Julius Baer Weekly Review: US Midterms, Wall Street Earnings, and AI Pricing War

Economists at Julius Baer Wealth Management have published their weekly economic review, highlighting the Democrats' leading position in prediction markets ahead of the midterms, Wall Street's upcoming earnings season with projected profit growth of nearly 30%, and the fierce pricing war in artificial intelligence putting business models to the test.

Democrats Lead Prediction Markets Ahead of Midterms

Prediction markets currently price in a Democratic majority in the House of Representatives as the clear baseline scenario, while also giving Democrats an advantage in the Senate. A split government remains favorable for duration and risk assets.

According to Alfonso Borges from Julius Baer's fixed income research, since the last update on the midterms in June, odds have shifted further in favor of the Democrats. Prediction markets price a probability of over 90% for a change in control of the House, and give Democrats roughly a two-thirds chance of taking the Senate as well.

Republicans' unpopularity, despite strong macroeconomic headlines, is explained by concerns over the cost of living. Stock markets are at historical highs and unemployment remains low. However, inflation rose to 3.4%, gasoline prices increased by 40% since the 2024 elections, and mortgage rates reached 7.51% last week, compared to 6.12% before the start of the conflict involving Iran.

A Democratic-controlled House will halt additional fiscal and regulatory legislation based solely on partisan support, although the executive branch will retain broad powers over trade, immigration, and foreign policy through executive orders. The Senate's importance stems primarily from confirming appointments, most notably at the Federal Reserve, where former Chair Powell's seat on the Board of Governors becomes vacant in January 2028.

Inflation, Fuel Prices, and Federal Reserve Policy

US inflation is expected to rise again in September, driven primarily by higher fuel prices, while core price pressures remain contained. Cooling labor market conditions and anchored inflation expectations support the assessment that secondary round effects remain limited. Julius Baer expects the Fed to leave interest rates unchanged in October and deliver a final rate hike in December, benefiting from moderating inflation trends throughout 2027.

US inflation continues to be largely driven by energy and fuel prices. Consequently, the sharp rise in gasoline and diesel prices in September is expected to push the inflation rate higher again, with the headline figure approaching 4%. At the same time, surveys among small businesses, such as the National Federation of Independent Business (NFIB) survey, indicate that the labor market has cooled and job openings decreased in September.

Wall Street Earnings and the AI Pricing War

The third-quarter earnings season kicks off against a backdrop of strong economic fundamentals, with profit growth approaching 30% and initial reports providing encouraging signs. Artificial intelligence investments and higher energy prices remain key drivers, while earnings continue to expand across the broader market.

The consensus expects S&P 500 companies' earnings to grow by 29.6% year-over-year, marking the third consecutive quarter of growth exceeding 25%. Technology and energy remain the primary engines, supported by ongoing spending on artificial intelligence (AI) infrastructure and higher oil prices. However, profit growth is expanding beyond the largest AI beneficiaries, with the median S&P 500 company expected to post growth of about 9%.

Meanwhile, reports indicating that OpenAI's annualized revenue run rate is lower than previously cited figures have put pressure on AI-exposed stocks. As AI labs lower prices and companies strive for cost efficiency, pricing power is under scrutiny. Nevertheless, demand remains robust, as does spending on AI infrastructure building. Julius Baer remains positive on the cloud computing and artificial intelligence sector.