Market Update

U.S. equity markets delivered a strong, broad-based performance in the first half of 2026, with all major indexes posting solid year-to-date gains through June 30 despite geopolitical shocks, volatile energy prices, and shifts in the AI trade. First-half market returns were driven by strong corporate earnings, increased business investment, and sustained enthusiasm for AI. Analysts expect earnings to continue into 2027 albeit at a slower rate. Technology remained the market leader, but the rally broadened meaningfully into industrials, financials, and small caps—a constructive sign of market health.

Market fundamentals suggest the ongoing bull market remains intact this year, supported by healthy and improving breadth. Economically sensitive sectors, including Technology, Energy, and Industrials, are outperforming defensive areas such as Consumer Staples and Utilities. Forward-looking valuations do not appear excessive, while earnings growth and profit margins for U.S. large-cap stocks remain historically exceptional. The economy is expanding, unemployment is low by historical measures at 4.2% in June, and inflation is near its long-term trend at about 3.5% CPI, though still above the Federal Reserve’s 2% target after a cumulative 24% rise in inflation during the last administration. Bond yields are at levels historically associated with expansion, and very tight credit spreads continue to signal growth rather than recession.

Companies are increasing capital expenditures to build AI capabilities that can improve efficiency and margins. AI-driven demand for chips, data centers, and related infrastructure continues to support revenue growth across multiple industries. CAPEX spending rate of change is expected to cool off in 2027 - peak. A key sign of peak rate of change is Hyperscaler free cash flow turning negative as spending rises. Investors typically react poorly when companies consume all their free cash flow or rely heavily on debt to fund CAPEX. The question is will the extraordinary CAPEX spending result in an adequate return? There are early signs that it is. Recent earnings reports from Microsoft and Amazon are just two examples that it is. Hyperscalers are spending enormous amounts to remain competitive in the global AI race. AI’s adoption should brings faster productivity growth to the economy that supports profit expansion which is at decades record levels. Robust profit margins provide an important buffer for the bull market’s fundamental case. High sales and profit growth also support valuations and employment conditions.

The main market risk is growing conflict in the Middle-East driving up oil prices, and in turn inflation. There must be a resolution to open the Strait. The Strait is critical for world oil supply until other avenues are developed. Current alternative is the Saudi Arabia’s East-West pipeline to the Red Sea operating at capacity. Work-in-process ones include the U.A.E. is urgently building a new pipeline that avoids the Strait, Chevron is evaluating the reopening a damaged Iraq to Syria pipeline, and Israel is considering allowing an old pipeline to be used by Saudi Arabia. Chevron is also in discussion with the Venezuela Government on how to increase investment in its oil producing facilities. The more alternatives developed the less relevant the Strait is in the future.

Global bond yields are rising in response to recent spike in oil, thereby tightening financial conditions ahead of any possible Federal Reserve (Fed) rate hikes this year. The Fed believes current inflation must be lowered towards its 2% target inflation. A breakout in bond yields from current levels, and a rate hike would weigh on economically sensitive equity sectors thereby decreasing inflationary pressure. Current real interest rates at approximately 1% for the Fed funds rate and 1.7% for the 10-year Treasury. Neuberger analysis concludes that real rates must breach 3 – 4% impact growth. There is still room for real rates to rise before damaging US economic growth. The current FRED one-year Treasury Even rate is projected at 2.39%. Inflation is expected to decline by next year.

Oil’s price impact on inflation is not a problem that can be resolved by Monetary policy. Higher rates will just slow economic growth and cause employment conditions soften. Only more supply of oil can lower oi prices or higher prices can cause demand destruction.

Earnings Picture

Consensus estimates from FactSet call for S&P 500 earnings growth of 24.2% this year and revenue growth of 10.7%. Ned Davis Research reports that earnings growth is broadening, with all eleven sectors expected to post positive growth and Technology leading the way. US Midcap and US Smallcap stocks are experiencing strong earnings growth as well. How strong? S&P Capital IQ estimates S&P MidCap 400 earnings will grow 23% in 2026 and 16% in 2027, while S&P SmallCap 600 earnings are expected to rise 28% in 2026 and 21% in 2027.

Both the June’s ISM Services and Manufacturing indexes are in expansion territory, and ISM expansion has historically correlated closely with corporate earnings growth, revenue growth and improving profit margins. Earnings growth is the highest since 2021, revenue growth is beating its ten-year average, and profits margins highest in 15 years!

Consumers continue to spend and, despite negative headlines, and remain in generally healthy financial condition. The wealth effect from the bull market is helping support spending on goods and services, especially among higher-income households. TD Bank notes that the top 20% of households hold about 72% of total wealth, and their spending remains comparatively resilient. It’s the upper part of the “K” economy that drives the US economy’s growth.

Investors are looking for a peak in earnings as an indicator as a peak in the market. Earnings growth rates across capitalization and sectors are projected to decelerate in 2027. This Bull market could still gain given valuations continue to compress and the Fed cuts its key rate. Until then, equities could make new highs into year-end given earnings growth continues to broaden out beyond MAG 7 stocks.

Valuation Snapshot

Equity valuations have compressed as earnings have accelerated. FactSet expects the S&P 500 to report earnings growth above 24% for Q2 and notes that the index’s forward 12-month P/E ratio is 20.1—above its 10-year average of 19.0 but well below last year’s levels. The Invesco equal-weight S&P 500 Index fund trades at about 17 times forward earnings, which is not expensive. Citadel Securities similarly notes that the S&P 500 forward P/E recently fell below its five-year average, a level historically associated with more favorable forward returns. If yields cooperate, the setup remains constructive for equities – presently yields are rising. Fidelity also points out that significant valuation contractions have often preceded strong stock market advances. Lower valuations make it easier for companies to exceed earnings expectations. Profit margins further support valuations, with estimated Q2 margins at 15.7%, the highest recorded by FactSet data since 2009.

The market can continue to advance with elevated valuations if earnings growth supports them. Pullbacks and minor corrections are normal in a bull market, and current valuations do not appear to threaten this cycle unless inflation remains sticky, the Fed enters a tightening cycle and yields significantly rise.

Looking Forward

The market has entered the weakest part of the calendar year, and the midterm election cycle often brings elevated volatility. Escalating conflict in the Iran war and the Midterm elections can create short-term uncertainty, volatility, and possibly a Risk-off trading. Markets have historically recovered and performed well over longer periods based on a study by Capital Group. One-year post-election returns have averaged 15.4%, nearly double the average of other years, as policy clarity improves. As long as fundamentals such as profit margins and earnings growth remain intact, control of Congress matters less in the long term if Government policy supports corporate earnings growth the primary driver of investment returns.

Bespoke’s current Matrix of Economic Indicators shows strong economic momentum. In prior periods when its economic index reached similar levels, equity returns over the following six and twelve months were well above the long-term average. What’s more Bespoke research shows that when markets have positive mid- to high-single-digit year-to-date returns, the seasonal weakness tends to be muted. However, there is fighting in both Straits. Heighten prolong conflict extending into 2027 could undermine the fundamentals heading into year-end.

Lastly, Bull markets that have lasted 1,000 plus days typically last longer. Through June 2nd, the current Bull market is 1,329 days old, the longest ones have lasted 1,800 plus days based on Bespoke Research. Based on current fundamentals, FactSet reports that analysts project the S&P 500 bottom-up price target could rise 21% over the next 12 months.

Risks to Watch

Near-term equity upside may be limited while the Iran conflict remains a risk and oil prices remain vulnerable to spikes. If oil prices and inflation fail to ease—and monetary policy becomes less accommodative—that could trigger a stock market correction before the midterm election.
A breakout in Global long-term yields, driven by oil shock and inflation concerns. Higher yields can pressure equities by tightening financial conditions, slowing growth, and compressing valuation multiples. Rising inflation pressure remains a key risk.

A word of caution: historical patterns may not repeat. Future fundamentals could prove less supportive due to fiscal and monetary policy, geopolitics, regulation, government action, or a higher cost of capital. Investors should expect periodic 5–7% pullbacks in equity indexes, and a 10–15% correction can occur in a normal year. Past performance is no guarantee of future results.