If we had a word that described 2025, it would be “uncertainty.” The new administration quickly enacted new policies – many of which were radically different than the existing order. The use and threat of tariffs became a primary tool to influence foes and allies alike. A mixture of hard and soft power was utilized to influence world events. Domestically, the administration took a hard line approach to immigration, while also intervening in several industries.
Wall Street generally hates uncertainty. But with the exception of the first few months of 2025 when the president’s new policies were first implemented, the economy continued to grow, and the stock market continued to advance. It’s not that uncertainty went away. Instead, it appears that the economy and markets learned to live with it. As a result, the S&P 500 returned 17.9% in 2025. Though tech and particularly artificial intelligence (AI) stocks led the way, the broad market advanced as well. The Equal Weighted S&P 500, which strips away the excessive influence of tech stocks’ high valuations, returned 11.4% over the same period.
Assessing expectations for 2026, we recognize that though government policies are impactful, our outlook cannot be a simple agreement or disagreement with those policies. With that caveat in mind, we will cover six topics: technology and particularly AI, the interest rate environment, inflation, housing markets, the consumer, and market valuations. We will then tie it all together, summarizing our outlook for the year.
In this country’s history, most extended economic and stock market booms were driven by technology. This includes the industrial revolution, trains, the automobile, radio and TV, computers, smartphones, and now AI. What all these technologies have in common is that they both led to acceleration of capital expenditures to implement the technologies and growth in productivity as the technologies have taken hold. This is especially true with respect to AI.
If we take the largest public technology companies involved in AI, it is expected their capital expenditures will be roughly double in 2026 what they were in 2024. There will be additional spending on chips and components, software, and energy infrastructure. 2026 will also likely see an acceleration in AI enhancing productivity in the economy. According to the World Economic Forum, AI can already perform tasks worth $4.5 trillion. That is not insignificant in an economy whose GDP currently is approximately $31 trillion.
Many believe this will result in a loss of jobs and hurt the economy. While specific jobs and sectors will be negatively impacted, overall, the technology is likely to increase output and temper inflation throughout the economy.
Interest rates impact the ability of individuals and businesses to invest, the size of our government deficits, and how stocks are valued. There is clearly pressure to lower short-term interest rates. The Federal Reserve (Fed) has been slowly lowering rates as it has become more concerned about full employment than it is about inflation. Additionally, the president has placed enormous pressure on the Fed to lower rates. The next Fed chairman will be a Trump appointee and reflect his views. Additionally, the Supreme Court has taken a case that will determine under what conditions the president can remove Fed governors.
The markets may not view favorably the loss of independence by the Fed. As a result, longer term interest rates, which the Fed does not control, may not fall as much. If Fed actions are viewed as inflationary, they may even rise slightly. We expect short-term rates will fall in 2026, while longer-term rates will remain sticky. However, we do not believe long-term rates will rise to the point where they impede the economy.
Inflation is impacted by monetary policy. Loose monetary policy will likely lend an upward bias to inflation. Inflation will also be impacted by tariff levels and other trade disruptions. While the labor market is not particularly strong, there is a shortage of people in many skilled positions. Also, lack of immigration and the tendency for minimum wages to be increased will lead to inflation, currently running about 2.7%, to tick upward. We wouldn’t be surprised if inflation rose to 3% for the year.
Housing is a major part of the economy, and with high housing prices and mortgage rates, housing has been a drag on the economy for several years. That being said, both mortgage rates and housing prices have been drifting downward. Meanwhile, the government is pondering several steps to boost the housing market. Some of the proposed policies include allowing buyers to utilize their 401(k)s to fund down payments and for government agencies to intervene in mortgage markets to lower rates. Whether these policies actually make much of a difference, it is likely that housing will not be a drag on the economy in 2026 and might provide a slight upward bias.
Unfortunately, consumers are a bit tapped out financially. Real spending is slightly outpacing real outcome. Consumers are depleting savings and increasing borrowings. We don’t think levels of spending have brought us to a critical point. Helping the consumer will be favorable changes to tax laws. With that said we do think consumer spending growth will be slightly slower in 2026 than in 2025.
So overall we expect continued modest economic growth this year. But what about the stock market? Valuations, on the face of it, are high by historical standards. If we exclude the technology bubble of the late 1990s, and exclude recessionary periods when earnings were low (making valuations seem high), current valuations in the market are as high as they’ve been in the past 60 years.
But we must consider the impact of interest rates. Valuations tend to be lower when interest rates are high and vice versa. Adjusting for the current level of interest rates, valuations appear to be more in line with historical standards. Yes, tech valuations are high, but many traditional companies have more reasonable valuations.
This does not mean one should necessarily sell tech stocks. As AI advances the stocks could do quite well. On the other hand, in any market downswing, those stocks could get hit particularly hard. As there is so much uncertainty, the stock market may be prone to several large swings in 2026. Most stocks will be impacted in both directions. Among tech stocks, swings will most likely be larger.
Our final thought is that we expect returns to be positive in the equity markets for the year with several substantial swings throughout. We advise investors stick with their long-term plans and not react emotionally to events as they occur.
Past performance does not guarantee future results. Pinnacle Capital Management is an SEC Registered Investment Advisor and proud member of the Pinnacle Family of Companies, an organization designed to provide a full range of financial solutions to individuals, businesses, and institutions. For more information on our member companies, visit Pinnacle-LLC.com. Opinions are our own and do not constitute financial advice. Talk to your financial professional for any advice specific to your situation.