By: Darren W. King | Wealth Management
After three years of equity returns averaging almost 20%; stock markets corrected in the first quarter following rising energy prices and the US war on Iran. After a decade of outperformance of large capitalization technology shares, almost all other asset classes outperformed as investors diversified away from the crowded technology trade during the start of 2026. The S&P 500 concluded March down 4.35%. The technology-heavy NASDAQ corrected 6.96%, while the DOW Jones Industrial average ended the first quarter down 3.19%. The Russell 2000 Small Cap Index finished the quarter gaining .92% and was the top performing asset class thus far in 2026. International developed market equities, as measured by the Morgan Stanley Capital International Europe, Australasia, and Far East Index (MSCI EAFE), closed the first quarter down 1.08%. The MSCI Emerging Markets Share Price Index closed March down .13%. Money flow into value, small-cap, and international markets coincided with investor diversification into lower valuation investments as investors foresee a peak in earnings for the AI centered names in the near term and have looked for other opportunities.
The first quarter 2026 witnessed technology and especially software underperform, while energy stocks and value sectors were the clear winners. S&P 500 sector results through March: Energy 38.25%, Materials 9.72%, Utilities 8.26%, Consumer Staples 7.68%, Industrials 4.61%, Real Estate 2.76%, S&P 500 -4.35%, Health Care -4.88%, Communication Services -6.94%, Technology -9.13%, Consumer Discretionary -9.19% and Financials -9.46%. Six value sectors outperformed the S&P 500 while the AI trade finally lost momentum. Consumer and credit sectors were jolted by the Iran war and dramatically higher energy prices, as investors sold companies relying on discretionary spending. Investors worry the consumer has once again been hit with another inflationary setback that could result in slowing spending.
With the recent market correction, equity valuations are beginning to look much more attractive as we see a bottom beginning to develop in equity markets, assuming the Iran war doesn’t extend beyond current expectations. The forward 12-month P/E ratio for the S&P 500 is 19.8X, slightly below the five-year average P/E of about 19.9X and down from 21.5X earnings at the end of 2025. Currently, the market is estimating 17% earnings growth on 9.7% revenue growth in 2026. Profitability remains high for S&P constituents, with net profit margins currently at 13.2%, compared to 5-year average profit margins at 11%; the highest profit margins since 2008. Average equity strategists’ bottom-up price targets for the S&P 500 in 2026 are at 8330, currently 26% higher than current trading levels. AI data center initiatives have been a major source of the recent move by many Wall Street equity strategists to move S&P 500 targets higher over the past several months. Overall, technology earnings are estimated to grow 37% in 2026 with all other S&P 500 constituents expected to grow earnings by around 10%. The backdrop for equities in 2026 remains supportive for continued gains as long as energy prices move back down. We see a continued broadening of equity returns out of technology and into other areas of the market that have not participated as dramatically in the equity rally. Strategic moves out of domestic large capitalization investing into international stocks took center stage at the beginning of 2026 as valuation discounts outside of growth investing proved hard to ignore. Even after a stellar year for international stock returns in 2025, the Current forward P/E multiples for the MSCI EAFE is currently 14.8X earnings while the MSCI Emerging Markets Index trades at 11.7X earnings, much less richly valued than domestic markets and illustrates why investors are beginning to diversify out of domestic markets.
The Federal Reserve held rates steady at 3.75% to 3.5% at their March 18 meeting. They continue to expect one 25 basis point cut in 2026 with one additional cut in 2027 and also indicated a neutral rate around 3.1%, slightly higher than January projections. The Fed cited increased uncertainty with the war in the Middle East impacting economic growth and inflation. The most significant change in outlook since the start of the year is inflation remaining more sticky and probabilities for more rate cuts in 2026 and beyond being removed with higher energy prices from the Iran conflict. The Fed estimates full year 2026 GDP growth to be 2.4%, revised up from 2.3% in January. The median year-end unemployment forecast for 2026 was unchanged at 4.4%. Core PCE inflation, the Fed’s preferred inflation gauge, was revised higher to 2.7% in 2026 (previously 2.4%). For now, economic growth is solid but markets are closely monitoring a quick resolution to the Iran conflict.
The 10-year treasury yield rose by 15 basis points in 2026, starting the year at 4.17% and ending the quarter at 4.32%, while the 30-year treasury ended the first quarter up 7 basis points. Longest duration bonds underperformed shorter duration issues as yields increased uniformly across all maturities in the first quarter of the year and took into account the anticipation for less Fed action in the short-term. Long treasuries were down .41% in 2026, while intermediate treasuries were up .05%. In a risk-off trade and with the market’s concern for higher inflation and slower growth expectations longer-term, higher credit quality outperformed the lowest credit quality issues. Aaa rated bonds within the Barclays U.S. Aggregate Index were up .19% in 2026, while Baa rated bonds were down .58% during the same period.
The Bloomberg Dollar Spot Index finished March with the dollar having strengthened 1% compared to our trading partners as investors rushed to the safety of the dollar at the start of the Iran conflict. However, the dollar has still weakened 4.6% over the past year. Light crude oil futures were up 76% in the first quarter, with WTI oil futures rising to $101.38 from $57.42 over the course of the first part of 2026. 30-year mortgage rates rose from 6.25% at the end of 2025 to 6.48% by the end of the first quarter, while 30-year treasury yields rose 7 basis points to 4.91% from 4.84% at the end of 2025.
According to the Bureau of Labor Statistics, the March jobs report showed 178,000 jobs added during the month, well above expectations, and if not for the Iran conflict, jobs data were suggesting a stabilizing labor market. For 2025, monthly new job creation averaged 49k per month. The first 3 months of 2026 averaged 68,000 jobs created and showed improvement over 2025. While 2025 was one of the weakest years for hiring since 2009, employers have largely refrained from layoffs. Jobs creation in the first quarter was widespread with health care, leisure and hospitality, and construction particularly strong. The March jobs number reported unemployment at 4.3%, a slight improvement from the end of 2025. The labor force participation rate slipped in March to 61.9%, the lowest rate since 2021. For March, average hourly earnings rose 3.5% over the past year, below the recent wage inflation numbers that were averaging greater than 5% for most of 2023. In short, the March jobs number indicated stabilization but remains backward-looking until the Iran conflict is resolved.
Annualized retail sales, through February of 2026, were up 3.7% over the past year, compared to the consumer price index’s measure of inflation up 2.4%. Sales were up strong in most categories, with only furniture and grocery store sales showing slowing trends. On the negative front, furniture store sales were down 5.6% from the prior year. Food and beverage stores were down .3% from the prior year. However, the consumer is still spending on some discretionary items. E-commerce and mail-order houses ended the 12-month period with a 7.5% sales gain. Restaurant spending was up 5.2%, health care spending was up 2.6%, sporting goods and hobby spending was up 11.3% and clothing and accessories were up 7.2%. With consumer spending two-thirds of our economy, retail sales in the first quarter of 2026 surpassed all expectations. In short, the consumer remains resilient despite the slowdown of spending on big ticket items related to the housing market.
We remain constructive on equity prospects for the year, especially after the latest correction in equity markets. Two of the limiting factors for equity returns; rising rates and slowing growth appear contained as long as the Iranian cease-fire and the orderly flow of energy products out of the Strait of Hormuz holds. Corporate tax cuts, accelerated deprecation incentives for capital expenditures, continued AI server spend, and historically high profit margins should drive further gains despite slightly elevated equity valuation levels domestically. We continue to favor cyclical sectors over defensive stocks and advise the continued diversification into a larger international, small cap, and value allocation. We continue to focus on equities that benefit from AI technological advances, continued deregulation within financials, and value in the health care sector as Obamacare subsidies have been extended despite earlier worst-case fears. We continue to deemphasize consumer sectors with the expected continued pullback in retail spending levels. With earnings growth rates in 2026 somewhere in the 15% to 17% range; we see equity returns moving lockstep with continued earnings momentum.
Within the fixed income markets, interest rate, Fed policy, and market traders see two more twenty-five basis point interest rate cuts in 2026 and 2027 and a neutral fed funds rate around 3% in the longer-term. Our outlook is for interest rates to move lower following the Iran energy inflationary scare. For reference, the 10-year treasury yielded 3.94% at February month-end and is now trading at 4.28% on March 8. With bond maturities and reinvestment, we are extending duration and buying longer-dated maturities and trying to take advantage of this run up in yields while it holds. If the economy falters with tariff pressure and a cost weary consumer; the Fed has ample room to move rates lower from current semi-restrictive Fed fund levels at 3.65%, to a level closer to the current 2.4% inflation rate. Bond allocations would provide a hedge to any equity market weakness should a slowing economy unfold.
Click here to read the Q1 2026 Market Summary.
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Data Sources: Economic: Based on data from U.S. Bureau of Labor Statistics (unemployment, inflation); U.S. Dept. of Commerce (GDP, retail sales, housing); Institute for Supply Management (manufacturing/services). Factset (S&P 500 statistics); Performance: based on data reported in Bloomberg (indexes, oil spot prices, foreign exchange); News items are based on reports from multiple commonly available international news sources (i.e. wire services) and are independently verified when necessary with secondary sources, such as government agencies, corporate press releases, or trade organizations. All information is based on sources deemed reliable, but no warranty or guarantee is made as to its accuracy or completeness. Neither the information nor any opinion expressed herein constitutes a solicitation for the purchase or sale of any securities, and should not be relied upon as financial advice. Forecasts are based on current conditions, subject to change, and may not come to pass. Past performance is no guarantee of future results. All investing involves risk, including the potential loss of principal, and there can be no guarantee that any investing strategy will be successful.
