"Market Prices Zero 2026 Fed Cuts, But Goldman Still Sees Two—Who’s Right?"

The market's bet on Fed easing has been violently repriced. Just weeks ago, money market participants were pricing in two rate cuts for 2026. As of early April, that expectation has collapsed to zero cuts. This is a stark reversal, driven by data showing the economy is cooling less than feared, invalidating the soft-landing narrative that was priced in earlier.

The shift follows a clear hawkish recalibration. While the Fed itself signaled only a single quarter-point reduction amid renewed inflation concerns, the market's reaction was to completely abandon the idea of easing this year. This creates a major expectation gap with major brokerages. Firms like Goldman Sachs and Barclays still forecast two cuts, with the first not coming until September. The disconnect is now stark: the market is pricing in a "higher for longer" reality, while consensus forecasts remain anchored to a softer path.

The catalyst was a series of data points that suggested the late-2025 cooling was temporary. Resilient GDP growth and a surge in energy-driven inflation, fueled by the Middle East conflict, have given the Fed no justification to lower rates. The result is a market that has reset its forward view, moving from anticipating cuts to focusing on the risk of a "no landing" scenario.

Earnings Season: Modeling the Next Expectation Reset

The market's focus is now shifting from Fed policy to corporate results, framing the upcoming earnings season as a direct test of whether companies can beat a consensus that may already be too high. With the expectation gap on monetary policy now wide open, the setup for earnings is one of elevated scrutiny. The new reality of "higher for longer" rates introduces fresh pressure on valuations, making it harder for firms to deliver the kind of top-line growth or margin expansion that was priced in during the easing cycle.

Morgan Stanley's approach highlights this dynamic. The bank has developed a quantitative framework to identify stocks with the strongest earnings surprise potential, a strategy that has generated positive risk-adjusted returns. Since 2024, its U.S. strategy has delivered a Sharpe ratio of 1.06, while its European counterpart has posted a 0.92. This performance shows a clear market appetite for identifying firms that can close the expectation gap in their quarterly prints.

The bank's top picks, like Western Digital, Citigroup, and RTX, are all rated overweight and rank highly on its earnings surprise composite. This focus on "surprise" implies the market is not fully pricing in the dispersion of results that could emerge in April, especially for rate-sensitive sectors like technology and financials. The strategy's success suggests investors are actively seeking out companies that can deliver beats, betting that the consensus forecast may still be too optimistic given the new macro backdrop.

The bottom line is that earnings season is being modeled as the next major expectation reset. With the Fed's path now clear, the spotlight turns to corporate America to see if it can meet-or exceed-a potentially elevated bar. The market's appetite for earnings-driven volatility, as evidenced by Morgan Stanley's framework, points to a search for winners who can navigate this tougher environment.

Catalysts and Risks: Closing the Gap

The new, hawkish baseline is now in place, but its stability is untested. The coming weeks will serve as a critical reality check, with specific data points and geopolitical developments poised to either validate the market's repricing or force a new expectation reset.

The immediate catalysts are the U.S. labor and manufacturing reports. The ADP Non-Farm Employment Change and the Average Hourly Earnings m/m data due this week will test the resilience of the labor market against the hawkish policy backdrop. Any sign of overheating here could reinforce the "higher for longer" narrative. More broadly, the ISM Manufacturing PMI and ISM Services PMI reports will gauge the health of the broader economy. The market is pricing in a cooling trend; these numbers will show if that cooling is holding or if demand remains stubbornly strong, potentially invalidating the soft-landing thesis that was already fading.

Yet the largest external risk remains geopolitical. As St. Louis Fed President Alberto Musalem noted, the Middle East conflict is a major source of uncertainty, with the potential to shift inflation and growth expectations rapidly. The surge in energy prices from this conflict has already been a key factor in the Fed's pause. Any escalation could quickly force a guidance reset, as supply shocks become harder to look through and inflation pressures persist.

Finally, watch for any shift in Fed communication. Even subtle hints from officials like Musalem-whose recent speech highlighted the risk of a weaker labor market and greater persistence of above-target inflation-could trigger a rapid repricing of assets. The market has already moved from pricing in two cuts to zero. A single dovish comment could reopen that door, while a hawkish tilt would cement the current expectation gap. For now, the setup is one of high sensitivity to news that could close or widen the gap between priced-in reality and economic reality.