Quarter in Review
The fourth quarter was not an easy one for markets but ended up being a productive one with all major asset classes finishing in positive territory (S&P 500, +2.7% and Aggregate Bond Index, +1%). Risk appetites faced multiple setbacks during the quarter, including a record-breaking government shutdown, weak job data, and rising AI valuation concerns. Ultimately, markets recovered and investors gained policy clarity on a few fronts, including Fed cuts, and economic data showed overall resilience with a robust 4Q GDP number. Equity markets broke some trends that held most of the year, with growth underperforming (+2.2%) value (+3%) and more defensive sectors like healthcare outperforming (+12%). In fixed income, two Fed cuts drove fixed income performance, with shorter duration segments outperforming on curve steepening. Credit had positive performance as spreads remained historically tight but underperformed (+0.70%) broad market returns, and MBS showed strength (+1.50%) during the quarter.
Despite major policy and macro disruptions, markets and the global economy displayed remarkable resilience in 2025. The S&P 500 gained nearly 18% and made 39 new highs during the year but lagged even stronger global markets, with the ACWI ex-US index returning 32% in 2026, its best year since 2009. Bond markets had strong returns also, with the Aggregate Bond Index gaining +7.3%, driven by yield carry and Fed easing. Three Fed cuts in the second half translated into lower yields across the curve and curve steepening (2yr yields, -77bps and 10yr, -37bps). Credit spreads were stable (-2bps for year), allowing all core markets to reap solid gains in the 5% to 9% range, with similar returns in high yield (+8%). Asset class outliers for the year were precious metals to the upside, with gold surging to its best year since 1979 (+66%), and to the downside were oil (-20%) and crypto (bitcoin, -6.5%).
Macro Outlook & Positioning
This year was driven largely by policy shifts — a new administration, trade developments, Fed actions, and the tax bill. In 2026, the focus will shift to how the economy responds to those policies. The outlook remains tilted toward the bullish side for sentiment and risk assets, supported by tailwinds of a healthy consumer, stimulus from the tax bill, tariff revenues, and continued AI-related spending. At the same time, slowing service prices, slowing wage growth and fading tariff impact should help contain inflation. For 2026 we expect GDP growth to moderate from recent strength but deliver a still solid 2% and inflation to remain sticky but resume progress toward the targeted 2% level. Labor market weakness remains the primary risk to the economy, and we expect further cooling to bring uncomfortable data over the next quarter or two. We would note that immigration cuts and productivity gains should continue to depress labor supply, lowering the breakeven payrolls to under 50k per month. Ultimately, we expect the tailwinds mentioned above to support aggregate demand and put a cap on the unemployment rate around the 4.6% level. If this scenario plays out, it leaves less room for Fed easing. Fed dialogue remains dovish with the goal of easing further toward the neutral rate, currently defined as roughly three cuts in 2026. Assuming at least two cuts, we expect lower front-end rates in 2026 (2yr, 3.25%) but expect long rates to remain elevated on supply and lingering fiscal uncertainty (10yr, 4.0%). Besides data influence on these expectations, the turnover at the Fed will add a meaningful wrinkle to the rate outlook. A new Fed chair and an additional FOMC vacancy early in the year could tilt the committee more dovish and create another vote for keeping overall positioning biased toward lower rates in 2026.
Despite the supportive backdrop, macro risks remain abundant amid historically full valuations. The risks most likely to impact volatility and valuations in 2026 include the progression of AI investment and subsequent funding needs, and any further private credit cracks and/or fiscal surprises. All three have scope to impact both fixed income and equity valuations, having reared their heads in 2025. Our outlook suggests upside but also having an eye toward quality and liquidity. Returns in 2026 will be driven by earnings growth and yield, with limited scope for spread tightening and multiple expansion. To this end, our overarching portfolio strategy is focused on stability, yield generation, and valuation opportunities. In fixed income, we are full duration and our favorite sectors from a stability and valuation perspective are MBS and financials. In global allocation strategies, we enter the year neutral US exposure and full beta, but with lower average valuation multiples than the broad markets.
Fixed Income Overview
The setup for fixed income in 2026 appears positive and similar to 2025 with decent yield carry and expected Fed cuts – just maybe a little less of both. Yields are 50-70 bps lower for most core fixed income indices, but they are still attractive at above 4% and will generate meaningful carry. Current Fed pricing implies three cuts, which is where we landed in 2025. Our view on rates is that three currently looks aggressive given growth and inflation momentum, but two is likely. And the Fed tone may get a dovish boost into mid-year on the FOMC makeover, with both a new chairman and Atlanta Fed president. This suggests fixed income investors should stay positioned for lower rates overall but more neutral early in the year. This view is also supported by the historical pattern in midterm election years, when rates tend to face upward pressure early before declining after mid‑year — particularly against a backdrop of strong growth, with GDP printing 4.3% in Q3 and tracking ahead of consensus in Q4. If the credit spread outlook also feels like 2025, it’s because it is. Spreads sit at historically tight levels and at almost the exact level as they entered 2025 with. Consensus on spreads seem to be that they will “hold the line,” and while there is historical precedent (2003-2006) that spreads can stay tight if fundamentals stay firm, these levels leave allocations more vulnerable to shocks. One condition that is changing is liquidity, as evidenced by the pivot in many global central banks toward tightening from easing, less bank reserves, and cracks in less liquid markets like private credit. To this end, we enter 2026 with an even more cautious mindset toward credit.
From a broad positioning standpoint, we believe 2026 should be about excess yield generation again, but with an eye toward stability given spread levels. We are full duration across strategies and view core and intermediate duration strategies as the most favorable overall for investors when considering yield, curve, and total return potential. Duration opportunities are likely to present themselves later in the year if rates do come under some midterm and growth-related pressure. Our credit risk is lower than benchmarks, but we continue to outyield by leaning on security selection and an overweight to agency MBS – which still provides excess yield vs. credit at lower risk. In credit, we favor large banks, regulated utilities, and natural gas-centered energy businesses. Within core plus strategies, we carry moderate and well-diversified exposure in non-core sectors. We lowered high yield and loan exposure in the second half of 2025 in favor of increased preferred stock and higher-income securitized exposure.
Equity Overview
Macro drivers remain supportive for global equities heading into 2026, with strong earnings expectations and a favorable balance between policy and growth. Added to this is receding trade uncertainties and improving outlooks abroad (China growth, eurozone fiscal spending). Last year was the first positive equity return year that non-US markets outperformed the US since 2012. US market breath also improved, with value and small cap matching growth returns in the second half. That said, valuations and concentration risk are still elevated and warrant caution. Returns are likely to come from earnings growth rather than multiple expansion in 2026, making tactical shifts and a focus on diversification and valuation opportunities essential. Our positioning into 2026 across multi-asset strategies includes an overweight to equities vs. fixed income and a full equity beta vs. benchmarks to capture upside related to medium-term tailwinds. Within equities we are balancing our risk position with lower average valuation multiples than the broad market, an allocation to small caps to increase diversification and reduce concentration risk, and several tactical sector tilts. These are focused on valuation opportunities and stability and include healthcare, banks, and retail. Finally, we increased our international exposure in the fourth quarter given improving fundamentals in Europe and still extreme valuation divergence vs. the US.
