Market Trends | July edition

Financial markets began the second half of 2026 with a sense of relief and optimism, buttressed by hopes for an end to hostilities between the U.S. and Iran.
 
The “risk on” sentiment in Q2 — evidenced by a strong start to what’s expected to be a record year for mega IPOs — helped the S&P 500 post its best quarter since 2020.¹
 
But the first full week of July brought a reminder of the tenuous nature of the ceasefire. Bond yields rose and the CBOE Market Volatility Index jumped² as renewed Middle East hostilities raised doubts about the recovery of flows through the Strait of Hormuz, which had returned to 63% of pre-war levels in late June.³

While there has been volatility in oil prices, we expect prices to return to pre-war levels over time. If that proves accurate, inflationary pressures should continue to ease, providing a bit of a tailwind to the global economy in the second half of 2026.

Markets largely priced out the worst-case stagflation scenario in Q2 and the U.S. economy has been resilient amid the geopolitical uncertainty. The labor market has sharply rebounded from largely flat job gains prior to March, and economic growth is forecasted to maintain momentum in 2026.⁴

With everything that’s happened so far this year, arguably the biggest story in financial markets is how little has changed: The AI investment cycle remains the main driver of asset returns.

A dominant feature of AI trade is that it has been driven by earnings being exceptional, not necessarily valuation multiples expanding.

U.S. corporate earnings grew 29% year-over-year in Q1⁵ and estimates for second-quarter results have steadily increased, which historically has only happened in very strong earnings environments.⁶

However, there continues to be a stark difference between the earnings profiles of AI-related companies and non AI-related companies.⁷

The longer the duration of this AI trade and the more years we string together plus-20% returns, some investors may worry this trade is long in the tooth and destined to revert.

But we believe we’re still in the early innings of the AI buildout and expect enterprise AI adoption will continue to progress, driving sustained earnings growth for companies in the AI stack.

Notably, the median company is only spending about $11 a month per employee on AI-related spend, which we believe is going to continue to move higher over time.

Markets have rapidly repriced the Fed’s path from expected rate cuts at the start of 2026 to currently pricing in hikes by year-end.⁸ While futures price a meaningful probability that the Fed’s next move is a hike, we expect a prolonged pause as the more likely outcome.

We've now heard a handful of comments from new Fed chair Kevin Warsh, who came out a bit more hawkish than some investors were expecting. We believe Warsh’s opening comments as Fed Chair helped him establish credibility, prompting an unwind of the de-dollarization trade that had taken hold since Trump’s so-called Liberation Day tariffs were announced in April 2025.

The June FOMC meeting, particularly, provides a potential view into what Chair Warsh may be focused on going forward. The Fed chair announced the creation of five Task Forces to reevaluate central bank operations: Communications, the Balance Sheet, Data Sources, Productivity and Jobs, and the Inflation Framework.

The creation of the task forces may imply some changes to functions in the central bank, but we will likely won’t hear any decisions until later this year.

Markets may have shifted, but one trend remained clear in the first half of 2026: investors continued to use ETFs as flexible building blocks to express evolving market views and manage portfolios with precision.

As sentiment evolved throughout the volatility, investors allocated a record $1 trillion into ETFs in the first six months of 2026. As detailed in our H1 2026 ETF Market Trends, several themes stood out:

• A rotation back to U.S. equities, supported by resilient earnings and economic strength.
• Demand for sector exposures, with Technology, Energy, and Industrials leading the way.
• Continued appetite for fixed-income ETFs, as investors likely sought income and portfolio stability.
• A broader push toward diversification, with increased interest in alternatives and private markets alongside traditional equity allocations.