View From The Top: What might slow the show?

View from the very top: 2026 should be another positive year for investors. Bull markets rarely die of old age and bubbles seldom burst when underlying fundamentals appear this solid. The next 12 months should see further monetary and fiscal easing. May sees the appointment of a new (likely dovish) Chair of the Federal Reserve. With the US marking 250 years since independence and hosting a major sporting event next summer, expect a consumption boom. Cutting interest rates in the absence of a recession is generally very positive for equities. However, the makings of a bubble are often evident before it pops. Corrections are highly probable, especially with sentiment and valuation levels so elevated. For the show to keep ongoing – at least in the first half of next year – belief in the AI narrative needs to be sustained and corporate earnings must deliver. Expect volatility along the way but lean into it. Stay patient and disciplined and continue to diversify both across and within asset classes.

Asset Allocation:

• Equities: Stock markets are close to all-time highs, with both the S&P 500 and MSCI World Indices on track to deliver their third consecutive year of double-digit returns. This performance, however, elides the fact that gains have been driven by a small number of stocks and that many valuation metrics are elevated versus history. For 2026 to be another year of positive returns, earnings growth needs to continue its current momentum. Recent results have been better than anticipated. Bloomberg consensus forecasts at least 10% earnings growth over the next 12 months. Our strategy remains one of diversification, favouring sectors and regions that have limited correlation to the AI/big tech trade. Expect some rotation and profit-taking to play out. A 10% drawdown may occur sometime in 2026.

• Fixed income/ Credit: The Trump administration wants (and has got) low bond yields. Expect them to fall further in 2026, especially if a likely monetary dove is appointed to replace Jerome Powell as Fed Chair. Real yields on 90% of all public fixed income are equivalent to sub-2% (per Bloomberg), limiting the attraction of this asset class. Similarly, with spreads close to record lows, investors are offered insubstantial compensation for taking on additional risk. We are wary of pockets of private credit and riskier debt, especially with the share of bonds rated BBB or lower with a negative outlook is at its highest level in a decade (per Barclays).

• Currencies: We have not been surprised to see the US Dollar strengthening since its June nadir. The move may be indicative of investors recognising the limitations of implementing some of the President’s more controversial policies. More broadly, currencies tend to mean revert over time, and we struggle to see what may challenge the Dollar near-term as the world’s de facto reserve currency.

• Gold: The 50%+ rise in the gold price in 2025 has been nothing short of remarkable. Several factors explain it, but we note that for the first time in 30 years, Central Banks now own more gold than US Treasuries (according to the IMF). Although there is a natural tendency to take some profit, we continue to see gold as a core allocation within portfolios. It serves as a hedge against political dysfunction, the weaponisation of currencies and potential financial repression.

• Alternative assets: Allocations to this asset class can increasingly serve as a form of replacement for fixed income, offering both portfolio diversification and income-generating characteristics. Hard assets should also exhibit resilience in the face of macroeconomic volatility and political ambiguity. We favour selective investments, particularly in uncorrelated, cashflow-generating strategies.

Returns are up and borrowing costs are down, despite all the bearish prognostications at the start of 2025. Think of this as a vindication for team Trump. Liberation Day seems like a long time ago. Since the equity market’s trough on 8 April, the S&P 500 Index has climbed over 30% and added more than $17tr in value. This move has been helped by strong earnings growth and two interest rate cuts from the Federal Reserve – and the anticipation for more of both.

Bull markets rarely die of old age. Likewise, bubbles seldom burst when underlying fundamentals appear this solid. Money and credit expansion remain robust. Corporate bond demand appears strong and issuance is healthy. At the same time, share buybacks are active, up 15% year-on-year (per Bloomberg).

Project forward into 2026 and it is easy to paint a picture for the US of broad economic growth, loose monetary and fiscal policy plus an ongoing deregulatory impulse. In periods when the Fed cuts without a recession, equity market returns tend to be positive. Think of 1984 and 1995 as particular precedents. Next year has all the makings of a consumption boom, with America celebrating both its 250^th anniversary of independence (with a bombastic President at its helm) at the same time that it hosts the world’s biggest sporting tournament (the football World Cup).

However, the makings of a bubble are often evident before it pops. Alan Greenspan, then Fed Chair, first spoke of “irrational exuberance” in 1996. The stock market continued to rally through until March 2000. Furthermore, the later we get in any cycle, the more volatility tends to increase. This time around not only will increasing passive flows likely exacerbate inefficiencies but herding and gamification will amplify instabilities.

With equity valuations elevated relative to history on almost all metrics, corrections are certainly possible. It would arguably be a shock if there were not a downward move of at least 10% in the next 12 months. News does not need to be bad to trigger a correction – just less good than anticipated. Many investors might prefer a little less exuberance and a little more rationality. Assuming such a reset does occur, it remains important to make a distinction between a move of this nature and the start of a bear market.

We believe that if the late cycle boom is to continue uninterrupted into 2026 then two things need to happen: continued earnings growth and interest rate reductions. Put another way, if big tech and the Federal Reserve don’t deliver, then there could be significant volatility. At the same time, keep an eye on private credit. The collapse of First Brands and Tricolor represented a necessary wake-up call. More loans will go bad, perhaps with unintended consequences.

However investors may be positioned, it is hard to deny that the stock market is becoming one large, interconnected bet on AI. Consider not just the size of NVIDIA (c8% of the S&P 500 Index) but also the correlations between big tech, data centre infrastructure businesses, energy providers and almost any company whose strategy is premised on AI. Just five stocks within the S&P 500 Index have driven approximately 50% of the market’s return year-to-date, per Bloomberg. NVIDIA and the stock market sink and swim together. If the former cracks, then there would be a clear domino effect for the rest of the market.

Jensen Huang, CEO of the world’s largest company, clearly has a vested interest in saying that AI is not a bubble. Nonetheless, it kind of feels like a bubble. In contrast to many current financial commentators, your author lived through the dotcom boom and bust. Even if history does not repeat itself, it can still rhyme. High valuations and rampant speculation are both clear bubble indicators. In a recent interview, Sundar Pichai, Alphabet’s CEO, noted “elements of irrationality” in the market.

Every major tech player feels the need to participate in the AI infrastructure investment boom for fear of being disrupted and missing out. McKinsey estimates that $7tr will be spent on data centre build-out and related power infrastructure between now and 2030. For context, this is equivalent to the combined GDP of Germany and Japan. To-date, the expansion has been funded through internally generated cashflow. Now (as in 1999/2000), vendor finance and debt are becoming more prominent. Bloomberg reports that big tech issued $75bn of Investment Grade debt in the last two months, double the sector’s annual issuance over the past decade.

The question investors need to consider is will AI demand will rise fast enough to justify current financing commitments? Put another way, for the current tech boom to continue, whether the productivity transformations promised by AI will manifest in the next 12 months or next 10 years will be critical. For companies to achieve a 10% return on the AI capex projected by 2030, they will collectively need $650bn on annual AI revenues - equivalent to $400 p.a. from every iPhone user, estimates JPMorgan. The comparable figure today is probably a tenth of this optimistic projection. At some stage, investors may run out of patience. Froth often implies a shake-out.

Big-tech spending in the first half of 2025 was responsible for a larger contribution to US GDP growth than consumption spend, per Bloomberg. Data centre builds and AI investments may be good for the hyperscalers (and their investors), but do not help address employment or inequality issues. Consumers’ confidence is at its lowest in seven months, while outlooks on personal finance are their most cautious since the Great Financial Crisis (data from the US Conference Board and the University of Michigan, respectively). Household debt that is more than 30 days delinquent is at its highest since 2020, says the Federal Reserve Bank of New York. Affordability is becoming a major political issue.

The role that the Federal Reserve plays in steering the economy will therefore be critical. Investors continue to hang on the words of Jerome Powell as closely as they are now analysing Jensen Huang’s speeches. Even if the former’s term as Fed Chair expires in May 2026, there are still four FOMC meetings and interest rate decisions to navigate before then. Expectations for a December rate cut have veered between a 30% and 90% probability in the past month. They currently sit at over 80% (per Bloomberg’s Fed Fund Futures).

The limitations of a data-dependent strategy to rate setting may become more pronounced in the coming months, exacerbated by a divided Federal Open Markets Committee. However, the medium-term direction of travel seems clear. The next FOMC chair will be a likely dove, and pliant Trumpian. All Governments appear locked into a cycle of ongoing monetary and fiscal easing, because it helps win votes. Undertaking structural reforms is much harder. Lower rates would help ease the Government’s debt burden too. 100%+ debt to GDP ratios remain a problem for another day.

Looser policy may result in some of the $7.5tr of cash held in money market funds (per the Federal Reserve Bank of St Louis) to be deployed in 2026. Timing will be crucial. Expect volatility along the way. The importance of remaining patient and disciplined cannot be over-emphasised. Continue to diversify at every opportunity too. Good luck investing in 2026.

Alexander Gunz, Fund Manager