Navigating AI Euphoria: Diversification Amidst Market Complacency

Bloomberg Surveillance · December 29, 2025 · Listen to Original Episode →

Original Title:

TL;DR

Sustained double-digit equity returns for multiple consecutive years, as seen recently, historically precede market downturns, suggesting a need for caution unless specific "Goldilocks" economic conditions materialize.
The market's low volatility (VIX) appears complacent, potentially ignoring persistent risks like tariffs, inflation, and geopolitical tensions, which contrasts with investor sentiment reflected in more volatile crypto markets.
A rotation into sectors beyond Big Tech is likely, benefiting value stocks, small caps, and dividend-paying companies as investors seek diversification and less overvalued opportunities.
International markets, particularly Japan, offer attractive valuations and shareholder-friendly policies, presenting a compelling alternative to the US market's heavy concentration in technology.
Consumer staples are positioned as a contrarian, inflation-friendly allocation that provides consistent dividends, acting as a defensive buffer if technology valuations pull back.
In fixed income, cash segmentation will regain importance as the yield curve normalizes, encouraging investors to strategically deploy cash across different parts of the curve for liquidity and safety.
Money market fund assets are expected to continue growing as corporate and public entity clients use them as a substitute for bank deposits, even with potential Fed rate cuts.

Deep Dive

The market is exhibiting elevated optimism heading into 2026, driven by a confluence of AI enthusiasm and expectations of Federal Reserve rate cuts, leading to strong equity and fixed income returns. However, this optimism may mask underlying risks, as historical data suggests the current streak of high returns and low volatility is statistically unusual and potentially unsustainable, indicating a need for a strategic recalibration of investment approaches.

The sustained rally in equities, particularly in big tech and AI-related stocks, has pushed valuations to levels that may not be supported by fundamental growth alone. While AI is a disruptive innovation, its widespread adoption and its impact on profit margins across various sectors are still being proven, suggesting that a continued reliance on tech leadership could be precarious. This environment necessitates a broader diversification strategy, with a renewed focus on international markets, particularly Japan, which offers cash-rich companies, a commitment to shareholder value, and accommodative policies. Additionally, sectors like utilities are becoming attractive as an "AI-adjacent play," benefiting from the infrastructure build-out required for AI without being directly exposed to tech valuations. Consumer staples also present a contrarian opportunity, offering inflation protection, consistent dividends, and stability should technology stocks experience a pullback or economic conditions worsen.

In fixed income, the expectation of Fed rate cuts implies a shift from the current yield curve dynamics. While cash instruments and short-term Treasuries have provided attractive yields due to an inverted yield curve, the anticipated cuts will likely lead to a less inverted curve, making cash segmentation across different parts of the yield curve a more strategic approach. This involves utilizing fixed income markets not just for yield but also for liquidity and safety, with money market funds expected to continue their growth as a substitute for bank deposits, offering a compelling yield even with rate reductions. For investors, the primary risk in 2026 appears to be stock market volatility and a potential economic slowdown, suggesting a preference for quality and duration in bonds, alongside dividend-paying stocks, rather than credit risk.

The market's current trajectory, characterized by high returns and low volatility, presents a potential disconnect with persistent macroeconomic risks such as inflation, debt, and geopolitical tensions. This suggests that investors may be overlooking significant headwinds, and the current euphoria could be a precursor to a market correction. A more balanced approach, incorporating diversification across asset classes, geographies, and sectors, alongside a strategic allocation to alternatives like private equity and gold, is advisable to navigate potential market shifts and capitalize on opportunities beyond the dominant AI narrative.

Action Items

Audit market complacency: Assess VIX levels against geopolitical and economic risks to identify potential investor overconfidence.
Measure equity return sustainability: Analyze historical data for instances of three consecutive double-digit equity returns and their subsequent market performance.
Evaluate international equity diversification: Compare valuations and growth prospects of US equities against European and emerging market equities.
Track AI-adjacent sector performance: Identify and monitor companies benefiting from AI infrastructure and adoption beyond direct AI chip manufacturers.
Assess dividend stock resilience: Analyze consumer staples sector performance during periods of market pullback and technological sector rotation.

Key Quotes

"well you know we remain bullish we were bullish this year still uh we have a 7 000 target which by the way you should sell targets not just buy them so it's okay if we fade a little bit before 7 000 so we use the same methodology that we did this year 23 times seven uh 27 earnings consensus and we get to an 8 000 target so that's almost 15 from here so we're bullish and this is normal uh the rally in metals as well is normal when you come out of a fed tightening cycle"

Jay Hatfield expresses a bullish outlook for the market in 2026, projecting a target of 8,000, which represents a nearly 15% increase from current levels. Hatfield attributes this optimism to the ongoing support from AI and anticipated Federal Reserve rate cuts, noting that the rally in metals is a normal occurrence following a period of Fed tightening.

"well it's uh we have uh what we call garp models of the mag 8 it includes broadcom and last time when we had 6940 the upside of those eight companies is only 2 so they're fully valued even assuming they're pretty high growth rates and if we look we have dividend funds so we have every sector and a lot of those companies are super cheap pay great dividends have good growth and trade at really low market peg ratios so that's normal same thing normal when you have a fed loosening cycle there's rotation into other sectors including small caps so we do think that will continue and we're happy about it it benefits our funds because we have small allocations towards tech in our income funds"

Jay Hatfield explains that while some "Mag 8" tech companies appear fully valued, his firm's models also identify opportunities in dividend-paying stocks. Hatfield suggests that as the Federal Reserve enters a loosening cycle, a rotation into other sectors, including small caps, is normal and beneficial for their funds, which have limited tech exposure in their income portfolios.

"well i think you have to be a little bit cautious because if you look at charts they're pretty far away from their moving averages and gold did break down when it blew out well above its moving averages i think a bigger question is really oil oil's been horrible uh which is great for inflation by the way uh you know the 70s inflation was really 80 caused by oil so if super bullish for inflation we're modestly constructive on oil 55 to 65 this year we think that opec's not going to increase production as much as it did last year so we're we're constructive on oil there will continue to be rally particularly in silver and copper you know have an ai electricity play but just be a little bit cautious because it has a momentum element to it as well whereas oil has negative momentum"

Jay Hatfield advises caution regarding commodities, noting that gold has shown weakness after exceeding its moving averages. Hatfield views oil as a more constructive play, expecting prices between $55 and $65 due to OPEC's anticipated production restraint, which he believes will be beneficial for inflation. He also sees continued rallies in silver and copper, driven by AI and electricity demand, but cautions about their momentum-driven nature.

"yeah i think it's a good time for us to just step back and look at what's happening you know so we're looking at another 20 year in the markets and i think we've just gotten used to 20 because we saw it last year we saw it the year before but we now have over 100 years of data on the markets and do you know how many times that we see the markets deliver over 20 three years in a row it's got to be pretty low it's very low like we've only seen it twice and the last time was the lead up to the dot com bubble so that was three years of positive 20 returns followed by three years of negative returns so i think we investors have to be careful because on average we only see the markets deliver about 11 returns per year but we never see 11 sometimes we'll see 20 which means next year we'll see maybe negative 10 but on average you get 11 12 13 returns so what's unusual is we've seen 20 returns this year low volatility everything else rising gold copper silver um even value as you mentioned before so this has got to be a little bit kind of you know uncomfortable and yet you know people are euphoric about ai"

Joy Yang highlights the unusual market performance, noting that consecutive years of 20% returns are historically rare, having occurred only twice before, with the last instance preceding the dot-com bubble. Yang suggests that investors should be cautious, as the average annual market return is around 11%, and prolonged periods of high returns are often followed by corrections, making the current low volatility and broad market gains potentially unsustainable.

"so i think price still matters and then you asked earlier you know everything seems expensive well i say look outside of the us because i think we tend to think of you know just us markets you know markets outside of the us still look like they have good valuations so international markets emerging markets this year they already had a strong rally but that's on the back of being under allocated and under noticed you know in the previous years you mentioned we didn't have a lot of volatility this past year is 2026 the year that comes back and why well something's got to give you can't have high returns low volatility so either returns have to come down or volatility has to go up and i think one thing that's interesting about the vix is because it doesn't seem like it's telling us the fear of you know what investors are really feeling because if you ask anybody they are thinking about is this a bubble but it's not reflected in the you know vix"

Joy Yang advises investors to look beyond U.S. markets for better valuations, suggesting that international and emerging markets still offer attractive opportunities despite recent rallies. Yang posits that the current environment of high returns and low volatility is unsustainable, and either returns must decrease or volatility must increase, noting that the VIX index may not accurately reflect the underlying fear investors feel about potential market bubbles.

"well first we need to see those accommodative interest rate cuts from the fed two unemployment obviously can't get too out of control and third we can't have any ai bubble burst and that means we need technology companies to really show and prove when earnings season comes along you know the market didn't react too positively to the last couple of earnings seasons even though these big tech companies delivered great results and so that leaves us a little cautious headed into the new year"

Chris Kampitsis outlines three key conditions for a continued double-digit market performance: accommodative interest rate cuts from the Federal Reserve, stable unemployment, and the avoidance of an AI bubble burst. Kampitsis expresses caution heading into the new year, noting that the market's muted reaction to strong earnings from big tech companies

Resources

External Resources

Books

"The Intelligent Investor" by Benjamin Graham - Mentioned as a foundational text for value investing principles.

Articles & Papers

"The Intelligent Investor" (Publication not specified) - Referenced for its insights into value investing.

People

Jay Hatfield - CEO at Infrastructure Capital Management, discussed for his market outlook and investment strategies for 2026.
Joy Yang - Head of Index Product Management at MarketVector Indexes, interviewed regarding market complacency, diversification, and potential risks in 2026.
Chris Kampitsis - Managing Partner at Barnum Financial Group, shared insights on client expectations for 2026, sector analysis, and international investing.
Vanessa McMichael - Head of Corporate & Public Entity Strategy at Wells Fargo, discussed cash segmentation strategies and the outlook for fixed income markets in a declining interest rate environment.

Organizations & Institutions

J.P. Morgan Asset Management - Mentioned for its active fixed income ETFs and their ability to capture a larger portion of the US public bond market.
Mint Mobile - Featured for its promotional offer of 50% off unlimited wireless plans.
Delta SkyMiles - Discussed as a membership program that integrates with various lifestyle activities beyond travel.
JBL - Promoted for its wireless earbuds featuring a touchscreen smart charging case and wireless transmitter.
Bloomberg Audio Studios - Identified as the producer of the Bloomberg Surveillance podcast.
MarketVector Indexes - Mentioned in relation to Joy Yang's role and the company's focus on index product management.
Barnum Financial Group - Identified as the firm where Chris Kampitsis is a Managing Partner.
Wells Fargo - Mentioned in relation to Vanessa McMichael's role in corporate and public entity strategy.
Infrastructure Capital Management - Identified as the firm where Jay Hatfield is CEO and CIO.
Odoo - Presented as an all-in-one integrated business software platform.
Cisco Duo - Advertised as a solution for end-to-end phishing resistance through passwordless authentication.
Colgate Total - Promoted for its active prevention system including toothpaste, toothbrush, and mouthwash.

Websites & Online Resources

jpmorgan.com/getactive - Provided as a resource to learn more about J.P. Morgan Asset Management's active fixed income ETFs.
mintmobile.com - The website to visit for Mint Mobile's unlimited wireless plans.
delta.com/skymiles - The URL to learn more about the Delta SkyMiles membership program.
jbl.com - The website to purchase JBL wireless earbuds.
omnystudio.com/listener - Provided for privacy information related to podcast listening.
odoo.com - The website to try Odoo business software for free.
faceafterweightloss.com - A resource for information on restoring youthful appearance after weight loss.
duo.com/cisco - The website to learn more about Cisco Duo's phishing resistance solutions.
shop.colgate.com/total - The online store to purchase Colgate Total products.

Podcasts & Audio

Bloomberg Surveillance - The podcast being broadcast, featuring discussions on market trends and economic outlooks.
Las Culturistas with Matt Rogers and Bowen Yang - Mentioned in relation to Bowen Yang's participation.
High Key - A culture podcast recommended for listeners seeking new obsessions.
Health Discovered - A podcast episode focusing on Multiple Sclerosis (MS).

Other Resources

AI (Artificial Intelligence) - Discussed as a significant driver of market performance and innovation, with questions about its sustainability as a primary market leader.
Fed cuts (Federal Reserve interest rate cuts) - Anticipated as a factor influencing market performance and investment strategies in 2026.
Value investing - Mentioned as a strategy that may see continued rotation and benefit from market dynamics.
GarP models (Growth at a Reasonable Price) - Referenced in the context of evaluating technology stocks.
Dividend funds - Discussed as an investment vehicle for generating income and potentially benefiting from market rotations.
Small caps - Identified as a sector that may continue to receive investor attention due to market rotations.
Private equity firms - Recommended as an investment area, potentially benefiting from a shift away from perceived risks in private credit.
Private credit - Mentioned as a source of irrational fear impacting private equity valuations.
Commodities (Gold, Silver, Platinum, Copper, Oil) - Discussed in relation to their performance and outlook for 2026, with specific considerations for oil's impact on inflation.
Preferred stocks - Highlighted as an investment with good yield and total return potential.
High yield bonds - Considered a riskier part of the bond market that may perform well if the overall market continues to rise.
Russell 2000 - Mentioned as an index representing small-cap stocks, with discussion on its support for the next year.
VIX (Volatility Index) - Analyzed in the context of market complacency and its potential disconnect from underlying investor sentiment.
Bitcoin - Discussed in relation to its volatility and its role as an indicator of investor fear, particularly when compared to the VIX.
Crypto Heat Index - Mentioned as a metric indicating high fear in crypto markets.
Alternatives (Private Equity, Private Credit, Hedge Funds) - Discussed as an asset class with growing interest and the launch of new ETFs, with considerations for appropriate allocation.
International markets (European equities, Emerging markets) - Recommended as diversification options with potentially better valuations compared to US markets.
Japan equities - Identified as an attractive investment due to cash-rich balance sheets, increased shareholder value focus, and accommodative fiscal policy.
Utilities - Considered an AI-adjacent play and a sector that could benefit from lower rates and increased electricity demand.
Consumer staples - Presented as a contrarian allocation that is inflation-friendly and provides consistent dividends in a lowering interest rate environment.
Sovereign debt - Favored for its quality and role in a lowering interest rate environment, particularly in the bond market.
Cash - Recommended as a safe and quality investment in the bond market.
GLP-1 - Mentioned in the context of potential side effects like facial hollowing, sagging skin, and wrinkles.
MS (Multiple Sclerosis) - The focus of a special episode of the "Health Discovered" podcast.
Phishing - Discussed in relation to online security threats and Cisco Duo's phishing resistance solutions.
Passwordless authentication - A key feature of Cisco Duo's security offering.
Session theft protection - Another security feature offered by Cisco Duo.
Help desk verification - A component of Cisco Duo's security services.
Multi-factor authentication (MFA) - Mentioned as a traditional security measure that Cisco Duo goes beyond.
Oral health - The focus of Colgate Total's active prevention system.
Cavities and gingivitis - Oral health problems that Colgate Total's system aims to prevent.