Strong earnings and sharper AI scrutiny

The corporate earnings season is delivering another standout quarter. With a record five consecutive quarters of double-digit earnings growth, the S&P 500 has marked new highs, powered primarily by AI-related capital expenditure, with signs of broadening to financial and industrial sectors. Yet with so much optimism priced in, markets have been turbulent, and investors have increasingly judged results on whether spending is turning into revenue.

The fourth quarter’s reporting season is taking profit margins into new territory. Close to 60% of S&P companies have posted results, with earnings growing roughly 13% year-on-year, around 8% above consensus expectations. Net profit margins have climbed to 13.2%, their highest level since Factset started tracking the data in 2009. Adding to the optimism, forward 12-month price-to-earnings ratios have moved above their long-term averages.

However, even as corporate guidance remains broadly constructive, the risk reward balance has shifted. Market reactions to fourth quarter results are increasingly nuanced between and within sectors. A more discriminating market is rewarding firms that are converting elevated capital spending into higher revenues and margins while punishing those who increase spending without clear evidence of AI monetisation. This shift in tone has been particularly visible among hyperscalers, as well as software and data providers. Despite robust results from six of the ‘Magnificent Seven’ companies that have reported, market reactions have rather been negative, reflecting growth slowdown and margin concerns in 2026.

The recent sell-off in the software sector looks like a kneejerk reaction

The recent sell-off in the software sector looks like a kneejerk reaction. Fears that AI agents will replace traditional software solutions seem overdone in our view. Barriers to entry are falling, but established firms still have a headstart in client data and are already rolling out their own agent-based services. We also expect the computing power required to embed AI features to fuel sustained growth across cloud platforms.

While technology remains the main driver of earnings growth, the market’s performance is broadening into industrials, materials and utilities, as infrastructure investments, electrification and power generation needs for datacentres contribute to earnings growth. A more stable macroeconomic backdrop and the prospect of more monetary easing in the US provide additional tailwinds. We also see robust loan growth and net interest income benefiting financial firms, combined with a rise in capital market activity. This underscores that growth is largely, but not only, driven by AI. As the US economy increasingly bifurcates between wealthy consumers and those struggling on lower incomes, consumer discretionary stocks are seeing profits dip. The healthcare sector has reported flat profits so far, due to rising competition from generic drugs and lower prices. However, the product pipeline, and outlook, remain solid.

Subdued but improving Europe

Europe’s earnings picture is more muted. Almost 25% of corporates have reported, with blended earnings growth – the combination of estimated and reported growth so far – close to 5%. Companies are struggling with the effects of a strong euro and uneven demand. Financials and industrials remain the key drivers of earnings growth and their outlook is improving. The utilities sector is benefiting from increased power demand and policy support. Healthcare and energy earnings have been broadly in line with expectations and the outlook is generally more constructive. The consumer staples and discretionary sectors remain weak, with a cautious outlook in the automobile sector, whereas luxury companies see improving conditions in the US and China.

Market reactions have been broadly constructive, but firms missing estimates are being punished more than those beating expectations are rewarded. Europe lacks the AI-driven growth engines powering the US, but investors are focusing on the cyclical earnings recovery. We expect earnings growth to rise from -3.5 in 2025 to 9% in 2026, slightly below consensus.

Europe lacks the AI-driven growth engines powering the US, but investors are focusing on the cyclical earnings recovery

Switzerland’s earnings season reflects improving economic growth expectations, a robust performance in industrials, specifically electrification and automation, resilient financials and a mixed healthcare picture. With nearly 40% of companies having reported, blended earnings growth is tracking 2.5%, below consensus expectations, which is mostly the result of a strong Swiss franc. While solid dividend yields and a zero-interest rate environment also offer support, we see more limited upside potential in the Swiss market.

related content.

investment insights

Realpolitik, turbulence, and opportunity

January 28, 2026

investment solutions.

learn more

Japan surpasses expectations

In Japan, around 60% of the MSCI index have reported broadly flat third-quarter earnings, which have been better than expected as a weak yen benefits exporters. The technology sector, including AI and semiconductors, as well as financials and healthcare, also beat estimates, while the consumer sector remains under pressure from higher inflation. Earnings continue to be revised upwards, reflecting expectations of fiscal stimulus and corporate reforms. Following the ruling party’s landslide election victory on 8 February, we see more upside in the outlook for Japanese equities. Positive earnings momentum will re-accelerate, thanks to corporate reforms, fiscal stimulus and cyclical tailwinds.

Emerging earnings strength

Against this backdrop, emerging markets continue to offer a more compelling combination of valuation and earnings momentum than developed markets. A weaker US dollar is supportive, but the fundamental story is stronger still: emerging markets are recording average earnings growth of around 16% this quarter, outpacing the average 8% of their developed market counterparts. This strength is expected to continue.

Despite strong inflows, global investors remain structurally underweight in emerging markets

Some emerging market stories stand out. South Korea’s equity index has seen earnings upgrades of around 30% over the last four weeks, driven by demand for memory chips. This is a trend that is unlikely to reverse before 2027. In Taiwan, the logic chip industry is experiencing similar strength, thanks to long-term supply contracts.

In contrast, South Africa’s earnings gains of more than 12% have been led by demand for precious metals. China’s equity market appears to be stabilising after two quarters of zero growth, with margin pressures easing. India faced a challenging environment through the fourth quarter as elevated US tariffs limited companies’ ability to accelerate earnings growth beyond 7%. However, recently reduced trade barriers will provide a boost to sentiment and accelerate growth in the coming quarters.

Crucially, and despite strong inflows, global investors remain structurally underweight in emerging markets. Valuations – at around 8-times earnings for South Korea and 12-times for China – remain attractive relative to developed markets. Total return assumptions remain anchored by earnings growth rather than an expansion in valuations.

Diversification remains key

Overall, this supportive macroeconomic environment and solid fundamentals underpin our constructive view on global equities, despite the recent consolidation driven by AI disruption fears and geopolitical risks.

We maintain our preference for emerging over developed stock markets

We maintain our preference for emerging over developed stock markets. Following a strong performance and elevated valuations in the US and tech sectors, diversification to better-valued regions with an improving earnings outlook remains key. We keep our neutral positioning in developed market equities.

Our preferred sectors remain healthcare, materials and utilities, and we continue to avoid consumer staples. We also see attractive opportunities in quality growth stocks within the tech sector following the recent consolidation.

Finally, we maintain a preference for small and mid-sized companies; these are poised to outperform global large-cap equities thanks to a superior cyclical earnings recovery and easier monetary conditions.