APRIL 9, 2026
1st Quarter 2026 Review
Equity markets started 2026 on a strong note, with broad equity market leadership and participation. That changed in late February, with the start of the conflict with Iran, causing energy prices to rise sharply.
The stock market rotation/broadening, AI spending concerns, and the Iran war were the themes that dominated stocks, bonds, and other financial markets during the first quarter. The result was a down quarter for many, with both stocks and bonds mostly in the red, but with pockets of gains in formerly out-of-favor corners of the equity market.
The war in Iran is the biggest story of the first quarter, but we believe its significance to the investment world may be overstated. It is more important to think about the economic landscape that will exist after the bombing ceases. As this letter is being written, the Strait of Hormuz remains effectively closed, and the price of oil has risen 77% from the beginning of the year (as of March 31). But, as serious as these matters are, we do not believe the conflict will be the main investment story of 2026 for U.S. investors, and as we look towards the end of the year, we see more reason to be optimistic than one might expect from today’s headlines.
It might be helpful to recall that last year around this time, the imposition of blanket tariffs drove the market lower by about 20% (more than twice as much as the current decline, at least so far). Then the markets rebounded sharply, with the S&P 500 Index finishing up 18% for all of 2025 and up 39% from its April lows during the “tariff tantrum.” Those that focused on short-term headlines missed out.
Stock Portfolio Commentary
The broader markets both in Large Cap and Small/Mid Cap outperformed growth indices by a large margin this quarter as we forecasted in our last quarterly letter. Our attention to valuation models served us well this quarter, especially in our Small/Mid Cap model.
When hostilities end, we believe the forward-looking landscape may be an attractive one. Corporate earnings have been strong, in fact stronger than a year ago. Apart from specific industries that are directly affected by higher oil prices (airlines, fertilizer manufacturers, truckers, etc.), we believe earnings should remain in an upward trajectory. Lower share prices have been combining with higher earnings to bring valuations down to more reasonable levels. Finally, there are strongly stimulative provisions in the One Big Beautiful Bill passed by Congress last year that will be fully in place for 2026.
Fixed Income Commentary
Markets Remain Data-Dependent: With no consistent economic messaging coming out of Washington, both the bond markets and the Federal Reserve have remained heavily reliant on incoming economic data for direction.
Recent data presents a mixed but relatively stable picture. Jobless claims are slightly elevated but still consistent with levels observed over the past three years, reflecting a labor market that continues to hold up reasonably well. Inflation has remained moderate; however, it has proven somewhat resistant to the Fed’s efforts to bring it sustainably lower. Other key indicators — including GDP growth, business inventories, and personal income and spending — have generally aligned with recent estimates, offering little in the way of major surprises.
Where does this leave the bond market? The Treasury market has been particularly volatile, reacting — and at times overreacting — to every headline and data release. In contrast, corporate and municipal bond markets have seen yields decline, especially at the short end of the curve. While attractive value still exists in both sectors, it has become more challenging to source compelling opportunities than it was earlier in the year.
To help navigate this environment, we have been selectively adding investment-grade preferred stock to portfolios. This strategy provides an attractive way to enhance overall yield while improving diversification beyond traditional bonds.
Looking ahead, the fixed income market may remain in this holding pattern for the near term, with investors and the Fed alike waiting for more decisive economic signals — whether positive or negative. Even the Fed appears to be in a cautious, data-dependent mode. Current market pricing reflects approximately a 50% probability of a 25-basis point rate cut at the October FOMC meeting. Should that not materialize, the probability of a 25-basis point cut in December rises to around 75%.
Outlook
Our belief is there may be tailwinds to economic strength that are currently overshadowed by the war. We remain hopeful that an imminent ending to the conflict in Iran will allow those tailwinds to be felt in your portfolio. Whatever the prevailing wind, however, we will remain on watch, and we look forward to updating you at the end of the second quarter.
