A Strong Market Built on a Narrow Foundation
Executive Summary
The second quarter of 2026 delivered the strongest quarter for equity markets since the Covid rebound in 2020, supported by resilient economic growth, strong corporate earnings, and continued investment in artificial intelligence infrastructure. While the backdrop remains constructive, the increasingly concentrated sources of growth reflect changing risk dynamics for the economy and financial markets.
Much of today's favorable environment can be traced to three powerful forces. Businesses continue to invest heavily in AI-related infrastructure, creating a meaningful tailwind for economic activity and corporate profits. Higher-income households, supported by rising asset values and a healthy labor market, continue to drive a disproportionate share of consumer spending. Concurrently, robust earnings growth has largely justified higher equity valuations and supported further market appreciation. Each of these forces remains intact. The key question for investors is not whether they matter today, but how durable they prove to be over time.
We remain constructive on the long-term outlook. However, elevated valuations, concentrated market leadership, uneven consumer conditions, and a higher interest-rate environment reinforce the importance of building portfolios that are resilient across a range of potential outcomes rather than dependent upon any single economic or market narrative.
The Investment Cycle Driving Growth
The primary economic development over the past year has been the extraordinary wave of investment surrounding artificial intelligence infrastructure. Technology companies continue to commit substantial capital toward data centers, semiconductors, networking equipment, power generation, and related infrastructure. What began as a technology story has increasingly become an economy-wide investment cycle supporting manufacturers, industrial companies, utilities, and a growing number of businesses throughout the broader economy. This investment cycle has become an important driver of economic growth, corporate profits, and investor confidence. In many ways, it has helped offset some of the headwinds that economists anticipated entering 2026, including higher interest rates, geopolitical uncertainty, and slowing activity in more interest-sensitive areas of the economy.
The relevant question today is not whether artificial intelligence matters. It is how durable the current pace of investment ultimately proves to be. As spending requirements continue to grow, investors will increasingly focus on financing needs, economic returns on investment, and whether demand justifies continued expansion. The market is no longer debating the importance of artificial intelligence. It is debating the sustainability of the spending cycle supporting it.
For portfolios, this argues for participation with measured concentration. We continue to seek exposure to businesses benefiting from this investment cycle while being cautious about allowing a single theme to become the dominant driver of portfolio outcomes. Transformational investment cycles typically start with a narrow focus, but ultimate beneficiaries are frequently broader than the market initially expects.
A Healthy Economy, but Not an Even One
The headline economy continues to look healthy. Beneath the surface, however, the experience has become increasingly divided. Households with significant financial assets continue to benefit from rising equity markets, strong home values, and relatively stable employment conditions. At the same time, many lower- and middle-income consumers continue to face slower real income growth, diminished savings, and signs of rising credit stress. This divergence helps explain why economic data often appears contradictory. Spending remains resilient in aggregate, yet many consumers continue to face challenges associated with higher living costs and tighter financial conditions. To date, the purchasing power of higher-income households has been sufficient to offset weakness elsewhere and support overall economic growth.
Looking forward, the economy has become increasingly reliant upon those consumers who have benefited most from rising asset values and accumulated wealth creating a circular relationship between markets and economic growth. Against this backdrop, businesses with strong balance sheets, durable demand, pricing power, and resilient margins are often better positioned than companies that depend heavily on economically sensitive consumers. It also reinforces the value of maintaining high-quality fixed income exposure, not because we are forecasting a recession, but because uneven economic conditions can create periods of volatility where diversification becomes increasingly valuable.
Earnings Have Supported Rising Markets
One of the encouraging features of the current market cycle is that strong earnings growth has accompanied strong market returns. Corporate profits continue to exceed expectations, particularly among companies benefiting directly or indirectly from the buildout of artificial intelligence infrastructure. Unlike previous periods driven largely by speculation, today's market leadership has generally been supported by meaningful revenue growth, earnings growth, and business investment.
At the same time, valuations have moved higher. Measures such as the Shiller CAPE ratio, which values the market on normalized earnings, are approaching historically elevated levels. This dynamic suggests that future returns may become increasingly dependent on continued earnings growth rather than investors simply becoming willing to pay higher prices for those earnings. Market concentration also remains notable, with a relatively small group of companies accounting for an outsized share of earnings growth and market returns. History suggests these periods can persist longer than many expect. The question for investors is not whether earnings are strong today. It is whether future earnings growth can continue to justify the optimism already reflected in market prices.
We continue to favor equities given the backdrop of resilient earnings and constructive economic growth. However, rising valuations and concentrated leadership increase the importance of diversification. Our objective is not to reduce exposure to successful businesses, but to ensure portfolios are not overly dependent on a small number of companies or a single market narrative remaining intact indefinitely.
Interest Rates Remain an Important Crosscurrent
Our perspective on interest rates remains largely unchanged. Structural forces, including persistent fiscal deficits, elevated Treasury issuance, and significant capital demands associated with AI infrastructure development, argue for an interest-rate environment that remains higher than investors have become accustomed to during the previous decade. At the same time, slower growth among more interest-sensitive portions of the economy suggests there are natural limits to how far rates can rise before economic activity begins to moderate. The result is likely a world characterized by more volatility in both inflation and interest rates than investors experienced during much of the 2010s.
For portfolios, the implication is less about predicting the next move in rates and more about recognizing the role each asset class plays. High-quality fixed income remains an important source of income, liquidity, and diversification. We also continue to see value in select real assets and alternative strategies that may help offset the effects of fiscal uncertainty, geopolitical risk, and inflation volatility over time.
Conclusion
Viewed collectively, today's market environment remains constructive, but increasingly dependent on a relatively narrow set of supports. The AI investment cycle continues to drive capital spending and economic growth. Higher-income households continue to provide resilience to consumer spending. Earnings growth continues to support elevated valuations.
While we remain constructive on the long-term outlook, we believe strong markets are often the periods when discipline matters most. When investor confidence is high and recent winners continue to lead, the work of portfolio management becomes less about reacting to headlines and more about ensuring that today's strengths do not become tomorrow's unintended risks.
As always, our focus remains on building diversified portfolios centered on quality investments, prudent risk management, and a long-term perspective. Rather than attempting to predict which of today's supports will prove most durable, we continue to build portfolios around multiple sources of return. Broad market exposure, quality businesses, high-quality fixed income, real assets, and selective alternatives each serve a distinct role in creating portfolios that can adapt as markets evolve.