Second Quarter 2026 Update

August 6, 2026

Key Points

• Equities staged a strong recovery in the second quarter, with major indexes rebounding sharply from Q1’s losses as AI-driven earnings optimism and easing geopolitical fears outweighed persistent inflation and a more hawkish Federal Reserve.
• Fixed income markets faced renewed headwinds during the second quarter, as an energy-driven inflation shock, a more hawkish Federal Reserve pivot under new chair Kevin Warsh, and elevated geopolitical uncertainty from the Middle East conflict weighed on total returns across most sectors.
• On balance, current evidence supports an outlook of continued but more uneven growth, with policy uncertainty, inflation persistence, and geopolitical developments remaining the primary variable shaping the path ahead.

2cd QUARTER 2026 MARKET COMMENTARY

Below, we’ve highlighted broad market returns for the current quarter and year-to-date time periods:

Source: Refinitiv

THE GLOBAL ECONOMY

After accelerating last summer, the U.S. economy decelerated meaningfully into the winter: according to the Bureau of Economic Analysis’ (BEA) second estimate, real Gross Domestic Product (GDP) grew at an annualized 0.7% in Q4 2025, down from 4.4% in Q3. That slowdown sits alongside a more uneven labor backdrop: nonfarm payrolls fell 92,000 in February 2026 following a downwardly revised January gain, and the unemployment rate rose to 4.4%, signaling a clearer cooling in hiring and broader slack emerging in the job market. Against this mixed backdrop, the Federal Open Market Committee (FOMC) held the federal funds rate at a 3.50%–3.75% target range on March 18, 2026, reinforcing a cautious stance as it weighs weakening labor data against still-elevated inflation. Price pressures remain above target but are not re-accelerating: the BEA’s Personal Consumption Expenditures (PCE) Price Index rose 2.9% year-over-year in Q4 2025 (core PCE at 2.7%), consistent with a slow drift lower in underlying inflation. Reflecting that trajectory, the Fed’s March Summary of Economic Projections places 2026 PCE inflation at 2.7%, acknowledging persistent, yet easing, pressures as policy navigates between softening growth and a cooling labor market.

EQUITIES

Equities staged a strong recovery in the second quarter, with major indexes rebounding sharply from Q1’s losses as AI-driven earnings optimism and easing geopolitical fears outweighed persistent inflation and a more hawkish Federal Reserve. Markets pulled back early in Q2 as the Iran conflict continued to weigh on sentiment and keep energy prices elevated, but recovered quickly as earnings results arrived well above expectations.  Q1 2026 earnings proved exceptionally strong, with 84% of S&P 500 companies reporting actual EPS above estimates, and the index delivering its sixth consecutive quarter of double-digit year-over-year earnings growth.  By quarter-end, the S&P 500 had more than reversed its first-quarter loss of 4.3%, with a gain of 15.2%.  The MSCI EAFE Index of developed markets stocks gained 10.8%. Emerging markets stocks were also higher, as the MSCI Emerging Markets Index advanced 24.1%.

FIXED INCOME

Fixed income markets faced renewed headwinds during the second quarter, as an energy-driven inflation shock, a more hawkish Federal Reserve pivot under new chair Kevin Warsh, and elevated geopolitical uncertainty from the Middle East conflict weighed on total returns across most sectors. Treasury yields rose to their 2026 highs during the quarter, as markets priced out rate cuts and began pricing in hikes.  Total returns on fixed income securities were, on balance, positive during the quarter.  Overall, investor positioning has grown more cautious and income oriented.

SUMMARY

The economic backdrop entering the second half of 2026 is more complex than it was at the start of the year, as growth has re-accelerated meaningfully, but so has inflation. Despite geopolitical conflict, higher oil prices and persistent inflation, the U.S. economy has continued to show underlying strength, with strong corporate earnings, rising manufacturing activity, and a labor market that has proven more resilient than first-quarter data suggested.

Household conditions are more strained than earlier in the cycle. Higher energy prices from the Iran conflict have diverted household resources toward non-discretionary spending, weighing on real consumer outlays and eroding purchasing power for many families.  Wage growth, while still nominally positive, is running below overall inflation.

Corporate fundamentals remain solid. An exceptional Q1 earnings season and upward revisions to full-year profit expectations underscore continued resilience, supported by AI-related capital investment and ongoing margin discipline.

Consensus views acknowledge meaningful but manageable risks. A durable resolution of the Iran conflict and associated decline in energy prices would relieve significant pressure across both the inflation and consumer spending outlooks, and recent signals of a tentative peace framework have already begun to ease some of that pressure. Conversely, second-round energy effects, a resurgence in core services inflation, or further policy tightening could dampen an otherwise resilient expansion. On balance, current evidence supports an outlook of continued but more uneven growth, with policy uncertainty, inflation persistence, and geopolitical developments remaining the primary variable shaping the path ahead.

Information provided is for informational purposes only and should not be construed as investment advice. The views expressed are current only as of the publication date, are based on information that St. Clair Advisors believes to be accurate, and subject to change without notice. All investment decisions must be evaluated as to whether they are consistent with your investment objectives, risk tolerance and financial situation. St. Clair disclaims any liability for any direct or incidental loss incurred by applying any of the information in this publication. Indexes are unmanaged and one cannot invest directly in an index. Past performance is no guarantee of future results.

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