Bank of America Forecasts S&P 500 Retreat as AI Spending Strains Corporate Cash Flow

Bank of America analysts have signaled a potential end to the recent equity surge, reaffirming a year-end price target of 7,100 for the S&P 500. This projection suggests a 5% decline from recent closing levels, even after the index recorded its strongest quarterly performance since 2020.

The bearish outlook is driven by what the bank describes as extreme levels of speculation. In a note released Tuesday, BofA warned that high-multiple stocks have gapped up in a manner that historically precedes a valuation snapback. This concern is compounded by a shift in corporate fundamentals; S&P 500 companies are currently generating less free cash flow relative to net income than they have in the past.

Much of this financial strain is attributed to so-called hyperscalers. These massive technology firms have seen their free cash flow plunge as they divert billions toward the infrastructure required for the AI boom. While these investments drive top-line expectations, the immediate effect has been an erosion of earnings quality.

Monetary policy remains a primary headwind. The Federal Reserve is currently grappling with sticky inflation that has persisted above its 2% target for more than five years. BofA analysts suggest the central bank has run out of patience and may implement three rate hikes this year to stabilize prices. While stocks have historically peaked months after an initial tightening move, the current market is more expensive relative to its first rate hike than any previous cycle except for the period between 1999 and 2000.

Market volatility is already beginning to surface globally. South Korea’s Kospi stock index, heavily weighted toward AI-focused firms like Samsung and SK Hynix, recently experienced its fifth-worst daily plunge shortly after hitting a record high. Capital Economics noted that such drastic swings are typically reserved for major bear markets, such as the Asian financial crisis or the dot-com bubble.

Internal market dynamics are also raising alarms at JPMorgan. Although the firm raised its year-end S&P 500 target to 7,800 based on earnings estimates, it warned of a potential flash crash. Analysts there cited crowded momentum positioning and a rapidly increasing equity supply as factors that could make the path higher non-linear.

Not all of Wall Street shares this caution. Yardeni Research has maintained a significantly more aggressive target of 8,250, dismissing comparisons to the late 1990s. According to Yardeni, the current bull market is not fueled by a fear of missing out, but rather by fabulous earnings momentum.