Maroun Younes
The foundation of the global equity bull market remains earnings growth. Corporate profitability has continued to expand and forward earnings expectations remain supportive across major markets. Importantly, a significant portion of recent equity appreciation has been accompanied by rising earnings rather than being driven exclusively by multiple expansion. As long as profits continue to compound, equities retain a fundamental anchor. The principal risk would therefore be a transition from slowing earnings growth to outright earnings deterioration; there is little evidence of that at present.
The most important structural engine behind that earnings strength is AI and the increasingly broad physical ecosystem required to support it. This is no longer simply a semiconductor or software story. The build-out encompasses data centres, electrical generation and transmission, cooling systems, networking equipment, industrial infrastructure and the enormous quantities of capital required to finance them. AI investment has therefore become both an important contributor to corporate earnings and a meaningful source of real economic activity.
The complication is inflation. Price pressures remain above central-bank objectives across much of the developed world, while higher energy prices, persistent fiscal deficits and elevated sovereign borrowing requirements all threaten to keep the nominal environment firmer than markets became accustomed to during the post-GFC era. Meanwhile, the sheer scale of AI-related investment is intensifying demand for electricity, infrastructure, equipment and capital.
This makes interest rates the key macroeconomic risk to the bull market. Equities can perform well alongside elevated yields when nominal growth and earnings are sufficiently strong. The danger comes when restrictive rates begin to impair economic activity, weaken profits, increase refinancing stress and widen credit spreads. On that measure, the warning lights are not yet flashing red. US high-yield spreads remain consistent with relatively contained aggregate credit stress, while earnings expectations remain positive.
A second vulnerability is narrow market leadership. Recent index gains have increasingly depended on a relatively small group of large companies, while participation underneath the headline indices has deteriorated. Historically, weakening breadth has often accompanied mature bull markets and major market peaks, making broader participation desirable for the durability of the advance.
The bull market should therefore be regarded as maturing and displaying several late-cycle characteristics. Elevated concentration, greater sensitivity to bond yields, geopolitical and inflation uncertainty, and increasing dispersion between winners and losers all argue for more volatility and a less forgiving investment environment.
The resulting investment regime is best described as constructive, but not indiscriminate. Equities can continue to perform while earnings remain supportive, but investors should expect greater volatility and choppier index-level returns as the cycle matures. In this environment, generating returns is likely to become less about broad market exposure and more about identifying businesses capable of delivering through a mixed macroeconomic backdrop. As the macro picture becomes less clear-cut, investors can no longer rely on economic tailwinds alone and should increasingly favour companies with demonstrable earnings delivery, strong free cash flow generation and robust balance sheets.
We remain constructive on AI, particularly given the absence of any meaningful slowdown in associated activity. However, the market has become far more selective and is demanding greater certainty around funding, profitability and execution. The phase where virtually any AI-related exposure was rewarded appears to have passed. Importantly, the opportunity set extends well beyond semiconductors and software. The AI investment cycle continues to drive demand across power generation, grid infrastructure, industrial equipment, data-centre construction, cooling systems and financing, creating attractive opportunities throughout the broader value chain, often at more reasonable valuations than the most crowded areas of the market.
At the same time, we are finding opportunities in areas that have been categorised as potential AI losers. In some cases, concerns around disruption are justified. In others, the market may be overstating the threat or underestimating the capacity of high-quality businesses to adapt and innovate. Not all business models will be impacted equally, and periods of disruption often create valuation dislocations that can be exploited selectively. Maintaining exposure to AI does not preclude identifying opportunities among businesses that the market may have prematurely written off.
More broadly, we see increasing value in idiosyncratic opportunities where businesses can create shareholder value through company-specific drivers rather than simply benefiting from favourable macroeconomic conditions. Spin-offs, under-researched companies, businesses with strong balance sheets and attractive free cash flow characteristics, and companies benefiting from long-term structural themes can all offer compelling return potential independent of the broader economic cycle. This reinforces the importance of disciplined stock selection as markets become more differentiated.
The critical signposts are now earnings breadth, market breadth, bond yields and credit spreads. So long as profits remain healthy and credit conditions remain orderly, the bull case survives. A deterioration across those indicators would represent a materially more serious warning that the cycle is approaching exhaustion. Until then, the regime remains constructive, but increasingly rewards selectivity, quality and disciplined stock picking over indiscriminate exposure.
By Maroun Younes, portfolio manager
