What we are watching going into 2026 | Weekly Market Update

There was a lot going on this week. Nvidia released its numbers on Wednesday which is probably cleanest look at the direction of travel for the AI investment theme. And, now that the US government shut down is over, some of the data fog is starting to lift with the release of September’s (!) jobs numbers. We have come a long way from 2022 lows and it is time to start looking ahead to 2026. In that context I find it helpful to divide issues into things that make me bullish, things that make me bearish and things we are watching. And for this week’s note, here is my current list.

Things that make me bullish:

• This year the US economy suffered a (roughly) 1% shock to growth and inflation from rising tariffs. This is about to turn into a similarly sized pro-growth boost in 2026 from Trump’s tax bill. Assuming the US economy remains strong (and, for what it’s worth September’s job number was pretty solid) then risk assets like equities tend to post positive returns. You will of course see sell-offs and down quarters, but the economic wind is blowing in your favour and it normally makes sense to sail with it. This was my broad outlook at the end of 2024 and I think it has been proven right for 2025.

• The story for the UK is less good: we are likely to take a 1% hit from higher taxes. But the US was able to withstand a similar sized tariff growth shock helped by interest rate cuts from the Fed. My base case is we see similar resilience for the UK in 2026 and lower rates should help the gilts market. I continue to like fixed income markets (and in particular gilts) at today’s yields.

• I also think the 2025 equity diversification story will continue into 2026. China came out with the initial recommendations for its latest 5 year plan this week and they look to be growth and equity market friendly. Japan has bounced since its recent election and Europe is also look to be trending in a better direction than the last decade. One benefit of Trump and his nationalism is to force change onto Europe in particular. While it is true that only about 40 of the roughly 400 recommendations in the Draghi report have – to date – been implemented, 40 is still better than none! And given the general pessimism that anything will actually ever get done in Europe there is upside as we have seen this year) when change does actually happen. Goldman Sachs came out with some 10 year equity return forecasts last week. They were particularly bullish Emerging Markets (and, by implication, China) but it was noticeable to me that even lowly Europe was expected to outperform the US.

Things that make me bearish:

• Whichever way you cut it, equity valuations are high. This is not a problem by itself for 2026 returns (there is effectively zero correlation between today’s valuations and your subsequent 12 month returns). But it does leave the market vulnerable if the optimistic growth story I set out about above starts to crack.

• This is also true for credit markets. Today’s growth optimism looks priced in and spreads remain at or close to all time tights. Meanwhile we have seen cracks start to appear in the (more opaque) private credit markets. And more of the AI investment is now financed via debt and leverage. For both equity and credit markets there doesn’t look to be a huge amount of margin if the data starts to disappoint.

• And, linked to this, government deficits remain high even as the economy is strong. The US deficit is 5.9% of GDP even in an economy with unemployment close to all-time lows. It would be easy to imagine 10% or higher deficits if a recession hit. Government debt markets have, so far, absorbed this extra spending without too many dramas. But a broader revolt from government bond investors against lax fiscal policy (as we saw in the Liz Truss experiment) would push interest rates back up and surely cause problems for risk markets.

Things we are watching

• Obviously, front and centre is the AI investment story. So far, the right call has been to ride this wave higher. For reasons I discussed here, here and here I think there may be room to run for the US technology and AI investment theme. There is also some humility involved in admitting what you don’t know in how the AI story will ultimately play out. As an example of this, Nvidia’s results beat market expectations and they raised guidance (again) for 2026. The next 2 years at least look to be more ór less guaranteed to be strong. Nvidia had revenues of $26bn in 2022. This is projected to be around $500bn in 2027. For this stock at least, share price growth is matching revenue growth which is not normally what you see in a bubble.

• The push-back here is that this revenue growth is not real, or circular, or debt financed. To which I come back to: do you think today’s AI technology will transform businesses and the consumer experience. If the answer is yes (or closer to yes than no) then I think, one way or another, these revenues will come through. I also take heart from the chart below (from the Bank of America fund manager survey). If everyone is worrying about something then it is a good rule of thumb that something else will probably happen.

 

 

• The other biggie is, of course, the economy. And here I think credit markets are a good lens. I would expect to continue to see issues in private credit. There are plenty of over-leveraged private equity businesses out there and not all of them are going to pay back all their debt. But this is different from a broader economic slowdown. I try and keep these notes short and readable and I feel I am about to go over my allotted allowance here. In the next few weeks we will get more of the lagged US shut down data released. A deeper dive into the economy and the linkage to credit and, in particular, private credit, feels like it will be a good topic to address here.

 

Chris Brown, CIO

cbrown@ipscap.com

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