The US equity market delivered its best week in a year on headlines about US–Iran talks and the sharpest drop in oil since 2022. Investors were genuinely positioned for de-escalation in the Middle East, but the breakdown in negotiations has turned sentiment on its head. The S&P 500 risks opening with a gap down, and if retail investors join the selling, expect trouble.

Morgan Stanley argues that strong corporate earnings and the US economy's resilience have allowed the broad index to decline by less than 10% from October peaks despite the Middle East conflict. A drop in price-to-forecasted-earnings of 18% and more than half of Russell 2000 stocks down over 20% suggest that the S&P 500 correction may be over. It could be time to buy.

Dynamics of S&P 500 and forward P/E ratio

Wall Street consensus forecasts show S&P 500 companies' EPS rose by 12.5% in Q1 (January–March). That would mark the sixth consecutive quarter of double-digit growth. The number of issuers raising guidance is expected to climb to the highest levels since 2021.

The market is clearly fatigued by geopolitics and is ready to look at fundamentals. The problem is the Middle East won't relent. The US plans to block the Strait of Hormuz to Iranian tankers, which would widen the oil market deficit by roughly 2m b/d. That will lift Brent and act as a bearish force for the S&P 500.

S&P 500 companies issuing positive earnings guidance

Thus, the US equity market is entering a tug-of-war. Optimism around corporate results will push it up, while pessimism over the negative impact of higher oil on the global economy will push it down. At the same time, heightened volatility has removed a key support — retail buy-the-dip flows.

JP Morgan estimates that the crowd is now selling on rallies rather than buying pullbacks, unlike large players or so-called smart money. This tug-of-war between the two investor cohorts raises the odds of consolidation in the broad index and supports the view that the market is operating in a rope-pulling mode.

The softer-than-expected core inflation print in the US for March — versus Bloomberg consensus — was constructive for the S&P 500. Had core CPI jumped via second-round effects, the Federal Reserve might have reconsidered interest rate hikes.

Technically, the S&P 500 has bounced off the key pivot resistance level of 6,845 on the daily chart. The level of 6,770 acts as support. A break below that level would signal a shift from long to short positioning in the broad equity index.