Wall Street’s Fata Morgana Risk

Over the weekend, while editorializing for the nth time in 10 years about equities’ pain threshold for rising bond yields, I cautioned that the current forward multiple for US stocks — a relatively “cheap” 18x — could be hallucinatory.

“The de-rating we’ve seen this year’s a function not of a sharp selloff, but rather of explosive upside to forward earnings,” I wrote, warning that investors comforted by what looks to be a reasonable multiple are incurring “Fata Morgana risk.” Should earnings expectations collapse overnight, for whatever reason, “the ostensible cushion inherent in a [reasonable] multiple would disappear immediately,” I went on.

In his latest, Goldman’s Ben Snider took up the same issue while addressing investor concerns that the US equity market may in an “earnings bubble.”

To reiterate a familiar talking point, we’re currently witnessing the most spectacular earnings growth on record outside of recession rebounds, even when you control for the boost from “other income” at Alphabet and Amazon.

Specifically, trailing (i.e., realized) four-quarter EPS growth was 26% as of Q2, significantly higher than the three-decade average, where “significantly” means nearly quadruple. The figure on the left, below, from Snider’s note, shows you how detached earnings growth now is from the long-term trend.

The figure on the right gives you a sense of the dislocation versus GDP growth. That relationship suggests earnings growth “should” be more like 7% currently, right on the long run mean.

“The exceptional recent strength of earnings has driven an unusual wedge between equity valuation multiples based on near-term earnings and valuations on trend earnings,” Snider said. “Because equity prices have failed to keep pace with surging earnings, near-term valuations show no hint of a bubble [but] even an ‘average’ multiple may be expensive if current earnings are unsustainable.”

That’s precisely the point I made in the article linked here at the outset. In his piece, Snider used the juxtaposition between the CAPE on trailing 10-year earnings and the current forward multiple to illustrate it (to illustrate the point, I mean).

The orange and green annotations are mine. The only two times we’ve seen the sort of disconnect playing out in 2026 were 2021 (during the “stimmy” mania) and 2000 (at the height of the dot-com boom). During the GFC, the situation was reversed.

“The increase in market value of AI companies during the last few years requires an optimistic estimate of the future magnitude of AI-related profits and who will capture them,” Snider said, adding that “the degree to which the US equity market is currently ‘expensive’ depends in large part on the sustainability of recent earnings strength.”

As I put it Sunday, the index “would mechanically re-rate several turns higher” in the event analysts begin to doubt the sustainability of what, on some metrics anyway, is anomalous earnings growth. At that point, “stocks’ ‘cheapness’ would be exposed as a mirage.”