2026 Begins the Second Half of a Very Different Decade

Michael Grant

Many will concur that a shift of investment regime has emerged in the aftermath of Covid, with the irredeemable loss of what was characterized as the “Great Moderation” and the “Triumph of Globalization.” Consistent with this, 2025 has witnessed such far-reaching developments as the imposition of tariffs, a reduced labor supply, intensified policy intervention, and a new technology euphoria.

Fixed income markets illustrate this shift most clearly: “higher for longer” is the new consensus. Few anticipate any return to the world of zero interest rates, while others appreciate that the developed economies are so over-indebted that monetary restriction cannot be sustained for long. With Western populations afflicted by widespread political dissatisfaction, no government has the appetite to arrest the rise of public indebtedness.

New fears around fiscal sustainability have therefore emerged, replacing the prior apprehension over deflation that had overshadowed investor psychology throughout the post-2008 decade. The epic bull market in gold and other precious metals is a tribute to the prominence of such anxieties. “Reflation” has become the fashionable term and policy preference of governments everywhere, although America will continue to lead and shape this transition.

Two consequences follow: fiscal deficits will remain historically high until bond markets revolt, and bonds themselves become less reliable vehicles of investment security. For 2026, both underscore how closely market sentiment will track the ebb and flow of reflation policies. In our view, the Western world is embarking on a long and turbulent journey whose ultimate destination is the rediscovery of fiscal and monetary discipline.

One investment year sets the stage for the next. 2025 will be remembered for its AI theme, which can be properly labelled a mania. Within the corporate world, AI has become the symptomatic fashion, catalyzing a reassessment of corporate values. Its agenda for labor substitution suits a developed world that is entering the years of peak population. But it is better to travel than arrive—the AI thematic will mature in 2026.

Another discovery for investors has been the revisionism of Trump 2.0 and its implications for multi-faceted reflation. Trumpism is business-friendly and unconstrained by procedure, leveraging American influence for strategic and economic benefit. This leads to a multi-polar world of competing national interests, but without the prevalent connotation of American decline. For investors, it implies there are few safe havens outside of the US.

Diversification into the economic periphery is appropriate in a world more open to trade and investment; it fails in a closing one. Yet, many reason as if globalization were still advancing. Diversification remains a valid principle, but the rotation from US growth into cheaper risk assets beyond America only works in an environment of benign US reflation. The latter unlocks the value of cheap assets elsewhere by raising expectations of future nominal activity.

Today’s investment order is therefore a reflection of US economic, financial, and technological supremacy. Led by America, the default policy mix for the remainder of the decade is fiscal expansionism and monetary neutrality. Other countries will follow if they retain any margin to fiscally maneuver. Where overseas equities can outperform, it is a derivative of this reflationary bias—their own economies are too precarious in its absence.

US mega caps epitomize this exceptionalism—seven stocks delivering half of all S&P 500 gains since 2020. The top-heavy nature of American supremacy has become a point of anxiety because investors everywhere are overweight this same high-beta leadership. Paradoxically, this supremacy is testament to how the world has not changed: the premium for these stocks’ comparative security and growth has only risen as the world fragments.

This reflationary bias should lead investors to businesses that can provide inflation protection, especially as radical politics and policies become more plausible. The US dollar is another barometer: abundant liquidity and lower interest rates have prevented its appreciation. It is not hard to understand why ill-defined ideas of “currency debasement” are so prevalent, driving the obsession with gold and the search for alternative stores of value.

The obvious winner has been the risk-on world of US equities. But reflation exhibits diminishing returns—requiring greater reinforcement to sustain the same pace of advance in asset values. If the bull market since 2022 is inextricably linked to a reflation that is both monetary and fiscal, the timing of its culmination or “peak reflation” is the key insight. This fading reflation dynamic will enter center stage from early 2026, most clearly in monetary terms.

The Culmination Question

Several features of today’s regime have led us to forecast material headwinds for the equity bull market in 2026. The first is tedious and originates in historical precedent: by any past standard, the post-Q4 2022 bull move is mature, and its leading edge is very expensive. The commitment to equities appears unusually high and consistent with the consensus view that equities should outperform secure debt in the coming year.

Overvaluation and overcommitment are symptomatic of the central developments of 2025. The first of these concerns is AI euphoria, which has been ubiquitously debated and embraced, yet now enters a more delicate phase. The second concerns the reflationary context that has powered equities since late 2022. Fiscal dominance emerged to prominence under Biden; under Trump, it is pursued energetically and explicitly, as it must be to avoid diminishing returns.

AI: From Youth to Maturity

2025 was the year of AI “mania.” We prefer this less derogatory label over “bubble” because it carries fewer implications of imminent collapse. Instead of a boom-bust trajectory, spending plans on AI infrastructure could unfold broadly according to plan in 2026, albeit without the ahistoric acceleration that characterized the past year. Amid more measured enthusiasm, the scope of capital misallocation will more easily come into focus.

The multiple expansion of the more speculative AI plays probably climaxed in November and signals peak multiple expansion for the larger hyperscalers and other tech giants, albeit in a gradual and unsynchronized manner. Unless leaders like Nvidia and Microsoft can register new highs in January, late 2025 likely represents the high-water mark of aggressive multiple expansion for both the S&P 500 Index and Nasdaq 100 Index.

The rationale is uncontroversial: AI spending is increasingly financed with recourse to debt and equity rather than cash flows. This contrasts with 2025, and credit markets have begun to signal concerns about rising CDS spreads, warnings about circular vendor financing, and aggressive accounting practices. The spending can be sustained, but history suggests the initial beneficiaries of the boom peak long before the capex climax.

There is much more that could be said about AI, but the subject is inexhaustible; we would only repeat what has been said by others. The kernel of our view: much of the incremental spend (+30% in 2026) has been understood and discounted, while tangible ROIs are becoming less predictable even among the leaders. After an extraordinary year for the price momentum factor, clients should be trading—not chasing—the AI thematic.

On the positive side, a maturing AI mania implies that its benefits for innovation and profitability should be more widely distributed. This “broadening” agenda is already seducing investors and promises to be relevant for many years. History suggests that a rotation into the more overlooked (i.e., application) beneficiaries only becomes significant once investors are confronted with evidence that the prior champions have lost their market leadership.

Culmination Answer: Peak Reflation by Spring 2026

Investment bull markets can be narrated through the trajectory of their leading assets—those that capture the popular imagination because they are most adapted to their environment. A bull market embodies the rise of these assets from discovery to a climax of overvaluation, overownership, and eventual culmination. In our view, AI and gold capture the spirit of this era and can be judged as barometers of today’s enthusiasm for risk.

AI and gold constitute an odd couple. The AI theme is emblematic of investor confidence, American technological leadership, and speculative risk. An ascending gold price is associated with disruption, investor anxiety, and suspicion of fiat currencies. The simultaneous bull market in both is unlikely to be accidental and suggests that opinion within the investment community is deeply polarized.

Both benefit naturally from a rise in liquidity associated with a reflationary economic environment, especially one in which weak governments and central banks demonstrate an absence of discipline. The significance of these barometers is that they signal the tension between ever-rising demands for reflation and “debasement fears.” Our thesis is that this tension will become more apparent for financial markets in 2026.

In normal times, the fiscal and monetary lexicon is all that one might master. Given the resilience of US economic activity, the liquidity backdrop should already be cresting. But Donald Trump is the agitation that never rests; he changes the calculus. Under his administration, financial markets and their requirement for reflation have become a public utility whose health is indispensable to consumer and business confidence in a way that is not true elsewhere.

The US midterm elections in autumn will likely return something close to the familiar fiscal deadlock for the remainder of Trump’s term. While the expansionary effects of the One Big Beautiful Bill Act (OBBBA) will persist, there is nothing on the political horizon to amplify them. Trump’s attention will inevitably turn to deregulation and other supply-side reforms, such as bank capital rules. These will support economic activity but do little to boost financial liquidity.

As for monetary reflation, the current phase of decline in US short rates is expected to be exhausted by the end of the first quarter of 2026. For now, pressure on the short end of the yield curve could persist, and we expect the target funds rate at 3.25%–3.50% (currently 3.50%–3.75%) by spring, or even by the end of January, despite the divisions within the Fed. The problem is that a descent below this threshold is virtually discounted.

The favorable impact of the latest phase of monetary accommodation upon the rate-sensitive sectors of the US economy should be visible by spring, removing residual fears of recession and arresting the upward drift in unemployment. US equities have begun to anticipate this, as judged by the incipient revival of a range of domestic cyclicals. The point is that the monetary direction will become less clear after the end-January FOMC meeting.

There is speculation about novel initiatives from a new Fed leadership, such as yield curve control. The possibility of a final reduction in short rates in June 2026 should not be excluded. Still, behavior in office rarely conforms to preconceptions. We doubt that there will be a FOMC majority for lower rates beyond mid-year and are less convinced than some that the Fed will move quickly to implement unorthodox techniques of financial repression.

The implication is that US 10-year Treasury yields will struggle to sustain any move below the 4% threshold; a “flight to quality” would likely be required to bring this about. The risk is a bond market revolt: when investors judge reflation as irresponsible or unsustainable. The warning sign is the yield curve steepening that emerged in late 2025, with upward pressure on long rates rather than downward pressure on short rates.

The best argument for stable US yields is that the rest of the world remains entrenched in “low growth” mode. This is not just about China and Europe: it is a broader phenomenon across the Emerging world. So many factors are holding back the economies of the (non-US) world that America’s expansionism is barely inflationary, encouraging monetary ease amidst the positive momentum of AI and US corporate profitability.

The Path Ahead

Our interpretation suggests the equity bull market will encounter significant headwinds in 2026. More precisely, an interim climax for the US equity benchmarks is expected to occur in the first quarter. As bulls and bears engage, volatility will rise, and a topping process will dominate this timeframe—a pattern many leadership stocks are already exhibiting. Within this, we anticipate material sector rotation and beyond spring, there will be no easy way to hide from rising investment risk.

US recession is still unlikely, nor do we have a good reason to anticipate a financial crisis. The most challenging aspect of the forecast is explaining why the world that has produced American exceptionalism will change in 2026. Meanwhile, the common refrain to diversify away from US supremacy and into value assets outside of America is unlikely to proceed with force. Many non-US currencies are expected to weaken again when American reflation is exhausted.

The fundamental reason why the consensus believes the equity bull market can extend through 2026 rests on the earnings momentum of the US corporate sector, which is forecast to rise by 14%-15% in 2026. This is a robust outcome for a mediocre economic backdrop and symptomatic of its two-tier nature. The picture signaled by credit markets is more one of benign mediocrity. If AI matures as we anticipate, the decisive factor may be US housing.

Can profit growth broaden beyond the mega-cap leaders and notably toward industrial cyclicals and the interest-sensitive sectors? The post-Covid stagnation of housing in most parts of the developed world has a silver lining: it implies these economies have become less cyclical. Where there is no boom in housing construction and pricing, there is no bust in activity and employment. Here again, the Trump administration’s policies¹ will be decisive.

Greater clarity is expected to emerge from these debates by the end of January. Rising volatility does not preclude the S&P 500 rising through the 7000 threshold, but one segment of the investment community will begin to raise liquidity as the market struggles for direction. By February, equities should be ripe for a more material pullback. We do not expect the S&P 500 to move above the 7050–7150 area in this period.

The bulls will not capitulate easily—a resurgence of equity values into March is possible, and the best case could be 7400 for the S&P 500. But any attempt to sustain upward momentum will likely exhaust itself by the end of Q1. Beyond that, market leadership should devolve to more defensive sectors across growth and value. A larger correction (10-20%) should then ensue through summer for all the developed markets, with few places to hide.

One assumption is that institutional and retail investors are entering 2026 with overownership and overconfidence. Once it becomes clear that growth assets in America are in trouble, portfolio repositioning will gain momentum, with multiple mechanisms in place to amplify this shift.² Likely, the new Fed Chair will be tested by this turbulence. In the absence of recession, we have no compelling reason to believe the equity damage will be dramatic (>20%).³

One neglected point that supports an extended topping process: a segment of the investment community has already become bearish about the leading technology stocks in America, no doubt influenced by the agitation here last autumn. Short positions across technology have increased appreciably. Despite—or because of—the talk of an AI bubble, investor sentiment may be inconsistent with an unfolding AI bear market, for now.

All of this implies rising volatility across the equity universe in 2026, with both upside and downside surprises. Investors should proceed with an open mind, exercising more than the usual caution and pragmatism. Potential upside for US benchmarks in 2026 will likely be determined after the midterm elections in autumn. Prior to that, clients should assume a low return range that is entirely appropriate for this lower-returning half of the decade.