US midterms could accelerate stock market rotation: Goldman Sachs

The upcoming US midterms may prompt a further shift in stock markets, according to Goldman Sachs. Analyst Lou Miller, Global Head of Custom Basket Trading, suggests the healthcare sector could serve as a defensive investment during this period. Miller disclosed that investors have already started gravitating towards defensive positions ahead of the midterm elections, which are set in the second half of 2026. He shared that the beta-adjusted net exposure in Goldman Sachs' prime book has fallen to historically low levels.

Miller pointed out the significant decline in AI-related investments, with data center stocks falling 36% from their highs, memory stocks down 42%, optical networking stocks 46%, and NeoCloud stocks 57%. Despite this, he sees a silver lining in the fact that the bar for market surprises has become much lower, and there are positive catalysts ahead. He noted that the data center trade's valuation is now about half of what it was in June, indicating healthier levels and presenting opportunities for positive surprises.

Miller identified healthcare as a potential beneficiary of the next phase of AI adoption. He believes healthcare could be among the few sectors experiencing accelerating earnings growth next year, thanks to the increasing adoption of AI in medical tools and diagnostics. This sector is also seen as uncorrelated to AI and a potential defensive investment.

However, Miller cautioned against traditional defensive sectors like consumer staples, stating that their elevated valuations have reduced their attractiveness. Instead, he advises investors to focus on companies with strong balance sheets, quality earnings, and healthy free cash flows. Miller also recommended the S&P 500, excluding AI, as his preferred investment strategy, citing attractive valuations and earnings growth prospects.

Looking ahead, Miller identified employment, inflation, corporate earnings, and the US Federal Reserve's December 9 policy decision as key market drivers. As for the year-end outlook for US stock markets, he expressed cautious optimism, anticipating a modest rally known as a "relaxed Santa Rally."