Global Market Review and Outlook

• The equity market experienced a rotation during the last quarter, with investors moving away from asset-light software stocks assumed to be victims of disruption by artificial intelligence (AI), and into more asset-heavy capital-intensive companies to take advantage of the structural regime shift in economic growth.
• The U.S. and Israel war with Iran represents yet another supply shock to the global economic system. The closure of the Strait of Hormuz is a stagflationary growth challenge for central banks.
• Private credit has been under scrutiny in the last quarter; however, low levels of leverage, better duration matching, dry powder, and the fact that private credit represents a small share of total bank assets suggest that widespread financial spillovers should be limited.

Our job is to filter out the noise, understand your unique situation, and implement a goals-based strategy that captures long-term growth and mitigates risk.

First Quarter 2026

This past quarter has been dominated by three major thematic events: 1) speculation about AI’s impact on computer software and SaaS companies in particular, and the rotation into asset-heavy companies and perceived AI beneficiaries; 2) yet another war in the Middle East; and 3) concerns that parts of the private credit market are being tested, prompting debate about potential broader market implication.

The Disruption to Software

At the start of the year, much of the market discussion was taken up by who would be appointed as the next Fed chair; how many rate cuts we could expect to see this year; to what degree AI might be disinflationary; and how much debt tech companies were taking on to fund capex investment.

From the end of January, however, the market started to have other ideas, with investors reassessing how much of an adverse impact AI was likely to have on the software industry. The threat began with November’s release of the AI agent OpenClaw, which many people seem to have spent their December holidays tinkering with. They soon discovered that AI agents can effectively be viewed as personal technology butlers. AI agents could be a type of private concierge service that sits on top and monitors (or even supersedes) users’ main software apps, answering emails, preparing slide decks and repetitive reports, and booking flights and other travel arrangements, all of which increasingly distance users from the software they were previously inseparable from.

Furthermore, if AI agents are going to enhance productivity and require fewer white-collar workers tapping information into keyboards, the result can mean fewer seats to fill. For software companies that charge on a per-seat basis, that translates to less revenue growth going forward.

In an equity market that shoots first and asks questions later, the result has been a 24% decline in the S&P 500 software index over the first quarter, the largest quarterly drop since fourth quarter 2008, when we were in the midst of the global financial crisis (exhibit 1).

S&P 500 Software Industry Drawdowns From 2 Year Highs

Daily data from September 1989 - April 7, 2026

Exacerbating this decline was undoubtedly the fact that the P/E multiple at the start of the quarter for the software index was a lofty 40x earnings. The multiple currently sits at 29x (the lowest since January 2023). It remains to be seen what role software companies will play in the future and the perceived value of their solutions. Certainly there will be winners and losers, but we believe that many businesses and individuals will still rely on the reliable functionality and data management that software brings.

Importantly, while equity investors were quick to shift away from software, this was not a rotation out of equities altogether; rather, it was a rotation from software toward other more-asset-heavy companies and a small group of favored segments in the market. That market believes those companies will have less risk of disruption and are leveraged to benefit from the ongoing business capital investment boom, reshoring, automation, the need for more just-in-case inventories, incentives such as accelerated depreciation allowances from the OBBB and other government programs, and perhaps most importantly the need to expand and improve existing energy capacity and infrastructure.

S&P 500 Sector Performance During Q1 2026

For the market as a whole, and in contrast to investors’ sentiment, analysts’ consensus earnings expectations have continued to rise over the quarter. This is critical because at the most basic level, we believe markets track earnings growth. Analysts currently expect S&P 500 index earnings to increase by 19.1% this year, up from 14.9% at the start of the year (exhibit 3). This indicates that all the price weakness in the first quarter has been related to multiple compression rather than a change in underlying fundamentals.

Progression of S&P 500 2026 EPS Estimates, 2026 vs Median 2002-2025

(Rebased to Estimate at End of Q4 2025 of $313.84 per share)

The War With Iran

The U.S. and Israel launched a war on Iran on February 28. The conflict and the resulting closure of the Strait of Hormuz have put into stark relief just how important this global chokepoint is for stable global growth and inflation, as 20% of the world’s energy resources pass through it, or equivalent to approximately 20 million barrels per day of crude oil. This is in addition to many other resources, such as natural gas, helium, and urea fertilizer, which also pass through the strait.

To help illustrate just how disruptive this is, exhibit 4 shows the global production and consumption of crude oil and other liquid fuels. When production declines but demand remains the same, consumers face two near-term choices: reduce consumption or pay higher prices. Over the longer term, consumers can opt for more energy efficiency, switch to more renewable energy, and look for a greater diversity of suppliers, which many countries are already examining, while suppliers decide whether and how much to increase production. The choices they make will dictate the impact on both economic growth and inflation.

Global Supply and Demand for Crude Oil & Liquid Fuels

(Millions of barrels per day)

So far, the global impact of this supply shock has been rippling out in concentric circles, beginning first and foremost with those Middle Eastern countries that have been attacked by the Iranians and that also depend on revenues from exports through the strait, or tourism and financial services. The second layer for global disruption has been for the Southeast Asian countries, including Australia, Pakistan, and China, which depend on clear passage through the strait for the vast majority of their energy supplies. The third layer is Europe and the fourth North America.

The fact that production has been outpacing consumption for the last few years has meant that some countries (such has China) have been building large energy stockpiles, whereas other less wealthy Southeast Asian economies have not. Nevertheless, that inventory is also rapidly being depleted.

Those Southeast Asian countries that may not have the fiscal space to cushion the shock with fiscal support have opted to implement demand reduction measures, such as shorter work weeks, working from home, and limits on AC temperature settings. The result is greater demand destruction but less of an inflationary impact.

The response from some wealthier European nations (notably Spain), however, has been to enact supply-side measures, via government spending initiatives such as reducing the VAT on gasoline prices (and other areas). These measures cushion the shock to consumers, who then do little to reduce demand. The trade-off here is that while there is less immediate demand destruction, prices are likely to stay higher for longer and in turn have a greater inflationary impact.

The Central Bank Response

Most economists view energy price shocks as a tax on consumption—as prices rise, consumers are forced to spend more on gasoline and have less to spend on other more discretionary goods and services where prices go down. The net effect is a temporary price increase that subsides over time.

For supply shocks to be inflationary, either these energy price increases need to destabilize inflationary expectations, which causes workers to demand higher wages and sets in motion a wage-price spiral, and/or governments respond to the shock with stimulus, thus promoting and extending the inflationary shock. Spain has chosen the latter route, with a €5 billion spending package. Most other European governments are not going down this road yet, but increasingly believe they may have to if the strait remains closed for much longer.

Central banks, meanwhile, will similarly often attempt to do nothing and look through the shock. Again, they know that if energy prices act as a tax on consumption, eventually prices will move lower if those prices are not supported by fiscal measures. What they cannot do is start easing in advance of that demand destruction, as this would only inflame the near-term inflationary pressures.

As shown in exhibit 5, there was a sharp rerating of interest rate expectations during the quarter, from an expected 50-75 basis points of rate cuts at the start of the year to the market pricing in the potential for a standstill or even rate increase. Investors in Europe and the U.K. have been even more aggressive in pricing in rate increases as soon as April.

Fed Funds Rate and Futures Market Expectations

(Expected rate, %)

The U.S. has been somewhat more insulated from this shock than the rest of the world, given that it has been a net energy exporter since 2019. While U.S. consumers are facing price increases at the gas pump—prices have jumped from $2.98 per gallon at the start of the conflict to $4.16 per gallon today—the U.S. (just like for other energy producers such as Canada and Russia) captures the benefits of those price increases as profits from the energy sector, which are then recycled back into our economy. This helps reduce the adverse impact on the tax base and federal budgets.

A second feature more specific to the U.S. is our abundant supply of natural gas, which remains largely domestic (due to export capacity constraints) and has allowed global gas prices to diverge from local domestic prices (exhibit 6). Hence, whereas gas prices for Europeans jumped by 94% from the start of the war to a peak in mid-March, U.S. prices have continued to trend lower. Given that the natural gas share of total U.S. energy consumption is approximately 36%, according to the EIA, this has provided an extra layer of insulation from the global oil shock.

Natural Gas Price in United States, Europe & Asia

($/mmbtu)

Despite a history of oil price shocks being associated with recessions, the current price shock does not look like it will be strong enough (yet) to push the economy into contraction. U.S. consumers entered the crisis with strong balance sheets and a solid (but softer) labor market; they are also benefiting from stimulus related to OBBB. Furthermore, the energy share of total consumer spending, currently 3.7%, has fallen substantially over the years as consumers have become significantly more energy efficient.

Private Credit Has Been Having a Moment

The private credit market has grown substantially over the last two decades, resulting in both a compression of credit spreads and greater competition for available assets.

Private credit money flows accelerated following the post-GFC surge in banking regulation as more money moved off bank balance sheets. The headwinds the private debt markets are facing today relate to stress on capital flows as a result of concerns about portfolio exposure to companies at risk of AI disruption. In addition, during the heady days of COVID, loans were made under looser lending conditions and may not have the teeth of newer loans should financial problems ensue.

While this episode is proving painful for some investors in the private markets space, and while we are cognizant of the lessons learned from the GFC (i.e., financial interlinkages can often exist where we never expected them to), we do not believe this represents a systemic risk to the wider banking system for three key reasons:

1. Private credit accounts for a small share of bank assets: As exhibit 7 shows, U.S. bank loans to non-depository financial institutions (NDFIs) account for 8% of total bank assets, and of those loans, private credit accounts for an estimated 20%-25%, of which only a fraction will be nonperforming.
   
   

   ---

   Share of Total Assets on U.S. Commercial Bank Balance Sheets, %

   (Total Bank Assets Feb 2026 = $25 trillion, Loans to NDFIs = $1.2 trn)

   

2. Low leverage: Most of these private credit funds take very little, if any, leverage, and when they do it is usually 1.0x-1.5x. On the other hand, had banks retained these funds on their balance sheets rather than outsourcing the loan-making to private credit, they would normally have leveraged them up 10x-12x. Hence, there is a legitimate argument to be made that private credit has helped deleverage the financial system.
3. Duration matching: While banks run greater risk with greater leverage, they also run greater risk by duration mismatching, i.e., borrowing short and lending long. If, for whatever reason, those short-term lending funds dry up (in a bank run, for example), it can cause fire sales of assets and panic across the system, as was the case with Northern Rock in the U.K. during the GFC. For private funds, much of the lending has been done by asset managers and institutional funds, and investments are matched to the duration of the loans; the result is that there is very little duration risk. Furthermore, funds are able to gate themselves, which gives them time to better manage and adjust their portfolio assets.

Given the number of events and the shift in market drivers year-to-date, the first quarter seems like a much longer period. One thing is clear. The pace of change is not slowing. Market moves have been swift and often counterintuitive. Our job is to filter out the noise, understand your unique situation, and implement a goals-based strategy that captures long-term growth and mitigates risk.

We wish you a happy spring and hope to see you soon.

Total Returns
Source: Factset