Market Outlook

Making Sense

Market Update | September 2026

Recorded September 30, 2026

Amy: Hello, everyone. I'm Amy Thomas. Today is Wednesday, September 30, 2026, and I want to welcome you to our monthly Market Update series. Today, Brent Ciliano and Blake Taylor will take a deep dive into what's happening in the markets and the economy. As always, the information you're about to hear are the views and opinions of only the authors at the time of recording and should be considered for educational purposes only. This should not be considered as tax, legal or investment advice.

And Brent, with that we're ready to go. So I'll turn it over to you.

Brent: Thank you Amy and good afternoon, everyone. Hope all of you are well. I cannot believe it, Blake. The third quarter is effectively over, and we're starting the last quarter of the year. Where did time go?

Blake: It certainly flew by.

Brent: Yeah, it's kind of crazy. Well, I know that we have an awful lot to cover today, so why don't we jump in?

So we're going to go through and do our normal economic update. We'll talk a little bit about what's going on in the growth side and certainly the ever-present inflation, labor market and certainly monetary policy. But then we're going to get deep into the market side of things, talk about equities into these incredible fundamentals that we're seeing in corporate earnings and profitability. We'll talk a little bit about valuation and get into some fixed income.

So you want to take it away on the economic side?

Blake: Yeah, sure. The biggest thing to know right now about the economy, if you only got one thing to know, is that the economy is running pretty hot. In general, as you might have heard from a lot of our presentations, kind of a nice baseline for the economy would be 2% economic growth, 2% inflation. And then add those together and you get 4% what we call nominal growth, which is before adjusting for inflation. Right now, that's running above 6%.

Brent: That's incredible, isn't it?

Blake: So we are not in what a lot of people might have described in the economy as a slowdown or a recovery or landing the plane or anything like that. The economy is simply running hot.

Unfortunately, what we're showing here between these blue and gold lines is that that nominal growth before adjusting for inflation is where we're seeing a lot of the uptick. That real growth, which is after adjusting for inflation, is fine. It's definitely a healthy number, but it's that gap in between. And what is that? That's inflation. So adding together inflation and economic output is showing us that the economy on a year-on-year basis is really running quite hot.

Now what is underneath the hood of that? What we like to see is really healthy household or consumer spending growth. And again, that's running at a pretty decent pace. But what is really holding up the economy or propelling the economy onward is private investment growth—in other words AI spending. So if we look back towards the start of the year and we look at expectations for what's going to drive the economy, this lefthand side of consumer spending growth has actually kind of flattened out or declined in terms of how much we expected it to contribute.

And as a result, look at the righthand side, we've seen a decline in the personal saving rate—so the amount that households are keeping put away into savings as opposed to just spending. High inflation a lot of times is not a choice for households. It might be a choice for policymakers. But high inflation is not something that households get to choose whether or not they participate in.

And as we see over the last few years, that household savings rate has declined. And you and I think that that's what's driving a lot of the rise in credit card growth and revolving credit extension. So nothing is ever perfect in the economy, but things on the aggregate are looking quite hot, running quite well. Go underneath the hood and you start to see some pockets doing better than others. And that's largely AI powering the economy, households and consumers kind of getting by depending on the inflation experience.

Brent: One of the biggest factors impacting consumption, Real GDP and monetary policy is this persistently high inflation—I mean, running well above the Fed's 2% target. So we've been going 66 consecutive months of inflation running hotter than the Fed's 2% target. And after today, likely to be 67 months and counting.

Blake: So it wasn't transitory?

Brent: No, it was not transitory. And you think about what's impacting that, right? So the conflict with Iran, right? You know, what you just mentioned, massive, basically unprecedented hyperscale or capital expenditures really driving that, right? So it's one of those things that we're going to have to continually watch. But I think we're going to be running with higher inflation for quite some time.

And if we think about sort of the forward trajectory of this, Blake, and we think about energy prices, what we're showing here in the dark blue line is diesel fuel and the gold line, regular unleaded. Gasoline prices have gone up pretty precipitously. And if we think about the impact on goods inflation or foods inflation or anything that really goes through long-haul carriers, having diesel at about $6.50 a gallon is definitely going to put pressure on prices going forward.

So our view is that inflation is likely to be higher for a good bit of time, even against the backdrop of whatever monetary policy implications. And I know that we're going to get into that in a minute.

Blake: And these are these are sticky factors. These are when companies start to price for higher diesel, if it does come back down and in a few months, maybe halfway, then the price will follow a little bit. But it doesn't snap on and off.

Brent: Absolutely. And so at the end of the day, you and I know that consumers don't care as much about the year-over-year change in inflation. What really matters is sort of that cumulative buildup in prices that really eat into consumer spending. What we're looking at here is a basket of consumer necessities and what that's done over the last 6 years.

If we look at that green line, dotted line, on the bottom—if inflation really grew at the Fed's target for the last 6 years of that 2% target, the cumulative growth of prices would be about 14%. And as you can see here, whether it's electricity, natural gas, vehicle insurance, vehicle maintenance, food—all of that is growing at 2 to 4 times faster than normal.

And so that cumulative price toxicity is really building up as it relates to where much of those consumer dollars are having to go, which certainly is going to have to abate. And even if we're lucky enough to get inflation back down to that 2% target, that just means that that cumulative impact of higher prices is just going to grow at a slower rate than what's going on. It doesn't go down. It's just growing at a slower rate. So we really have a problem in front of us.

Blake: The other half of the economy that we think about is the employment side. And as has been the case for several months, unemployment remains low. The jobs market is not perfect. Job growth has been slow. And what we've been characterizing it as is low hire, low fire. So if someone has a job, then chances are they're going to be pretty secure we think for some time because employers appear pretty reluctant to shed workers into what is sort of a tight labor market.

But people who are out of work are not going to have as many opportunities to get new work or at least the jobs that they're most qualified for or most desire.

Now, unemployment's at 4.1%. That is a very low level. But what's really interesting that we've flagged a few times in recent quarters is these two things that we've circled, one in the late 1960s and one right now. The long history of the unemployment rate is that it's either doing one of two things. It's either shooting upward during a recession, or it's falling fairly slowly and gradually during an economic expansion—in other words, the normal times.

There's been two exceptions to that. One, in the late 1960s around the Vietnam era when there was a lot of economic dislocations. The unemployment rate moved down and up without a recession. Over the last couple of years, the unemployment rate bottomed after the post-Covid boom, started to creep up, but there was no recession and now it's starting to move back down.

This is the first time in 75 years of recording the unemployment rate that that trend has happened. So this is an unprecedented labor market. We always hit the pause button when we find ourselves or listen to anyone else saying this time is different. But looking at this graph, this labor market is different. And we're still in a confusing, low-hire, low-fire setting.

Brent: And you have to almost ask yourself, Blake, right. You know, if you pump in $10 trillion of monetary and fiscal policy stimulus post an unprecedented global pandemic, what are the aftershocks, you might say, as it relates to things, whether that's inflation, whether that's the labor market, whether that's growth in consumption, right? So we truly might be in unprecedented territory as it relates to understanding the true implications of that much fiscal and monetary stimulus.

Blake: Absolutely. And the way that this combination of high inflation and stable employment has played out has been a pretty dramatic shift in Fed expectations. So at the beginning of the year, we came in and the market was expecting the Fed to cut interest rates about three times. That's because they thought that inflation was headed straight back towards 2%, which they pretty much always think is the case.

The labor market was looking a little bit softer, and there didn't appear to be very many risks. Queue February 28th, 2026, and the beginning of the Iran conflict, and that all began to change. Prices started to rise, energy prices grew and energy supplies grew constrained. But that's not the whole story. What else happened in Q2 of this year?

That is when we started to realize the vastness of this AI CapEx boom—and how that boom was also competing for resources that was driving inflation higher. Fast forward to today. The Fed has now hiked interest rates by a quarter point. And 12 months ahead, the market sees them hiking three to four, now about four more times.

So just a really dramatic reversal of moving from the beginning of the year of cutting rates about three times, easing financial conditions, now moving to the end, hiking rates four to five times over a 12- to 15-month period, tightening financial conditions.

Brent: And it's no wonder, Blake, that we're seeing this much bond market volatility. When you're changing expectations, the equivalent of 725 basis-point moves. I mean the bond market is wondering what direction we're actually truly going and to what magnitude. On top of it you've got the other half of it, which is sort of that fiscal referendum that they're contending with. So a lot of information needs to be sorted out for the bond market to stabilize.

Blake: And I think that's a perfect segue into our last slide in the economic section here, which is a reminder that longer-term interest rates, like the 10-year Treasury and the 30-year mortgage rate move on factors other than just the Fed.

So anytime you hear someone saying, oh, well, the Fed is going to do its thing, the Fed's going to going to lower rates, so the mortgage rate is going to come down. That literally wasn't the case when they started cutting rates in late 2024. So that's what we're showing here is right from when the Fed started its rate cutting cycle, remember that began in September of 2024. They moved rates down by a full 1% in 2024 and then again by three quarters of a percent in 2025. Look as that stair steps down. Look what happens to those blue and gold lines, which is the 30-year mortgage rate and the 10-year Treasury yield. They moved in opposite directions. The Fed cut rates. Those longer-term yields went higher.

Now we're hiking rates. And yes, the longer-term rates are moving higher. It's not just moving in lockstep with the Fed. As you said, it's a fiscal referendum. It's a long-term inflation outlook. It's a long-term growth outlook. The outlook for investment spending and demand all plays into this. These other factors are what drive long-term rates. Also the Fed as one factor, not the only factor.

Brent: So let's shift gears a little bit, Blake, away from the economy. And let's kind of get into markets. We are a little—it's hard to believe—we are about a couple of weeks away from the 4-year anniversary of the start of this bull market, which started back on October 12th of 2022.

And it's incredible. We're up more than 125% from that level, which is just incredible. What I think is interesting along the way, if you go look at the drawdowns that have occurred outside of the tariff tantrum that we had last year, which by the way, while we went down 19.4%, was fully resolved in two-and-a-half months.

The drawdowns have been, you know, less than the average correction, which is usually about 10%. We had the largest geopolitical conflict in more than 20 years. The market only drew down 9% and basically got all fully recovered and got all your money back in less than 14 days. So just the volatility that we've seen has been on the milder side given the broader things that have occurred in our economy in the world.

So if we get under the hood a little bit and we talk about what's been driving markets over the last 4 years, gold line here, as one would expect, Blake, the Magnificent Seven has been powering the S&P 500. And that concentration within the index have been driving the market much higher. But what I think is interesting here is that when you look at the entire series, the Mag Seven has done almost four times the amount of the equal-weighted S&P 500, which has powered the markets further.

What's interesting is when you kind of break this down into the second half of this bull market, we've seen a pretty significant reversal, right? So when I look from, if I go from January of 2025 all the way to now, international markets have actually outperformed the S&P 500 by about 18%. And earlier this year, it was all about small-cap stocks, international stocks.

And starting to see that breadth come into markets and that broadening out of the equity markets trajectory and the bull market, which we think is healthy to see. And you can see that that was where the markets were going. But as we've gotten towards the end of this month, things have started to converge. Our belief is that as we start to expand out, we're going to start to see international small cap and more equal-weighted and breadth within the S&P 500 continue to do well.

Blake: And if there's one thing that you can use, one word to describe the equity market this year, it's earnings.

Brent: That's right.

Blake: Earnings growth is what has been revised substantially higher and has driven the equity market higher this year. Not animal spirits, not multiple expansion, not sentiment—just hardcore earnings. And just think back to Q2. Look at this chart in April. It already started the year about at 15% expectations for 2026 growth and S&P 500 earnings per share—already double the typical rate. That climbed and stair-stepped higher and higher over that Q2 earnings season. Why was that? That's when not only the big tech and microchip stocks, but most of the index came out and told the market, we are making so much money, our profit margins are higher than expected, economic conditions are favorable to our business, if not perfect for everybody. And what that's done is lead analysts to sharpen their pencils and say, we're expecting earnings growth to rise higher and higher and higher. That's the fundamentals that have driven the equity market higher this year.

And look at the pattern since 2021 and dollars of operating earnings per share—2021, 2022, about $200 in an operating earnings per share for the S&P 500. Now we're looking at $360, next year $420 a share. So yes, as you showed a few slides ago, this 4-year bull market has delivered tremendous returns.

And yes, at times and presently, valuations as you'll talk about are somewhat elevated. But that's not the whole story. There isn't only just one story, but if there's one that has dominated in 2026, it's that of earnings.

Righthand side of this slide is net operating margin. What's the profit margin for the S&P 500 as a market-weighted index, which is our typical blue line here, which is going to be dominated by the big tech firms.

But also what about the equal weight? So yes, you're at an all-time high for the market cap-weighting operating margin driven by the big microchip companies and hyperscalers. But this equal-weighted index, which gives everyone the same value in the index, has also popped to an all-time high of almost 15%. So it's been broadening. Not just the tech stocks that are driving.

Brent: And again, for everyone again, that's next 12 months. So it's not what we've done. But if you're thinking about why we're expecting earnings to go from, you know, $364 up to $420, the next 12 months operating margins continue to look good. When you think about the bull market being able to continue that fundamental story isn't abating. And the magnitude of this is just incredible.

Blake: Now, what has driven the market this year and contributed to a lot of those earnings? It's AI. We've showed this chart several times, and we just can't get ourselves to take it out of this presentation deck because it is the most important factor driving the market.

Brent: By the way, it's changing like every month, so we have to put it in there.

Blake: We have to keep updating it, keep adding these cross-stitched lines because they keep telling us they're going to spend more and more trillion dollars in 2027 spent on AI CapEx—numbers that would have been unfathomable a few years ago and would not have even been expected at the start of the year.

Just the magnitude is one thing. Look at those solid blue bars. That's what they told us was going to be the AI CapEx at the start of the year. But again, what we've added on top is they've come back and told us in April and July—and I can't wait to get my hands on the next version of this update—and they say, no, it's going to be climbing higher and higher. So as long as these companies are looking to spend a trillion, a trillion-and-a-quarter dollars, then that's going to continue to fuel investment spending in the economy.

What we're going to be looking for is what happens in these out years. Are we ever going to get a moment where this quarterly update comes out and it is actually, I think we're going to spend a little. That's going to be an interesting sign. We'll see how that plays out when or if it happens. But who knows. We might be a trillion and a half by the time that happens.

Brent: Well yeah. And I think, you know, we're on the road a lot more talking to clients. And I think some of the push back on this is, okay, well what if they do end up spending less? What if the return on invested capital just doesn't materialize? That certainly is a risk. I think so far to date, if you take the roughly $800 billion that we're going to spend this year, and let's just call that effectively done since we just talked about going into the fourth quarter, combined with the $1.2 trillion that we had from 2020 through 2025. So that $2 trillion really needs to see that return on invested capital. And so far, when we've gone through some of the analyst reports, we're starting to see signs that, yes, not only are we seeing that return on invested capital, but the duration to which they're actually recovering that spend is faster than what's expected.

So I think that's what's been powering of late some of those individual hyperscaler names as they've come out with their earnings report, as well as earnings expectations, which is certainly a good sign. But again, this is a lot of money to spend. And we're going to have to certainly see whether or not it actually comes through.

Blake: And to your point, an estimate of primary occupancy in North American data centers is 98.4% as of the first half of this year.

Brent: So let's take this incredible spend and let's quantify the magnitude of this spend relative to other incredible capital expenditures that we've had in our country going all the way back to the late 1800s.

And what you can see with the bar on the far right is that this spend as a percentage of GDP is the second, when it's all said and done through 2030, the second-largest spend in the history of our country, second only to railroads. And I think what's interesting is that you go through railroads, electrification, interstate highways, not all of that was private spend. That was public spend that wasn't expecting a return on invested capital. So when you look at the magnitude of what these private companies are doing, it surely needs to have a thoughtful return because it's an incredible spend relative to other things that we've done in history.

So let's shift gears a little bit, Blake, away from hyperscaler spending. And let's talk about valuations because we know it's constantly on the conversations and minds of clients that we've had. What we're looking at here is the S&P 500 forward price-to-earnings ratio. So in English, that's what are investors willing to pay for the next 12 months of earnings? And what you can see, the high that we had back right before the war started—or actually the start of the war here on February 27th—we were trading at more than 21 times forward earnings.

And you can see because of all that incredible earnings and profitability that we've had, valuations have actually gone down and we've actually gotten cheaper from actually the start of the year and at the start of the war to actually now. So you know, we've certainly seen a lot of vacillation in what we call the market's multiple, which is that forward PE ratio.

But by and large, the S&P is cheaper today than when we started the year. And when we kind of get under the hood and let's look at this year, you can see in the blue and gray areas that is the decomposition of earnings growth between three things—earnings growth dividends and buybacks, and then what we call multiple expansion or contraction.

And you can see, almost 140% of the S&P 500 return came from the fundamental side of the equation. And you can see here that we've seen a 5 percentage point decline in the valuation multiple of the S&P 500 down again in percentage terms of that contribution about 35%, which is incredible. That's that denominator effect of earnings just growing at such a rapid rate relative to what's happened from the multiple side and the price side of the equation, which is just incredible to see.

Blake: I think about how different that must be than during some of those other tech booms, investment booms that you just showed, where there was a lot more expectation in the future rather than present.

Brent: And for us, this is emblematic more of a mid-cycle thing than you would have late cycle. Normally in late cycles, you have earnings that start to moderate and moderate lower, and people willing to pay more for that same dollar of earnings as you get late into the cycle and momentum starts to slow. We're not seeing that at all.

And Blake, you know that this is one of my favorite slides because so many clients ask us like, you know, hey, Blake. Hey, Brent. I don't really want to be putting more money into the market. The market's really expensive. What if things start to slide and moderate?

So over the last 35 years, we've been in the 10th decile of expansiveness, right—so first decile, cheapest, 10th decile, most expensive—three other times in 35 years: July of 1995, December of 2016 and most recently September of 2025.

So if we go back to July of 1995 when the S&P 500 hit its most expensive decile, the equity market or the S&P 500 went on to rise for 5 and change more years and another 342%.

Back in December of 2016, the equity market decided to rise for another 6 and change years and another 211% after it hit its most expensive valuation. And here we are. We hit that most expensive valuation in September of last year, and we're only up 18% from that time to now. So again, if history is any guide, expensive markets can stay expensive and rally much longer than most people's expectations.

Blake: And we have a real example for it. Many of you have heard this from us before, but again, we just can't stop telling the story because of how relevant it is. December 5th, 1996, the late, great Fed Chairman Alan Greenspan says that the equity markets are irrationally exuberant. So even if you ignored his advice and bought the market on that day, then you would have seen—after they were supposed to be irrational—then that market would have risen another 115% before the peak of that market in September of 2000.

Of course, what happened after, you had one of the sharpest corrections crashes in the market there. But look what happened at that bottom in October of 2002. Even if you bought the market on what seemed to be the most expensive, irrational day at the time, then even after the crash, you were still up 13%.

Fast forward even a few more years to the so-called lost decade of these double crashes and the dot com and the financial crisis. Even after that next run up and another enormous crash down to March 2009, you were still up by 11.9%. So a very tough time to be invested over that period.

But the point is, staying on the sidelines is what would have been worse. So expensive markets can rally much further, and it's impossible to know whether you are at September 2000 at the very top or you're at December 5th, 1996, where there's still 115% left to go.

Brent: And you and I looked at this yesterday, the data, right? You know, from the Greenspan irrational exuberance speech to now, again, this is why market timing is nearly impossible and incredibly dangerous. Your cumulative return from December 5th of 1996 to today is more than 1,600% despite the lost decade and everything that's going on. So time in markets is what accumulates, and it creates wealth over time.

So again, another question that we always get asked is, okay, guys, well what's your expectation over the next 12 months. And, you know, you and I and Phil we never just do year-end forecasts.

So this is 12 months rolling from the end of August through August of next year. And you can see, first of all, we now have some symmetry between our bear and bull case. Before, we had an asymmetric skew a little bit to the downside, as far as magnitude of those percentage change. But what we're looking at here is our base case is 8,300 over the next 12 months, which is roughly about a 2% reduction to the next 12 months earnings, and about 11% over the months 13 through 24, with slight multiple contractions.

So we believe it's actually a pretty conservative estimate for the next 12 months. And if that were to actually come through to fruition, you're looking at about an 8.2% rate of return. Interestingly enough, the bull case is not that far out of the realm of feasibility. When you think about some of the adjustments that we've made there, which is just a slight increase in earnings expectations, and looking at the slide that you had earlier and analysts revising their estimates up significantly, it's not out of the realm of feasibility that we couldn't see that actually happen.

Blake: What about in fixed income? Fixed income has been the story this month. Start of the year, we had Treasury yields 2-year and 10-year at 3.4% and 3.9%. That was on the expectation that inflation would remain subdued and the economy would hum along at a pretty moderate pace. Boy, how things have changed.

Brent: Oh, have they.

Blake: Just in the last few days, the 10-year Treasury yield has climbed to the highest since 2007, dancing around 5% for a few days, and then shortly after, just breaching through that psychological threshold into the 5.2% range. Two-year Treasury yield, not much lower at 5%. Thirty-year Treasury crossed the highest yesterday since 2002.

So what's going on? Why are these yields so much higher? Is it just because of the Fed? No, we talked about that earlier. Part of the reason, what else is going on? We've got booming investment demand. So the Treasury is now competing with other debt to get investors. So Treasury supply, Treasury demand is a lot of what drives really all that drives these yields.

Inflation dynamics, long-term inflation expectations are higher, growth dynamics are more uncertain. And fiscal deficits, as you mentioned—we're running $2 trillion budget deficits with no end in sight. That doesn't mean that can't be sustained for a period of quite a bit longer. But it is adding to the dynamics of long-term issuance and supply that are driving these yields higher.

Brent: And this is, Blake, this is one of those things where clients ask us, well, Brent, Blake, what could go wrong with equity markets? To your point, if Treasury yields and rates were to continue to rise, you have that competition for capital and that crowding out of private investment. And at the end of the day, the headwind when I think about the discounted present value of future cash flows, as rates continue to rise that discounted present value drops, right?

So that could be one of the headwinds if we continue to see this, continue to rise unabated, which we don't believe is the case, but certainly one of the risks out there on the horizon.

Blake: Now we've been arguing for several quarters that the 10-year Treasury yield and the range of 4% or 4.5% is normal. Looking at this graph since 2018 looks elevated, but 10-year Treasury was trading in that pretty tight channel since 2022 with some fluctuations around 4%, 4.5%. So looking at where it bottomed, and I can never remember the stat. You can always recite this off the top of your head.

Brent: 52 basis points, August of 2020.

Blake: Thank you.

Brent: It's like the Harry Potter scar on your forehead that you remember forever.

Blake: Quite a bit up from that period. So if you just look at this graph then the question is, when are these yields going to come back down? When's my borrowing costs going to come down? When's this tenure going to come down and allow me to refinance my mortgage? That seems like a pretty plausible question, looking at this graph from 2018.

What about when you look at it from before 1980? This is well within the historical average. We had a 40-year secular, not cyclical, bull market in fixed income, which drove yields lower year after year after year until the pandemic. So now that we're up to 5%, 5.23% on the 10-year Treasury yield as of this morning, that looks a lot more in line with historical averages.

So the takeaway that we see from the longer-term history of the 10-year Treasury yield is maybe today's 5% yields are not the anomaly. The anomaly was the period between 2009 and 2021 of near-zero interest rates.

Brent: Absolutely. And, you know, when I think about all this bond market volatility, I actually start to think about opportunity, and we think about where, you know, yields have gone to, right? And this is where the sadistic part of me kind of comes out, right? This is what it feels like and sounds like when you get closer to a market bottom. People always talk about like, hey, I really wish I could get and invest in equity-market bottoms or fixed-income market bottoms.

But when you think about the rhetoric and you think about the noise and you think about the headlines, it clearly never feels good. It always feels like it's going to continue to get worse. But when we think about where we are, all of this fixed-income volatility and yields rising and bond prices going down has increased forward expected returns.

When prices go down, forward expected returns go up and vice versa. What we're looking at here in the blue bars is the average yield over the last decade for these fixed-income sectors. The gold bars are where we are right now, so let's start left to right. If we use a proxy for taxable fixed income and look at the Bloomberg Barclays US aggregate bond index, right? You're talking about a yield today of roughly 5.6%, which is what, 80% more yield than what you've had over the last decade. Look at municipals, right? I mean, you're affectively at a doubling of where yields were over the last decade. And if I think about where we are right now in high-quality municipals, you have a tax-equivalent yield if you're in the 35% tax bracket of 7.5%. If you're in the highest tax bracket, plus 3.8% Medicare surcharge, you're in excess of 8% tax equivalent yield for high-quality munis.

If I think about where the consensus is for forward expected returns for equity markets, and we think about the Horizon Actuarial Study, which aggregates 43 of the biggest firms out there that are forecasting capital market expectations, the 10-year forward expected return for the S&P 500 in that consensus is about 6.5% over the next 10 years, and about 7% over the next 20 years.

So you have a tax equivalent yield for municipal bonds in excess of the expected return of the S&P 500 with a fraction of the volatility. So as you continue to go across—I'm not going to read them all—but balance in portfolios and thinking about fixed-income allocations relative to where they are now versus the expected return over the next 5 years, 10 years is certainly something to consider and certainly conversations that we're having with clients.

Blake: And regarding those conversations, my favorite part about our job is when we say something, present something, and you can tell that it has triggered a thought, a light bulb moment with a client or a colleague, and they're about to make a better financial decision than they were before.

And that happened yesterday when you and I made this presentation to a few hundred people, and we got a Q&A that I'll just pose to you where this person just started to think and said, so what does balance in portfolios look like? And it just it hit me. It felt so good to realize that this person is waking up to the reality that fixed income is an attractive entry point in a way that it hasn't been. So what is the answer to that question? What is balance and portfolios look like today that it didn't before?

Brent: Well, I mean, as we always say, Blake, first of all, we always think whether you're an individual or a business entity, that you need to have a coach and financial plan. So understanding the sequences of needs on your portfolio first and foremost is number one.

And obviously making sure that your risk profile and investment objectives are addressed appropriately. But having balance in portfolios, especially coming out of a period of time where as we just showed you, you didn't get much benefit or bang for the buck from fixed income and equities. And the difference between, you know, annualized equity returns and annualized fixed income returns was a wide gap.

As that gap is narrowing, the opportunity for balance as far as expected returns narrows. And again, having a thoughtful diversification between stocks and bonds, but not only stocks and bonds, allocations among sub-asset classes, that's something that we do all the time. And we're always looking forward in the way that we build portfolios for clients. So just a thoughtful approach to that.

And then we're going to leave you with one last slide, because I can see that we have a ton of questions in the queue here. I want to hit specifically on market timing and what a dangerous game it is. So let's take a look at a hypothetical $10,000 investment over the last 30 years. Over those 30 years, there's roughly 250 trading days in a year, so 250 trading days times 30 years is about 7,500 trading days. If you did nothing, you invested your $10,000 and went fishing or did something productive, your $10,000 would go to more than $264,000. That's 26.4 times your original investment by doing nothing.

Blake: By fishing.

Brent: By fishing. If you decided, or let's say if you missed the 5 best days out of those 7,500 trading days, you had 38% less money. If God forbid you missed the 10 best days put of those 7,500 trading days, you had less than half of that number. So you might be asking yourself, well, Brent, what's the probability that that might happen? Well, if you look at the box on the right, you can see that nearly half of the S&P 500 best days occurred during a bear market.

Another 28% of the S&P 500's best days occurred during the first 2 months of a bull market, when nobody knew it was a bull market. So a full 76% of the S&P 500's best days occurred when you would never want to be an equity investor. So the probability of stepping out of the market because you're a little bit afraid of what's to come can cost you big as it relates to the accumulation of wealth over time.

So again, it's time in markets, not timing markets, that creates to significant wealth over the long term. So with that, Amy, let's turn to Q&A.

Amy: Hey, before we jump into questions, just want to remind you that we have several publications available throughout the month. You can visit FirstCitizens.com/MarketOutlook to get signed up or use the QR code on your screen and we'll send you everything to your inbox as soon as it's available.

Well, thank you guys for jumping in and taking a deep dive into markets and the economy. As you mentioned, there's a lot of questions people are having. The first one right off the bat—valuations are really high. People have some concerns, especially in the equity side of things, around whether getting in is worth the risk.

Brent: Yeah. Well, first of all, it's impossible to time markets. And I would say owning equity risk in your portfolio is one of the crucial ways that you can accumulate wealth over time so you should always have equity risk, right, its not whether it's on or off, and we kind of covered that in the presentation. Valuations have been this high before. And markets have continued to advance for years beyond hitting that high valuation point into significant percentages.—like we were highlighting before back in 1995, more than 342%, post-December of 2016, more than 211%, and it went on for more than 6 years, Amy.

So again, we hit that high valuation point in September of last year, and we're only up 18% from that point. So stepping out of equity markets just because it feels expensive—and as we highlighted and Blake highlighted very well—is that we're actually cheaper today than where you started the year. So if you loved equities coming into the year, you should love it even more now that it's cheaper.

Blake: Phil makes this really good point when he's on the road. If you need the funds in the next year for a down payment or to pay for school or to retire, then maybe you shouldn't be a hundred zero in equities, but equities are a long-term investment, as are all of the plans that we put together.

Amy: Yeah, it just highlights how important planning is for folks. Blake, just to jump into AI because it's everybody's favorite topic these days. You talked about how it's the powerhouse and driving a lot of things. Is it truly driving the economy, or is it very concentrated?

Blake: The studies that are out there suggest that we are probably not seeing the economy-wide productivity gains from AI. Probably got more people using chat bots and still figuring out how to use them and a limited set of businesses that are really deploying AI at scale to drive productivity gains. So I think that the first, maybe a first part of the question is we're in the early stages of that.

Is it concentrated? Yes. We've got a few companies spending $1 trillion. Not all of them are going to win. When's the last time that any of us opened Netscape Navigator on our computers? They didn't win. A lot of the companies that we're hearing about today probably aren't going to be the ones that we associate with AI, if we even call it AI in 10 or 20 years.

And then also, when you ask economy-wide, I think about the labor market. Big, general-purpose technologies or even more modest technological advances are thought of to affect the labor market in one of three ways. One, it does cause job losses. There are redundancies. There are tasks, maybe not jobs, but it's more helpful to think of it in terms of tasks that simply are no longer needed to be done by workers because of the new technology.

More exciting is the second, it can make people a lot more, pick your adjective: productive, effective, efficient. It allows people—it gives them a tool to do their work or some other kind of work a lot more powerfully. And that's the third one is it creates new jobs that we don't even know exist yet. The information technology sector was nascent in the 1950s and 1960s, and now it is one of the you know, it's a major component of today's labor market.

So no one knows how it's going to play out. And if it was going to be easy and clean, then we probably wouldn't be spending several trillion dollars on it. So it's going to be bumpy. It might get messy, but it's going to be probably very, very interesting and exciting for the economy and I believe for people too.

Amy: Brent, another thing that's stealing headlines is the bond market. What's surprising you, what are you learning from it and how are you thinking about it?

Brent: Yeah that's a great question, Amy. I love being in this business because I think the number one characteristic that you need to have as an investor is humility. You know, nothing really surprises me anymore.

I will say, what we're learning from fixed-income markets is that markets rarely act, trade, behave in line with consensus, right? If you think about what's happening, the expectations as Blake highlighted, we came into this year thinking that we were going to cut fed funds three times, right? Now here we are, you know, thinking that by the end of 2027 we're going to hike four more times. No one knows. So that humility and being able to understand and navigate markets is a combination of science and a little bit of art as it relates to how one needs to think about and position.

But as I said in the one slide, when you think about where yields are today, right, and you think about forward expected returns, this is kind of what it feels like when you're near, you know, lows in prices and good forward expected returns. And you have to ask yourself relative to your portfolio and your portfolio composition, is a 5.5% rate of return over the duration horizon of that investment like Blake, Phil and I covered, geez, I think it was maybe four or five presentations ago that the forward return for fixed income based off of their starting yield is about 110% of that starting yield over the duration horizon.

So when you think about what that would entail if in fact that were to come through is pretty darn good returns for fixed income. So as far as a component and a meaningful component in a balanced portfolio, we think it might make sense. And it's certainly something that as we continue down the path, we're going to have to watch rates.

I would caution people on trying to time the absolute high in rates because you'll never be able to do it. You have to ask yourself, if I leg into this and look at my average cost and my average starting yield relative to where I was over the last decade, that's pretty darn attractive, Amy, and we think that that deserves part of the portfolio allocation.

Amy: Well, speaking of starting the year in a completely different place than where we are now, we're about to jump into Q4. What are you thinking about towards the end of the year?

Brent: Oh, you know, we have this small thing called an election, I think, in November. So we'll be hotly watching what happens with midterm elections. You know, if you look at the betting odds, whether you look at that or polls, which we're not a big fan of polls, they are habitually wrong, we think that there might be balance in government.

That sounds like it's a theme now—balance across the board. But you might have divided government post midterm elections. But we'll have to see. Certainly a lot will and can change between now and then. And then I hate to say it, right after the midterm elections are done and when we get into 2027, all eyes are going to be focused on a lot of political rhetoric on the 2028 elections.

So I think the geopolitics with what's going on with the conflict in Iran is certainly in our minds and what that does to the broad inflation picture and energy picture will be certainly something that we're watching. Yields and rates will be something that we're watching. Hyperscalers, CapEx and expenditures and the return on invested capital is something that we're going to be watching.

What aren't we going to be watching, Blake? But at the end of the day, I think everyone just needs to take a little bit of a deep breath and relax and understand that long-term wealth is created by just sometimes sitting there and waiting.

A lot of times in life, we believe that we have to just don't just sit there, do something. Investing is the complete opposite. It should be just sit there and do nothing. Have a thoughtful, balanced portfolio. Get into financial planning, have your goals and objectives and just relax and live your life.

Blake: Do nothing once you have the plan.

Brent: Once you have the plan. Thank you, Blake. But at the end of the day, sometimes we always feel that we have to just do something to generate great results, and sometimes that's not always the case.

Amy: You've reached a new level of zen.

Brent: Yeah, exactly.

Amy: Well, thank you all for listening. And thank you guys for taking a deep dive. As always, we appreciate you listening, and I hope you found this information helpful. And we will look forward to seeing you next month.

Authors

Brent Ciliano CFA | SVP, Chief Investment Officer

Capital Management Group | First Citizens Bank

8540 Colonnade Center Drive | Raleigh, NC 27615

Brent.Ciliano@FirstCitizens.com | 919-716-2650

Phillip Neuhart | SVP, Head of Market & Economic Research

Capital Management Group | First Citizens Bank

8540 Colonnade Center Drive | Raleigh, NC 27615

Phillip.Neuhart@FirstCitizens.com | 919-716-2403

Blake Taylor | VP, Market & Economic Research Analyst

Capital Management Group | First Citizens Bank

8540 Colonnade Center Drive | Raleigh, NC 27615

Blake.Taylor@FirstCitizens.com | 919-716-7964

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