LSEG: Despite volatility, US markets enter 2026 with resilient fundamentals
US markets enter 2026 after a highly volatile 12 months, swinging from one of the steepest equity declines since the Global Financial Crisis to a strong rebound, driven by AI optimism and firm earnings.
Despite persistent macro uncertainty, LSEG analysis shows that underlying fundamentals across equities, consumers and key credit markets remain broadly supportive.
Key findings from the Outlook
Macro-economic outlook: Low recession risks despite tariff and geo-political risks
Although geo-political risks remain, recession risks in both the US and globally remain relatively low for 2026. This reflects the easing in financial conditions since the April 2025 tariff spike, and central banks’ reluctance to shrink balance sheets back to pre‑GFC levels to reduce financial‑stability risks.
Inflation is still above some central bank targets, but there is little evidence of a return to a high inflation regime. Thus, the US Fed has scope to ease policy further if required, should unemployment increase faster in 2026. In Europe, with ECB rates already at 2%, more active use of German fiscal policy is an important supplement to demand growth.
Longer dated G7 government bond yields near post-GFC highs, and above 5% in some maturities, also discount substantial debt/GDP ratios and government funding burdens. Yields at this level also transform net funding positions of defined benefit pension schemes, in the US and Europe, driving strong surpluses and increasing the attractiveness of LDI flows into fixed income.
US Equities: Resilient fundamentals despite elevated valuations
US equities staged a remarkable recovery in 2025, delivering a third consecutive year of double‑digit gains, with valuations now near internet bubble levels of the late‑1990s. If US equities post another year of 10%+ returns in 2026, it would be only the fourth time in 125 years such a streak has occurred.
Nonetheless, the near-term outlook for US equities remains supported by:
- Earnings breadth improving, with S&P-493 earnings expected to grow 13.2% in 2026 – the strongest since 2021.
- Profit margins remaining near record highs.
- Markets pricing in 2-3 Fed rate cuts in 2026.
However, investor patience is a key risk with long duration‑ AI investments carrying uncertain payoffs. AI-related hyperscaler capital spending projected to hit $485bn in 2026 and could exceed US$515 billion according to StarMine SmartEstimate.
Global equity flows reveal clear regional divergence
- Money Market USD was by far the most popular fund classification over 2025, as was the case in 2024. There are significant shifts in allocations when compared to 2024, both globally and regionally, however.
- Equity US funds, while still in positive territory, have ceded their second place globally in 2024, slipping to eighth overall
- After a positive start, US allocations to Equity US have been very volatile, with a particularly strong sell-off in May, with an asset allocation shift to bonds over the year.
- Early in 2025, European investors were positive on Equity US funds, although this has waned over the year, as investors diversified to other areas, such as Equity Europe. Asian investors, in contrast, have been more consistently supportive of Equity US, which is the most popular classification for the region in 2025.
This divergence underscores that equity rotation going into 2026 is not just a US story – investor appetite for globally diversified exposures remains strong outside the US, even as domestic flows become more selective.
Retail Consumer: Growth expected to re‑accelerate in 2026
The LSEG Retail/Restaurant Index points to strengthening momentum: earnings rising from 5.9% (2025) to 10.9% (2026) and revenue from 4.6% to 5.8%, signaling resilient US consumer demand and a broader sector rebound.
Funds: Money market funds dominated 2025 flows with ETF momentum continuing
Money market funds led 2025 flows, supported by 4-5% yields, while ETFs outpaced mutual funds with $502bn in equity inflows. Regional trends diverged: Europe’s inflows collapsed by early 2026, Asia stayed consistently positive, and US equity demand fell sharply, dropping from $317bn to $71bn.
US debt markets: Resilient but divergent performance across sectors
Agency RMBS:
Expected to remain steady in 2026, supported by stable issuance, improving affordability and potential policy‑driven liquidity enhancements. Prepayments should remain muted unless mortgage rates decline materially.
Non‑Agency RMBS:
A strong 2025 (+42% issuance, led by Non‑QM) carries into 2026, with rising prepayments across 2023–25 vintages. In a stable macroeconomic environment in 2026, further Non-Agency issuance growth may continue.
CMBS:
We maintain a cautiously positive outlook for CRE and CMBS markets in 2026. We expect to see improved maturity performance in a constructive refinancing environment, more transactions and distressed sales, and property price set up for a rebound but with limited magnitude due to challenging NOI growth and elevated cap rates. We also anticipate CMBS valuation to remain resilient and investment success in CMBS to hinge on asset selection and credit differentiation.
Collateralized Loan Obligations (CLO):
CLO fundamentals remain constructive in 2026 as further Fed easing, sustained investor demand, and stabilising credit fundamentals provide a solid foundation for continued market growth.