Third Quarter 2026 Update

October 6, 2026

Key Points

• Equities extended their rally into the third quarter, though gains grew more volatile as renewed inflation pressure and a hawkish Federal Reserve rate hike offset AI-driven earnings optimism
• Fixed income markets faced intensifying headwinds during the third quarter, as a re-escalating energy-driven inflation shock, the Federal Reserve’s first rate hike since 2023 under Chair Kevin Warsh, and deepening 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 variables shaping the path ahead.

3rd 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

The U.S. economy kept expanding at a solid pace through midyear: according to the Bureau of Economic Analysis’ (BEA) third estimate, real Gross Domestic Product (GDP) grew at an annualized 2.2% in Q2 2026 (the latest data available), up from the prior estimate of 1.5% and slightly below Q1’s upwardly revised 2.5%. The labor market remained firm, if uneven: nonfarm payrolls rose 162,000 in August, the strongest gain since March, following an upwardly revised July gain of 21,000, while unemployment held at 4.1%. Against this backdrop, the Federal Open Market Committee (FOMC) unanimously raised the federal funds rate by 25 basis points to a 3.75%–4.00% target range on September 16, 2026, adopting a more hawkish stance as it weighs solid growth against elevated inflation. Price pressures remain above target but have moderated: following the BEA’s annual update, the Personal Consumption Expenditures (PCE) price index rose 3.4% year-over-year in August (core PCE at 3.0%), matching revised July readings (previously 3.7% and 3.3%), though it rose at a 5.0% annualized rate in Q2 (core 3.3%). The Fed’s September Summary of Economic Projections, released before those revisions, places 2026 PCE inflation at 3.7%, up from 3.6% in June, with policy leaning restrictive to guard against a reheating inflation outlook.

EQUITIES

Equities extended their rally into the third quarter, though gains grew more volatile as renewed inflation pressure and a hawkish Federal Reserve rate hike offset AI-driven earnings optimism. Markets climbed to fresh record highs in August as cooling inflation data and blowout AI earnings fueled a rally, before pulling back sharply in September as a resurgent energy shock and rising Treasury yields weighed on sentiment. Q2 2026 earnings proved exceptionally strong, with 86% of S&P 500 companies reporting actual EPS above estimates, and the index delivering its seventh consecutive quarter of double-digit year-over-year earnings growth. By quarter-end, the S&P 500 remained up roughly 13% year-to-date, supported by strong earnings delivery and AI-driven momentum, even as the policy and inflation backdrop remains a source of caution heading into the fourth quarter.  he MSCI EAFE Index of developed markets stocks was higher by 0.8% and emerging markets stocks were lower, as the MSCI Emerging Markets Index declined by 0.4%.

FIXED INCOME

Fixed income markets faced intensifying headwinds during the third quarter, as a re-escalating energy-driven inflation shock, the Federal Reserve’s first rate hike since 2023 under Chair Kevin Warsh, and deepening geopolitical uncertainty from the Middle East conflict weighed on total returns across most sectors. Treasury yields surged to fresh multi-decade highs, with the 2-year reaching 4.93%, the 10-year 5.29% (its highest since 2007), and the 30-year 5.63% (its highest since 2004), as markets priced in a higher-for-longer path with additional hikes.

SUMMARY

The economic backdrop entering the fourth quarter of 2026 is more complex than it was earlier in the year, as growth has decelerated meaningfully, while inflation has re-accelerated further. Despite intensifying geopolitical conflict, surging oil prices, and persistent inflation, the U.S. economy has continued to show underlying strength, with strong corporate earnings, resilient manufacturing activity, and a labor market that has proven more resilient than midsummer data suggested. After a weak stretch through the summer, payroll growth surged in August and prior months were revised substantially higher, shifting the narrative from a jobless summer to renewed hiring momentum, though information and financial activities remain areas of persistent contraction.

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, though the collapse of the tentative summer peace framework has instead reignited 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 variables 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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