Goldman Sachs Prefers Equities to Credit as Late-Cycle Risks Emerge

Goldman Sachs is advising investors to favor equities over credit as late-cycle economic risks build, citing the potential for sustained earnings growth to support stock performance. In a note to clients on Wednesday, the investment bank maintained an overweight position on equities for a 12-month horizon while turning tactically neutral on a three-month basis.

Shifting Asset Allocation

Strategist Christian Mueller-Glissmann outlined the firm's updated asset allocation, recommending investors remain modestly pro-risk over the next year. The bank is underweight credit while holding neutral positions on bonds, commodities, and cash.

Goldman Sachs anticipates that a benign macroeconomic backdrop will underpin its strategy. The firm's outlook includes:

• Slowing but still sturdy economic growth
• Low risk of a U.S. recession
• Moderating inflation
• Limited further tightening from central banks

Equities Over Credit

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The preference for stocks is rooted in the expectation that healthy earnings growth will help equities outperform both bonds and credit over the next year. However, Goldman Sachs cautioned that returns are likely to slow as earnings growth and revisions reach their peak.

Conversely, the bank sees headwinds for the credit market. It identified tight spreads, late-cycle releveraging by companies, and increased debt issuance related to AI investments as key challenges for corporate bonds. In this environment, the bank argues equities offer a more attractive risk-reward profile.

Hedging and Near-Term Risks

Despite the positive outlook for stocks, the note highlighted that the bond market has become a "speed limit for equities." Persistent pressure on longer-dated bonds from fiscal concerns, competition for capital from AI investment, and sticky inflation limit the ability of central banks to cut rates, which could cap equity upside.

With bonds providing less of a defensive buffer, Goldman Sachs recommended more style diversification within equity portfolios, including low-volatility and high-dividend-yield stocks. The firm also suggested gold and real assets as potential hedges and flagged near-term volatility risks from interest rates, seasonal market weakness, and geopolitics.