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On Thursday, Capital Economics published a significant revision to its end-2025 forecast for the S&P 500, citing two main factors for the adjustment.
The firm pointed to Wednesday’s announcement of increased tariffs on US imports, which dampened their outlook for a conducive economic environment that could support a rally in equities.
Additionally, a shift in the narrative surrounding artificial intelligence (AI) has lessened their confidence in big-tech’s ability to propel the index upward.
The economic landscape, which typically sets the stage for stock market growth, has been affected by the recent tariff announcement.
While Capital Economics does not predict a recession, they acknowledge that the risk has increased. They also foresee potential tightening in fiscal policy and only a modest response from the Federal Reserve with a couple of rate cuts by the end of the next year as inflation subsides.
The evolving global landscape of AI, particularly China’s challenge to US dominance in the field, has also contributed to the reassessment of the S&P 500’s trajectory.
The potential for US big-tech firms to monetize AI amidst international competition remains uncertain. While analysts have not yet significantly downgraded their earnings per share (EPS) estimates for US big-tech sectors, the situation is still developing.
Despite these concerns, Capital Economics believes it is premature to declare the deflation of any AI bubble within the US stock market. They note that if a bubble existed, it was primarily in earnings rather than the price paid for them.
The firm also observes that the entire S&P 500 may not be in a bubble when big-tech sectors are excluded from the valuation metrics.
The revised projection now anticipates the S&P 500 to end this year at 5,500, which is approximately 10% below its peak on February 19. This estimate aligns with a price-to-forward twelve months (FTM) EPS ratio of around 18. Looking ahead, Capital Economics forecasts an 11% gain for the index in 2026, reaching 6,000, followed by an 8% increase in 2027 to 6,500.
The firm’s neutral stance on US big-tech no longer justifies expectations of the US stock market outperforming or underperforming relative to other markets due to an AI bubble’s inflation or burst.
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