Economic Commentary Year End 2025 and Q1 2026

Hello,

Happy New Year! I hope all is well and that you enjoyed a wonderful holiday season and positive beginning to 2026! 

2025 was a strong year for the markets! The S&P 500 index generated a return of 17.88% in 2025 [1]. The Dow Jones index returned 12.97% [2], and the broader Russell 2000 small-cap index returned 11.3% [3]. Interestingly, international stocks outperformed U.S. stocks for the first time since the late 1980s, with the MSCI All Country World ex-USA international index returning 29.2%. Success in U.S. markets was buoyed by the lowering of the fed funds rate by a total of .75% over the course of the year, finishing at a 3.5% to 3.75% range to close out 2025.  International stocks benefited from a weakening dollar and more attractive valuations. [4] U.S. and international markets both benefitted from the significant spending attributed to AI. The “Magnificent Seven” (a group of seven of the largest and most powerful technology companies in the world, including Apple, Amazon, Alphabet, Meta, Microsoft, Nvidia, and Tesla) now represent 34.4% of the S&P 500 as of January 2026, up from 12.5% in 2016 [5]. The growth in these companies is unprecedented in American history, with each now valued at over $1 trillion. Some economists believe that the high concentration level across these seven companies poses a greater risk across the S&P 500 index should something unforeseen happen to one or more of these companies. A reality that brings some reassurance to a more positive outlook for market performance is that AI spending will hit $2 trillion globally in 2026, with the U.S. leading the way with an estimated $300 billion in spending expectations. [6] After suffering a difficult period that began with 2022’s inflation and rate hikes, bonds regained solid ground, with the Morningstar U.S. Core Bond Index returning 7.12% in 2025. [7]

So, what does this mean for our markets—and our economy—as we navigate 2026? Economists are polarized when it comes to what the Fed will do in 2026 and 2027 with interest rates. Recent inflation data showed CPI holding steady, coming in at 2.7% in December of 2025, suggesting that it is more than likely the Fed will reduce rates in the coming months and potentially end this rate-cutting cycle at 3 to 3.25% on the Fed funds rate. Additionally, the U.S. GDP increased at an annual rate of 4.3% in the 3rd quarter of 2025, much higher than expected. [8] So where is the uncertainty? As I shared in the last economic commentary, it continues to start and end with us, the American consumer. In 2025, the division between the economic “haves” and “have-nots” widened, with sentiment shifting negatively across those in the middle to lower end of the income distribution, who have felt a more significant impact of a softening labor market and higher prices on goods and services, such as food, healthcare, and education. The opposite has transpired with consumers in the top third of income distribution, as the spending from those consumers rose by 4% over the prior year. [9] There also remains the unknown longer-term impact of tariffs. Over the course of the year, several changes transpired on this front, with the most recent being the removal of tariffs on certain beef and other food products, including bananas and coffee. The true impact of these consistently changing variables will be known in time. The hope remains that the increased revenue to the U.S. Treasury will lower our budget deficit and the impact on the consumer will be minimized.

The most likely downside scenarios, which I do not currently expect but am mindful of, include growing geopolitical uncertainties and a weakening consumer. I lean more towards the positives as we begin 2026 and believe the significant AI spend, along with a lowering interest rate environment and strong corporate earnings, will boost our economy this year. That said, as has been the case these past five-plus years, everything remains fluid.  

While so much remains uncertain and tricky when it comes to the economy and markets, I remain optimistic! As we have historically, I believe whatever situation we encounter, we will continue persevering through any adversity!  

I remain steadfast in my belief in long-term planning, preparation, and proper diversification, while aligning your portfolio to your comfort level for risk. Time and time again, it is proven that markets cannot be timed. No one has a crystal ball, and no one knows what major world event will occur next. Our best strategy is to be well-diversified across asset classes and remain optimistic and vigilant during times of fear and panic. Our companies remain some of the best in the world, providing goods and services to every corner of the earth. Our people are some of the brightest and hardest working in the world. I believe in the long-term trajectory of the U.S. and global economy!

Thank you for the opportunity to serve you. My priority remains and always will be to ensure that you continue to receive high-quality guidance and a client service experience second to none. While I continue to reach out via phone and e-mail, please know that I am available via Zoom, FaceTime, any other digital technology you prefer, and in person if you would like to meet. I am happy to meet with you at any one of my offices or at your home or near your home, whatever you prefer and with whatever you are most comfortable.

Wishing you, your family, friends, colleagues, and community continued hope, health, and positivity in the coming weeks, months, and beyond!

Thank you!