Investors are about to find out if the mega-cap tech rally is over

• Mega-cap tech stocks have a lot to prove with upcoming second-quarter earnings results.
• The long-term outperformance of mega-cap tech relative to small-cap stocks is being tested by slowing revenue growth.

The mega-cap tech rally hit a wall in recent weeks as investors turned their attention to small-cap stocks in a historic way.

Since the start of July, the Russell 2000 index is up about 7%, compared to a 1% gain for the S&P 500.

That's in stark contrast to the dominance of mega-cap tech stocks relative to small-cap stocks over the past one-, three-, five-, and ten-years.

The only chance mega-cap tech companies have in reversing July's sharp underperformance is by reminding investors why they have significantly outperformed in the long-term: strong earnings growth.

Goldman Sachs strategist David Kostin said in a note on Friday that second-quarter earnings results will reveal whether the 21% year-to-date rally in mega-cap tech stocks, as measured by the Vanguard Mega Cap Growth ETF, can resume or not.

"The recent trend of small-cap outperformance will likely persist unless the macro environment changes substantially, or the mega-cap Tech stocks report 2Q results that causes analysts to raise revenue forecasts for the next several quarters," Kostin said.

Investors will get their first taste of mega-cap tech earnings on Tuesday, with Tesla and Alphabet set to release their second-quarter results after the market close. That's followed by earnings results from Microsoft on July 30, Meta Platforms on July 31, and Apple and Amazon on August 1.

A boost in future earnings growth guidance is key because while growth is decelerating for mega-cap tech stocks, it's accelerating for everyone else.

Consensus estimates of revenue growth for Amazon, Alphabet, Meta Platforms, Microsoft, and Nvidia is expected to slow from 17% year-over-year in the second-quarter, to 14% by the fourth-quarter, according to the note.

This trend is also playing out on an annual basis.

"In contrast, sales growth for the median S&P 500 stock will be accelerating, albeit from a slower pace," Kostin said.

Analysts' revenue growth revisions were the key indicator to watch in timing the end of the dot-com bubble in 2000, according to Kostin. It could again be a useful metric for investors to follow this time around amid near-endless hype for AI/

"In the late 1990s DotCom boom, sales revisions was the key variable to watch because it ultimately signaled when momentum reversal would be sustained," Kostin said.

"S&P 500 outperformance will resume if Big Tech beats and raises its forward sales guidance. If not, then small caps will continue to outperform," Kostin added.

Fueling the recent rally in small-cap stocks include accelerating earnings growth, decelerating inflation, imminent interest rate cuts, and elevated probabilities for a Trump presidency in 2025.