2026 Market Outlook: Moderate Returns, Increased Volatility, and Strategic Shifts

Bloomberg Surveillance · December 26, 2025 · Listen to Original Episode →

Original Title:

TL;DR

High equity valuations and baked-in optimism set a high bar for 2026, suggesting moderate returns and increased intra-year volatility, typical of midterm election years.
Investors are rotating from high-valuation tech names into sectors like healthcare, industrials, and financials, though a full defensive shift into staples has not yet occurred.
Corporate earnings will be critical, with a focus on capital expenditures (capex) and profit margins, as companies must demonstrate return on investment to avoid balance sheet strain.
Government policy, including potential stimulus for consumers and corporations via R&D and infrastructure benefits, alongside tax advantages, could lift economic activity in the first half of the year.
Lower-income consumers are holding back spending, indicated by stable savings rates and negative year-over-year holiday spending, making them reliant on potential future cash injections.
A market pullback could reverse the wealth effect for high-income consumers, leading to reduced spending on expensive retail goods and a shift towards more cautious behavior.
The Federal Reserve is expected to implement only one rate cut in 2026, with the primary debate centering on the definition of neutral policy and the degree of accommodation.
Trade policy, particularly renegotiations with Mexico, China, and Canada, poses a significant risk for higher inflation and price pressures on both discretionary and non-discretionary consumer items.
The reestablishment of the Monroe Doctrine by the administration signals a focus on the Americas as a sphere of influence, potentially warning Mexico about cartel control and impacting geopolitical dynamics.

Deep Dive

Equity markets are poised for moderate returns and increased volatility in 2026, as current valuations have largely priced in optimism, setting a high bar for positive surprises. This environment necessitates a strategic shift towards more defensive positions and sector rotation, moving away from high-flying tech names towards areas showing uptrends like healthcare, financials, and industrials. The upcoming year will also be shaped by the intersection of fiscal policy, consumer spending patterns, and geopolitical developments, particularly concerning trade and international conflicts.

The economic outlook for 2026 is characterized by a delicate balance between resilient labor markets and softening consumer demand, exacerbated by tariff-induced inflation. Consumer confidence has declined, with growing concerns about job security and the rising costs of essential goods and services like food and housing. While high-income consumers continue to spend, driven by wealth effects from market gains, lower-income consumers remain cautious, indicating that a broadening of economic participation is crucial for sustained growth. Corporate earnings will be closely scrutinized for capital expenditure (CapEx) plans and profit margin expectations, with a critical eye on the return on investment for CapEx, especially when it strains balance sheets. Government policies, including potential stimulus for consumers and corporations through R&D and infrastructure benefits, alongside the impact of upcoming events like the World Cup and the nation's 250th anniversary, are expected to provide some buoyancy, particularly in the first half of the year. However, the sustainability of this growth into the second half remains a key question, as is the potential for the Federal Reserve to cut rates more than currently priced into the market, which could signal underlying economic weakness.

Geopolitical risks and trade policy will play a significant role in navigating the 2026 landscape. The potential for renegotiated trade agreements, particularly with Mexico and Canada, and ongoing tariff considerations, could introduce further inflationary pressures and uncertainty for businesses and consumers. In international affairs, the dynamics of the Ukraine conflict and potential negotiations between President Zelensky and former President Trump will be closely watched, with territorial concessions and security guarantees remaining critical sticking points. Additionally, the reassertion of the Monroe Doctrine in the Americas and targeted military actions, such as those against ISIS in Nigeria, signal a projection of U.S. strength that could have broader geopolitical implications. The market's reception to these intertwined economic and geopolitical factors will hinge on the ability of businesses to absorb costs, the sustained spending power of consumers, and the strategic navigation of concentrated risks and market valuations.

The key takeaway is that 2026 presents a complex investment and economic environment where elevated market valuations and geopolitical uncertainties demand a cautious approach. Investors and policymakers alike must monitor the broadening of economic growth beyond concentrated sectors and income groups, the impact of trade policies on inflation and corporate planning, and the potential for significant shifts in consumer behavior driven by economic sentiment and wealth effects. Success will depend on adapting to potential volatility and strategically positioning for moderate returns amidst these dynamic forces.

Action Items

Audit market valuations: Assess equity valuations for "rich levels" and "baked-in optimism" to identify potential for moderate returns and prepare for volatility.
Track consumer spending divergence: Monitor high-income consumer spending patterns and their correlation to market performance to anticipate shifts in demand.
Analyze capex ROI: Evaluate capital expenditure returns for companies, focusing on balance sheet impact and cash flow generation to assess investment sustainability.
Measure trade policy impact: Quantify the effect of tariffs on input costs and consumer prices, particularly concerning renegotiated trade agreements (USMCA, China, Canada).
Assess labor market broadening: Monitor small business hiring pace as an indicator of economic broadening beyond concentrated sectors and income levels.

Key Quotes

"stocks aiming to extend the year end rally victoria fernandez of crossmark global investments writing we begin the year with equity valuations at somewhat rich levels and lots of optimism already baked into those valuations setting a high bar for positive surprises and paving the way for moderate returns"

Victoria Fernandez, Chief Market Strategist at Crossmark Global Investments, explains that current equity valuations are high, with significant optimism already factored in. Fernandez indicates this sets a high expectation for future positive market performance, suggesting that returns may be moderate rather than exceptional.

"i think we will amry and it's typical that you'll see that in a midterm election anyway so you add in the element of coming into the year at high valuations and you're setting yourself up for that i mean you typically look at a midterm election year and coming into that year you've already priced in those pro growth components the optimism around things being positive after a new administration comes into term and as those positive elements actually come to fruition in a midterm election year you start to see some pullbacks some intra year corrections sometimes up to as much as 15 16 17 percent you can see so there's a lot of volatility you usually get higher yields so we wouldn't be surprised to see yields move a little bit higher as well i'm setting this up for a year where you're going to see a lot of churning but have moderate returns not like we're going to you know like we've seen the last couple of years with these huge returns"

Victoria Fernandez, Chief Market Strategist at Crossmark Global Investments, discusses the typical patterns observed in midterm election years. Fernandez notes that high valuations combined with pre-priced optimism for a new administration can lead to intra-year pullbacks and increased volatility. She anticipates a year characterized by "churning" and moderate returns, rather than the substantial gains seen in previous years.

"i think everyone's going to be looking at the capex not just for those ai names but across the board that's really a driver i think of some of the optimism that we have is this increase in capex some of that due to the ob3 bill that was passed and the tax advantages associated with that but we know capex helps growth it gives you increased productivity increased profitability so people will be watching for that capex component i think we're also going to be looking at those retail names to see how does that consumer continue to spend we know there's this divergence and it's going to be focused on the high income consumer will they continue to support the economy with their spending so we'll be paying a lot of attention to that and really what the expectations are for profit margins whether you're looking at eps growth revenue growth or profit margins those numbers are getting really high for 2026 and going into 2027 i think people are going to want to see can they actually see those numbers come to fruition or are those going to be pulled back some so those will all be elements to watch in earnings"

Victoria Fernandez, Chief Market Strategist at Crossmark Global Investments, highlights key themes for upcoming earnings reports. Fernandez points to capital expenditures (CapEx), partly driven by the OB3 bill and associated tax advantages, as a significant factor for growth, productivity, and profitability. She also emphasizes the importance of monitoring consumer spending, particularly by high-income consumers, and assessing whether projected profit margins for 2026 and 2027 are achievable.

"yeah i think that's actually um you know something we really need to watch scarlett so you're right lower income consumers spend based on what they're making right what their salaries are and what the job market looks like high income consumers do spend based on wealth effects so as long as the market is doing well they're going to spend if we see that pullback if we see the volatility that we think we'll see in 2026 you should see the high income consumer pull back a little bit they won't stop spending completely because they still have the job component there but as they see housing prices maybe start to come back a little bit as they see the market pull back a little bit their spending will start to shift slightly i think that means you have to be a little bit more cautious on those more expensive um retail companies that are out there those high income retail companies will probably suffer a little bit if that happens so they'll be a much lower level of spending that will occur"

Victoria Fernandez, Chief Market Strategist at Crossmark Global Investments, explains the impact of market pullbacks on consumer spending. Fernandez differentiates between lower-income consumers, who spend based on income and job market conditions, and high-income consumers, who are influenced by wealth effects. She predicts that a market pullback or increased volatility in 2026 would cause high-income consumers to reduce their spending, potentially impacting high-end retail companies.

"well consumers are not paying attention to gdp the way that we are the way that economists and business and financial markets are necessarily paying attention to these readings what they really feel is the effects of prices for things that they buy every week every day every month and so those things include coffee which is going up in price 20 to 40 beef and other proteins at the grocery store have gone up and some big structural costs have really not come down the cost of housing and in particular insurance and the price of a mortgage well it has come down a little bit is nowhere near as low as it was pre pandemic and so when you see some of these really big price structural changes happen that also weighs on consumer sentiment"

Erin McLaughlin, Senior Economist at The Conference Board, explains why consumer sentiment may not align with GDP figures. McLaughlin states that consumers are more directly affected by the prices of everyday goods like coffee and groceries, as well as structural costs such as housing, insurance, and mortgages. She argues that these tangible price increases, rather than macroeconomic indicators like GDP, are what significantly influence consumer sentiment.

"i think that they are open to an agreement i think that they are really going to be looking at these territorial concessions and i think this is really what it comes down to emery because what is the future of the donbas region how much does ukraine have to fully kind of acknowledge that russia has kind of certain parts of this territory how much of it is a demilitarized zone how much does ukraine get to control this how much does russia get to control this i think that's the critical issue the second issue is even if you kind of create a demilitarized zone what are the security guarantees i think that zelensky and ukraine are willing to give up more of that territory at least as a demilitarized zone if they get those you know kind of security guarantees but if there's not the security guarantees they're not willing to do that and i do think that putin is not going to be okay with the security guarantees that zelensky wants and probably not going to be okay with a demilitarized zone they want more territorial concessions i think then what the us and ukraine are willing to give at this point"

Ed Mills, Washington Policy Analyst at Raymond James, analyzes the sticking points in potential peace negotiations.

Resources

External Resources

Books

"The Big Beautiful Bill" - Mentioned as a piece of fiscal policy that may provide benefits at the beginning of the year.

Articles & Papers

"US consumer confidence dropping for a fifth consecutive month in December" (The Conference Board) - Discussed as a key indicator of consumer sentiment.
"The Big Beautiful Bill" - Mentioned as a piece of fiscal policy that may provide benefits at the beginning of the year.

People

Victoria Fernandez - Chief Market Strategist at Crossmark Global Investments, discussed equity valuations and market outlook for 2026.
Erin McLaughlin - Senior Economist at The Conference Board, discussed US consumer confidence.
Ed Mills - Washington Policy Analyst at Raymond James, discussed Ukrainian President Volodymyr Zelenskiy's planned talks with President Trump and geopolitical risks.
George Goncalves - Head of US Macro Strategy at MUFG Americas, examined top market risks heading into the new year.
Volodymyr Zelenskiy - Ukrainian President, mentioned in relation to planned talks with President Trump.
President Trump - Mentioned in relation to planned talks with Ukrainian President Volodymyr Zelenskiy and US military strikes in Nigeria.
Howard Lutnick - Commerce Secretary, discussed third quarter GDP growth.
Shinbomb - President of Mexico, mentioned in relation to drug cartels.
Putin - Mentioned in relation to territorial concessions in Ukraine.
Steve Wihok - US envoy, mentioned in relation to a Christmas day sit down with President Zelenskiy.
Jared Kushner - Mentioned in relation to a Christmas day sit down with President Zelenskiy.
Yuri Ushakov - Senior Russian diplomat, mentioned in relation to contact with US representatives on the Ukraine peace plan.
Dimitri Peskov - Mentioned in relation to Russia analyzing information on the peace plan.
Powell - Mentioned in relation to the Federal Reserve's policy decisions.

Organizations & Institutions

Crossmark Global Investments - Mentioned as the employer of Victoria Fernandez.
The Conference Board - Mentioned as the employer of Erin McLaughlin and the source of US consumer confidence data.
Raymond James - Mentioned as the employer of Ed Mills.
MUFG Americas - Mentioned as the employer of George Goncalves.
JPMorgan Asset Management - Mentioned in relation to active fixed income ETFs.
JPMorgan Chase & Co. - Mentioned as the parent company of JPMorgan Asset Management.
JPMorgan Distribution Services Inc. - Mentioned as the issuer of communications for JPMorgan Asset Management.
Finra - Mentioned as a member organization for JPMorgan Distribution Services Inc.
IBM - Mentioned in relation to AI accessing data.
Adobe Acrobat Studio - Mentioned as a tool for working with PDFs.
Bloomberg Audio Studios - Mentioned as the producer of podcasts and radio news.
Bloomberg Terminal - Mentioned as a platform for accessing Bloomberg content.
Bloomberg Business App - Mentioned as a platform for accessing Bloomberg content.
Federal Reserve - Discussed in relation to interest rate policy.
Venmo - Mentioned in relation to cashback rewards.
Stash - Mentioned in relation to cashback rewards with Venmo.
Odoo - Mentioned as an all-in-one business software platform.
ISIS - Mentioned in relation to US military strikes in Nigeria.
The Michael J Fox Foundation - Mentioned in relation to research on Parkinson's disease and smell loss.
CVS - Mentioned as a community-focused organization for prescriptions and snacks.
Virgin Voyages - Mentioned as a sponsor of the Wayfinder podcast.
Iheart Radio App - Mentioned as a platform for listening to podcasts.
Apple Podcasts - Mentioned as a platform for listening to podcasts.
Repatha (evolocumab) - Mentioned as a medication to lower LDL cholesterol and heart attack risk.

Websites & Online Resources

omnystudio.com/listener - Mentioned for privacy information.
jpmorgan.com/getactive - Mentioned for learning more about active fixed income ETFs.
spectrum.com/freeforever - Mentioned for information on free home internet with Spectrum.
venmo.me/stashterms - Mentioned for terms and exclusions related to Venmo Stash.
odoo.com - Mentioned for trying Odoo for free.
mysmelltest.org/getstarted - Mentioned for requesting a smell test for Parkinson's research.

Podcasts & Audio

Bloomberg Surveillance - Mentioned as the name of the podcast.
Bloomberg Surveillance TV - Mentioned as the broadcast version of the podcast.
Wayfinder - Mentioned as a podcast about travel.

Other Resources

Passive fixed income ETFs - Mentioned in contrast to active fixed income ETFs.
Active fixed income ETFs - Mentioned as a way to capture more of the US public bond market.
AI - Mentioned in relation to accessing data.
PDFs - Mentioned in relation to Adobe Acrobat Studio.
AI assistant - Mentioned in relation to Adobe Acrobat Studio for research insights.
Midterm election year - Discussed as a period that typically sees high growth.
Capex (Capital Expenditures) - Mentioned as a driver of optimism and a focus in corporate earnings.
OB3 Bill - Mentioned as a piece of legislation associated with tax advantages for capex.
EPS growth - Mentioned as a metric to watch in corporate earnings.
Revenue growth - Mentioned as a metric to watch in corporate earnings.
Profit margins - Mentioned as a metric to watch in corporate earnings.
ROI (Return on Investment) - Mentioned in relation to capex and balance sheets.
Free cash flow - Mentioned in relation to company balance sheets and capex.
GDP (Gross Domestic Product) - Mentioned as a measure of economic growth.
Wealth effect - Discussed in relation to high-income consumer spending and market performance.
S&P 500 - Mentioned as an equity index that closed at a record high.
Neutral rate - Discussed in relation to the Federal Reserve's policy stance.
Accommodative policy - Discussed in relation to the Federal Reserve's stance.
Passive investing - Mentioned in contrast to active investing strategies.
Active ETFs - Mentioned as aiming to beat benchmarks.
Benchmark - Mentioned in relation to active ETFs.
Tariffs - Discussed as a factor influencing inflation and trade policy.
USMCA (United States-Mexico-Canada Agreement) - Mentioned in relation to renegotiations and trade policy.
Nafta (North American Free Trade Agreement) - Mentioned as a predecessor to USMCA.
Monroe Doctrine - Mentioned in relation to the Trump administration's reestablishment of US influence in the Americas.
Drug cartels - Mentioned in relation to Mexico and potential US action.
Terrorist organizations - Mentioned as a label applied to drug cartels in Mexico.
Taiwan - Mentioned in relation to potential Chinese aggression.
Gaza conflict - Mentioned in relation to peace negotiations.
Santa Claus rally - Mentioned in relation to year-end market performance.
Geopolitical risks - Mentioned as a factor requiring careful navigation.
Concentrated risk - Mentioned as a risk requiring careful navigation.
Weak labor markets - Mentioned as a risk requiring careful navigation.
Small businesses - Mentioned as an indicator for economic broadening and hiring pace.
Fiscal policy - Mentioned as a factor influencing the economy.
World Cup - Mentioned as a catalyst for first-half growth and consumer spending.
250th anniversary of the US - Mentioned as an event that will generate activity and GDP.
Equities - Mentioned in relation to market performance and valuations.
Treasuries - Mentioned as a traditional alternative asset.
Dollar - Mentioned in relation to currency strength and as a traditional alternative asset.
Commodities - Mentioned in relation to market performance and as a traditional alternative asset.
VIX - Mentioned in relation to market volatility.
Fed pivot - Mentioned in relation to the Federal Reserve's change in policy direction.
QT (Quantitative Tightening) - Mentioned in relation to the Federal Reserve's balance sheet reduction.
QE (Quantitative Easing) - Mentioned in relation to the Federal Reserve's balance sheet expansion.
Reserve management - Mentioned in relation to the Federal Reserve adding liquidity.
Gold - Mentioned as a precious metal and a traditional alternative asset.
Silver - Mentioned as a precious metal and a traditional alternative asset.
Bitcoin - Mentioned as a digital asset and an alternative to traditional assets.
Digital gold - Mentioned as a concept related to Bitcoin.
Copper - Mentioned as a physical commodity used in supply chains.
Debasement trade - Mentioned as a reason for moving away from the dollar and treasuries.
Liquidity - Discussed in relation to crypto and alternative assets.
Hard assets - Mentioned in contrast to digital assets.
Industrial production - Mentioned in relation to passing on costs.
Business to business (B2B) inputs - Mentioned in relation to passing on costs.
US consumer - Mentioned in relation to the challenge of passing on costs.
Parkinson's disease - Mentioned in relation to research by The Michael J Fox Foundation.
Smell loss - Mentioned as a potential indicator for brain disease research.
Brain disease - Mentioned in relation to research on smell loss.
LDL C (Low-Density Lipoprotein Cholesterol) - Mentioned in relation to Repatha.