Weekly Newsletter: January 5, 2026
With apologies to The Who, “Meet the new boss (2026 markets), same as the old boss (2025 markets).” Will the markets get fooled again? It can be argued that they were fooled by the imposition of tariffs in March, only to see many get rolled back, the inflation that never came, and an economy that continued to grow, all fooling Wall Street. The AI trade dominated the early part of 2025, giving way to doubts about how quickly it gets implemented, the profitability of the AI firms, and the efficacy of the AI answers to the prompts. Investors are determined not to get fooled again and are pushing hard on the markets. Investor sentiment is very bullish, and margin balances (borrowed funds) are approaching historically high levels. Oh, and there is this “thing” of midterm elections that is just beginning to make its way to the front page. Historically, mid-term elections are not kind to the party in power, and since the 1958 midterms, returns on the SP500 have been just above zero with plenty of large monthly swings. Mapping out a “normal” midterm election year, the markets tread water to slightly down until the election and rally afterwards. Will the past be prelude or will this time be different? One question that always comes up is “What surprising event could move the markets significantly higher or lower?” By definition, if it is a surprise, it is not known today. Similar to the tariff announcements in 2025. That was not on anyone’s bingo card.
Last week was another holiday-shortened week for the stock market. Friday marked the first trading day of the year, and it felt like traders had a serious hangover, as volume was the lightest in over a year. After a nice weekend, investors will be greeted with a full complement of economic data to digest, culminating in the jobs report on Friday. The normal diet of employment, data on services and manufacturing, along with consumer credit, should set the table nicely for the remainder of the month. The usual Fed speakers will also be helping interpret the data and potentially guiding the market in the direction of either another rate cut or a pause. Fed Chair Powell’s term is up in May, and speculation has been rampant about not just who will succeed, but if Powell will be able to serve out his term. The Fed has been focused on the job market, and Friday’s report will be the first since the shutdown that will be “on time.“ Expectations are for still modest job growth of 50-60k and a tick higher in unemployment to 4.7%. While still historically low, the rate has moved steadily higher since bottoming in early 2023. Also in focus will be wage growth, as workers are hoping to gain the upper hand compared to inflation. After trailing badly coming out of Covid, it has only been recently that wage growth has surpassed inflation. That needs to continue if the consumer is going to remain strong in 2026.
The bond market, left for dead three years ago, has, in just over two years, returned nearly 19%. Positive returns in the bond market mean interest rates are falling. Since October 2023, short-term interest rates have fallen from 5.5% to 3.5%. The yield on longer-term bonds has fallen a mere quarter percent. Short-term rates were yielding above long-term rates at that point and have since become more “normal”. The rate of inflation, which has been gradually falling, may fall further as commodity prices, especially oil, drop. The other large component of inflation is housing, which has shown some signs of falling prices in various markets. It could be another good year for the boring bond market.
The surprise in 2025 was that the SP500 was dominated by international investing. Both developed and emerging markets performed much better than the domestic indices, including the tech sector. Helped by the lower dollar, the “outside” US markets were treated very well. Even after last year’s run, many companies that are domiciled outside of the US remain valued more cheaply than their US counterparts. The “developed” markets were the worst place to be in 2024, and their ship came in last year. This could be the start of better overall performance by a diversified portfolio that holds international, value, and small stocks rather than an SP500 portfolio dominated by large tech companies. We shall see how it unfolds in 2026.
The markets will be back to their regularly scheduled operations, as well as economic releases, this week. There may be some volatility around the employment report on Friday as it remains a key input to the Fed’s decisions to cut interest rates further.
The opinions expressed in the Investment Newsletter are those of the author and are based upon information that is believed to be accurate and reliable but are opinions and do not constitute a guarantee of present or future financial market conditions