Tony, head of top traders and hedge fund research at Goldman Sachs, September 26 In a research note released over the weekend, Pasquariello reviewed the week of the Fed's first rate cut in four years, noting that "the Fed's rate cut cycle has officially begun."

Pasquariello highlighted that five Fed rate cuts over the past four decades have not been accompanied by a recession, with the S&P 500 rising about 17% in the 12 months since the first rate cut, on average. However, he also noted that United States GDP growth has remained at 3% during the current rate-cutting cycle, which is a relatively strong level, and that both the Dow Jones Industrial Average and the S&P 500 have returned to record highs. In this context, the current "risk/reward ratio" of the current stock market, especially the tech-heavy Nasdaq 100 index, is "not particularly attractive" and the market has "very limited room for error".

The risk/reward ratio has declined significantly

Goldman Sachs expects United States GDP growth to reach 2.8% this year and fall to 2.3% in 2025 before slowing further to 2% in 2026. Against the backdrop of a doomed slowdown, the current high valuations of the stock market have made the market's margin for error very limited, and capital flows will be a key factor in determining the direction of the market.

That said, Pasquariello believes U.S. equities are in a bull market, but he warned that the risk/reward ratio has fallen significantly, "conditions are very tough, and the market path is going to be volatile." However, he added that the strategy of buying when the market pulls back sharply over the past two years has still worked.

Specifically, the Sharpe ratio, which measures the ratio of excess return to risk taking Ratio), the report shows that the Nasdaq-100 index had a Sharpe ratio of nearly 4.4 during the rebound from the year-ago low to the all-time high in July this year, which means that investors can earn an excess return of 4.4 units for every unit of risk they take relative to the risk-free rate. However, the current Sharpe ratio has dropped to minus 0.4.

As Dominic, senior advisor at Goldman Sachs' Global Market Research Group According to Wilson, current market conditions are similar to those of the transition period from the first half of 2014 to the end of the year and early 2015, as well as some phases in 1996.

Although the market environment is still optimistic, in the next phase, the Sharpe ratio will be significantly lower. Against this backdrop, investing through a select selection of individual stocks, sectors or themes may be the best way to maximize returns.

Investors can adjust their portfolios through the options market

There are two additional factors to pay special attention to: the earnings season and the upcoming United States election.

First, the core earnings season kicks off in two weeks' time, which will have a significant impact on the market, as it will not only show Q3 results – especially for the tech giants, but also provide guidance for Q4. The market is expecting fourth-quarter earnings to grow by 11%, which is a high expectation.

Second, regarding the election, traders do not seem to be paying as close attention to the possible impact of the United States election as expected. This may reflect the market's belief that the most likely outcome is the election of Vice President Harris plus a divided Congress, or an outright Republican victory.

Suffice it to say, there are a number of active variables in current market trading, which complicates the assessment of risk/reward. In order not to make the situation seem more complicated than it really is, Pasquariello simplified it to the following: As the Fed begins to ease monetary policy and the United States economy shows signs of accelerating growth, the most likely direction for the market remains to the upside.

Pasquariello also mentioned that it is completely understandable if investors are hesitant to add a large number of additional positions at the current price. With the S&P 500's implied volatility falling back to pre-August levels, investors can easily adjust their portfolio exposure through the options market. In the context of rising global stock markets, the cost of buying "upside insurance" has once again become quite cheap.

Other issues of concern to investors

United States technology stocks

This week, a rally in semiconductor stocks has pushed the Nasdaq 100 just about 3% off its all-time high. Peter, a TMT (telecommunications, media, technology) expert at Goldman Sachs Callahan noted that in a market environment full of uncertainty, investors have recently reduced their exposure to technology stocks in favor of a more diversified and defensive investment strategy. This was particularly evident in this week's rally in semiconductor stocks, where the market took a more "two-sided" view of the theme of generative AI. It is expected that there will be more discussion and related tensions about "chasing the bulls" in the market in the future.

On the other hand, the United States equity portfolio associated with the growth in electricity demand, despite experiencing turmoil this summer as part of the AI boom, has a broader and deeper story to tell – from electric vehicles to cloud computing, and we are witnessing renewed investor interest in the theme.

Fed

While it is unclear whether the Fed's 50bp cut will become the new standard practice, it is clear that the bar to stop further rate cuts is very high, and the conditions for another 50bp cut are much more relaxed.

Fed officials gave multiple reasons to support their decision to cut rates by 50 basis points at their September meeting, which is particularly important because it shows that there are multiple scenarios that could lead to a more aggressive policy path, which is not fully reflected in the dot plot. Fed Governor Waller's rationale for relying on the PCE tracker in the CPI and PPI reports is the most aggressive, reflecting a narrower understanding of the Fed's mission.

Moreover, it suggests that even strong GDP growth in United States and a more modest explanation for the rise in unemployment will not be enough to deter the Fed from cutting interest rates at a faster pace. In their view, the balance of risk has shifted, and the Fed's goal is to maximize employment, rather than simply pursuing strong economic growth.