd, but that it is at a level that requires a fairly optimistic path to support current prices, especially in the infrastructure area."

And the data provided by the mega-cap tech earnings season is no longer one-sided information. Wilson's exact words were: "What you see on the earnings side is a scatter plot. Our own forecasts show that the peak in the investment impulse is probably not far away. Growth will continue, but the peak growth rate is very likely already quite close."

He further listed three specific cracks, including questions about financing and monetization: first, the credit spread pressure brought by the credit financing needs of mega-cap tech companies "comes and goes, but there is indeed some underperformance"; second, there are "still question marks" on the monetization path of mega-cap tech companies; third, performance on the earnings side has diverged rather than being uniformly strong as before. However, Dominic was talking about the peak growth rate, not saying that the absolute scale of capital expenditure will decline.

Wilson's conclusion was: "Once you are facing this kind of situation—the growth rate of the main story peaking, rates rising, credit spreads widening—it feels like a more conventional narrative. It used to be a supercharged theme that lasted about three years. Now the balance of risks is more two-sided, and the story is more conventional."

02

Earnings have propped up the index, but cannot push it higher

Over the past six months, the logic driving U.S. stocks has been a tug-of-war: rates, energy, and to some extent credit have formed headwinds, while corporate earnings have provided support. The result is that the index has seen no net displacement. The problem with this earnings season is not that it is bad, but that it is "just enough": results passed, but the magnitude of upward forecast revisions is not enough for the market to break out again.

This is where the market is most anxious right now. During the Q2 earnings season, investors realized that this year could be one of unusually strong earnings growth, and expectations were revised up sharply. This earnings season has not reproduced that effect. Tony said: "The S&P is basically back at 7000... and the Nasdaq hasn't really moved in any direction over the past six months either."

"For this season, earnings look decent on the surface. The bar is high... I think the most interesting thing is that forward earnings have not been revised up the way they were during the Q1 and Q2 earnings periods."

In his view, full-year earnings growth will ultimately be considerable, possibly approaching 30% or even higher (according to the framing he described, the transcript here is not clear enough; it is recommended to check the audio before publication). But this year's numbers have largely been digested by the market. Tony's summary was: "Good enough to hold the line, but not enough to add fuel for another breakout."

03

The Federal Reserve: The market has priced in too much; actual hikes may stop here

While the AI narrative cools, uncertainty over the rate path forms another main thread. Josh Schiffrin's reading of the Fed's October meeting was dovish overall, and he explicitly believes that the market's current rate-hike pricing is overstated.

Schiffrin's judgment is that the Fed currently believes it has the ability to "act in an orderly manner." Although the inflation situation remains severe, the September policy action is already having an effect, and financial conditions, while not tightened to an extreme level, have tightened somewhat. His base case is: one more hike in December, and perhaps one more after that, but "the ultimate number of hikes is very likely to be less than the market currently expects."

His exact words were: "You now have roughly 60 to 65 basis points of further hikes priced in. I do think they'll hike in December, but that's probably it. Maybe one more. But my base case, as we discussed last month, is one more in December."

Schiffrin also noted that starting in 2027 and 2028, the Fed will reduce the frequency of its policy statements, cutting from eight meetings a year to seven, but he does not think this will have a major impact on the market: "Some meetings are already close together, and not much happens between two meetings, so I don't think this will have a big impact on the market."

Dominic Wilson's judgment on rates is highly consistent with Schiffrin's. He noted that part of the earlier rise in rates was because the 10-year forward OIS rate briefly touched around 5.20%—"that is already very close to the peak of the policy rate cycle over the past 20 years; if you use that as your central point 10 years out, you have already built in a considerable risk premium." He believes that the wobbling of the AI narrative is also pushing yields lower through the "growth concerns" channel.

04

The macro risk wall: the biggest threat comes from the Middle East, and the most underappreciated is falling oil prices

In the ranking of macro risks, an interesting divergence and complementarity emerged among the three interlocutors: Josh Schiffrin listed an escalation in the Middle East as the biggest near-term risk, while Dominic Wilson argued that the tail risk of oil prices "not escalating" is in fact the opportunity most underappreciated by the market right now.

Schiffrin's logic is direct: if the conflict escalates and energy prices rise again, that is the biggest growth threat; conversely, if the situation eases and oil prices fall back, "that is good for assets overall, whether equities or bonds."

Wilson approached it from another angle. He believes the market has already built up a considerable risk premium for Iranian geopolitical risk, and that there is a real risk premium in the oil market. Therefore, "the part where we simply don't follow through, or where the escalation falls short of what the market fears, I think is underappreciated." His specific scenario is: if there is no major escalation within two to three weeks after the midterm elections, "the market will find that this is a better path than it feared, because we have already built in that expectation. Even without any substantive progress, simply the absence of new bad news would be enough."

On the highest-conviction trade into year-end, Schiffrin pointed explicitly to "long global front-end rates"—covering the US, Europe and the UK—on the grounds that major central banks will actually do less than the market has priced, and that any volatility in credit markets would also provide a downward channel for front-end rates.

Tony Pasquariello offered a summary description of the overall market picture: over the past six months, rates, energy and credit at the macro level have been headwinds, while earnings have "held the line." The S&P 500 and Nasdaq have essentially gone nowhere. This earnings season has been "decent on the surface," but forward earnings revisions are far weaker than in Q1 and Q2, "enough to hold the line, but not enough to ignite another breakout." His conclusion is: if Schiffrin and Wilson are right, equities may be able to glide along "a nice glide path" before year-end, but it may be "a different type of stock" leading the way.

This article is from the WeChat public account "Wall Street Insights Max," author: Long Yue, published by 36Kr with authorization.