May 2026 Market Update
The AI & Energy Crosscurrents: Structural Drivers in a Volatile Market
Each month, we will share our analysis of global financial markets, economic conditions, and the key themes shaping our investment thinking. Our goal is to keep you informed on the developments that matter most: not just the data, but the context behind it and how it influences our positioning and decision-making on your behalf. We believe that informed clients are better equipped to stay the course through periods of volatility and to recognize opportunity when it arises. We hope you find this report both useful and engaging, and as always, we welcome your questions and feedback.
Markets have demonstrated remarkable resilience in 2026, with the S&P 500 up nearly 10% year-to-date and small caps returning over 16%, driven by strong fundamentals. Q1 earnings season delivered 15.1% blended EPS growth and a sixth consecutive quarter of double-digit gains, underpinned by sustained AI infrastructure spending and broad-based corporate strength. The bond market, however, is facing pressure from higher inflation driven by elevated oil prices. Despite the recent uptick in yields, rates have remained broadly range-bound , though pressing toward the upper end of that range , reflecting the market’s view that the current inflation spike is largely oil-driven and temporary. Investors are not pricing in Fed rate hikes, operating on the reasonable assumption that the Strait of Hormuz will reopen and energy prices will normalize, relieving pressure on consumers and inflation alike. That thesis is supported by recent diplomatic progress toward a resolution. Consumer sentiment is at record lows and inflation expectations have risen, but markets are looking through the near-term noise, anchored by earnings momentum and confidence that the disruption is transitory rather than structural. The primary risk is a re-escalation of the conflict or a prolonged closure of the Strait, which would challenge the market’s assumption of temporary inflation and potentially force the Fed’s hand.
Economic Indicators
Inflation: CPI / PPI / PCE – Updated April 2026
Inflation remained the dominant macro concern in May. Headline CPI rose 3.8% year-over-year in April 2026, sharply above the 2.4% reading recorded in January, driven largely by energy and shelter costs amplified by the ongoing U.S.-Iran conflict’s impact on the Strait of Hormuz. Core CPI (ex-food and energy) came in at 2.8% YoY, indicating that while underlying price pressure is more contained, it is still running above the Fed’s 2% target. Year-ahead inflation expectations surged to 4.8% in the final May University of Michigan survey, up from 4.7% in April and well above the 3.4% reading in February prior to the Iran conflict.
PMI: Manufacturing & Services – May 2026 Flash
The manufacturing sector showed its strongest expansion in four years. The S&P Global US Manufacturing PMI rose to 55.3 in May 2026 (from 54.5 in April), the highest reading since May 2022, supported by robust output growth and inventory building amid supply concerns. The ISM Manufacturing PMI also remained expansionary at 52.7 in April, consistent with approximately 1.8% annualized GDP growth. Services activity has moderated slightly but remains in expansion territory.
Consumer Sentiment – May 2026
Consumer sentiment has deteriorated sharply in 2026. The University of Michigan Consumer Sentiment Index fell to a record low of 44.8 in May (final reading), down from 49.8 in April and well below the preliminary reading of 48.2, reflecting broad-based anxiety over energy costs, inflation, and geopolitical uncertainty. The decline is bipartisan, with Independents and Republicans both reaching their lowest readings of the current administration; 57% of consumers spontaneously mentioned high prices as eroding their personal finances, up from 50% in April. Year-ahead inflation expectations rose to 4.8% from 4.7%, and long-run 5-10 year expectations climbed to 3.9% from 3.5%, a 7-month high. The Conference Board Consumer Confidence Index also fell to 93.1 in May. These readings are flashing caution for near-term consumer spending.
Leading Economic Index (LEI) – April 2026
The Conference Board’s Leading Economic Index declined 0.4% in April 2026, with the six-month growth rate turning slightly negative. Weakness in the LEI was concentrated in consumer expectations, manufacturing new orders (particularly export orders), and building permits. The decline signals that near-term economic momentum is fragile, though the manufacturing PMI and strong corporate earnings provide an offsetting signal. The LEI has now fallen in three of the past four months.
US Employment - April 2026
The labor market held up better than feared in April but showed clear signs of cooling. Nonfarm payrolls rose by 115,000, beating the Dow Jones consensus of 55,000 and well above the negative revisions to prior months, though meaningfully below March's 185,000. The unemployment rate held steady at 4.3%. Average hourly earnings grew 0.2% month-over-month and 3.6% year-over-year, both below expectations, offering a modestly encouraging signal on wage-driven inflation. Job gains were concentrated in healthcare and social assistance (+53,900), transportation and warehousing (+30,300), and retail trade (+21,800). Federal government employment continued to decline (-9,000). The labor force participation rate slipped to 61.8%, its lowest since late 2021, as a net 92,000 workers left the labor force. The 3-month average of payroll gains stands at approximately 48,000, a sharp improvement from the -39,000 averaged through December 2025 but still consistent with a softening trend. Manufacturing PMI employment subcomponent contracted for the first time since July 2025, a warning signal worth monitoring.
GDP - Q1 2026 Second Estimate
The U.S. economy expanded at an annualized rate of 1.6% in Q1 2026 (second estimate), revised down from the 2.0% advance estimate, and a meaningful recovery from the 0.5% reading in Q4 2025. Consumer spending grew 1.4%, supported by services demand (1.8%) while goods spending was subdued (0.4%). Business investment in equipment surged 17.2%, and government spending rebounded 4.4% after the end of the federal government shutdown. Net trade was a drag (-1.25 percentage points) as imports surged 21.1%, reflecting pre-conflict precautionary inventory buildup.
Global Economic Indicators Summary
Global growth dynamics remain divergent heading into mid-2026. The energy shock from the Strait of Hormuz disruption is having an asymmetric impact: energy-importing economies in Europe and Asia face stagflationary pressures, while commodity-exporting emerging markets are benefiting from elevated prices. AI-linked semiconductor exporters in Taiwan and South Korea continue to outperform. Central banks in developed markets face difficult trade-offs between fighting inflation and supporting slowing growth.
| Economy | GDP Growth | Inflation | Policy Rate | PMI | Outlook |
|---|---|---|---|---|---|
| Developed Markets | |||||
| United States | 1.6% (Q1) | 3.8% CPI | 4.25-4.50% | 55.3 Mfg | ● Caution |
| Eurozone | 0.8% (Q1) | 3.1% | 3.15% | 49.2 Mfg | ● Weak |
| United Kingdom | 0.6% (Q1) | 3.5% | 4.50% | 47.8 Mfg | ● Weak |
| Japan | 1.1% (Q1) | 2.8% | 0.50% | 52.1 Mfg | ● Stable |
| Canada | 1.2% (Q1) | 2.9% | 3.00% | 50.8 Mfg | ● Mixed |
| Major Emerging Markets | |||||
| China | 4.8% (Q1) | 1.1% | 3.10% | 51.2 Mfg | ● Improving |
| India | 6.5% (FY26) | 4.2% | 6.00% | 58.8 Mfg | ● Strong |
| Brazil | 2.1% (Q1) | 5.1% | 13.75% | 52.4 Mfg | ● Mixed |
| Mexico | 1.4% (Q1) | 4.4% | 8.50% | 51.0 Mfg | ● Mixed |
| South Korea | 2.8% (Q1) | 2.4% | 2.75% | 53.6 Mfg | ● Strong (AI) |
| Taiwan | 4.1% (Q1) | 2.0% | 2.00% | 56.2 Mfg | ● Strong (AI) |
Global Asset Class Performance
Equity markets continued their recovery in May, building on the rebound from Q1 2026's 4.3% S&P 500 decline. Small caps and emerging markets led the advance. Fixed income faced headwinds as yields rose on the back of elevated inflation expectations; the 10-year Treasury yield reached 4.544% intra-month, its highest in nearly a year. Gold pulled back modestly from its all-time highs as real rates moved higher, while oil remained volatile amid Hormuz supply disruptions. Data as of May 22, 2026.
| Asset Class / Index | Current Level | MTD % | YTD % | 1-Year % | 3-Yr Ann % |
|---|---|---|---|---|---|
| US Equities | |||||
| US Large Cap (S&P 500) | 7,473 | +3.8% | +9.7% | +29.5% | +22.8% |
| US Small Cap (Russell 2000) | 2,869 | +2.6% | +16.1% | +42.1% | +18.4% |
| International Equities | |||||
| Int'l Developed (MSCI EAFE) | 3,087 | +2.0% | +8.2% | +22.8% | +15.9% |
| Int'l Emerging (MSCI EM) | 1,686 | +5.5% | +20.8% | +45.2% | +21.8% |
| Fixed Income | |||||
| US Treasuries | Yield 4.56% | -0.51% | -0.59% | -1.2% | -0.8% |
| US Aggregate Bonds (Bloomberg Agg) | Yield 4.71% | -0.51% | -0.59% | -0.9% | -0.6% |
| International Bonds | Yield 5.26% | -0.21% | -0.29% | -1.4% | -0.4% |
| High Yield Bonds | Yield 7.12% | -0.06% | +1.13% | +4.2% | +3.1% |
| Real Assets & Alternatives | |||||
| Commodities (Bloomberg Cmdty Index) | +4.1% | +12.3% | +18.6% | +9.4% | |
| Gold (Spot) | $4,552/oz | -2.0% | +18.4% | +52.0% | +28.6% |
| Real Estate (US REITs) | -1.4% | -3.2% | +6.8% | +2.1% | |
The 10-year Treasury yield reaching 4.544% intra-month is precisely the environment in which we favor shorter duration. Extending duration at these levels would expose portfolios to meaningful mark-to-market losses if inflation surprises to the upside or the Fed is forced to respond. We hold shorter maturities and high-quality credit until the inflation trajectory becomes clearer.
YTD Performance at a Glance
Earnings Growth
Q1 2026 earnings season has materially exceeded expectations. With roughly one-third of S&P 500 companies having reported, the blended year-over-year earnings growth rate stands at 15.1%, up from 13.1% expected at the end of March. This puts the index on track for a sixth consecutive quarter of double-digit earnings growth. The strength is broad-based, with particular leadership from Technology, Industrials, and Healthcare. Beat rates remain elevated at approximately 78% of companies topping EPS estimates.
Q1 2026 Blended EPS Growth
+15.1%
vs. 13.1% consensus entering season
Beat Rate (EPS)
~78%
Companies beating estimates
Consecutive Qtrs of 10%+ Growth
6th
Broad and quantifiable strength
Sector EPS Growth (Q1 2026 Est.)
Global Equity Valuations
U.S. equity valuations remain elevated relative to historical averages. The forward 12-month P/E for the S&P 500 stood at approximately 20.9x to 21.3x as of late April/May, above both the five-year average of 19.9x and the ten-year average of 18.9x. Strong Q1 earnings have helped partially close the valuation premium, but the index is still priced for a continuation of current earnings momentum. International equities, particularly Emerging Markets, continue to offer a meaningful valuation discount to U.S. equities.
| Market / Index | Fwd P/E (NTM) | P/B Ratio | Div. Yield | 5-Yr Avg P/E | Premium/(Discount) |
|---|---|---|---|---|---|
| US Large Cap (S&P 500) | 21.3x | 5.6x | 1.0% | 19.9x | +7% Expensive |
| US Small Cap (Russell 2000) | 25.5x | 2.4x | 1.1% | 22.0x | +16% Expensive |
| Int'l Developed (MSCI EAFE) | 15.3x | 2.2x | 2.7% | 15.8x | -3% Slight Discount |
| Emerging Markets (MSCI EM) | 12.1x | 2.4x | 2.1% | 13.5x | -10% Discount |
| MSCI World (ex-US) | 14.2x | 2.2x | 2.5% | 14.8x | -4% Slight Discount |
Sources: Bloomberg, FactSet, Federal Reserve, Bureau of Economic Analysis. NTM = Next Twelve Months.
Investor Sentiment
Investor sentiment in May 2026 presents a striking divergence between the behavior of market prices and the mood of both retail and institutional participants. Despite equity markets hovering near all-time highs, individual investor surveys reflect persistent pessimism, with bearish readings persistently above historical averages. Market-based indicators such as the CNN Fear and Greed Index have fluctuated between fear and greed zones throughout the month, reflecting the tension between strong earnings fundamentals and mounting macro and geopolitical anxieties. This kind of bearish sentiment at elevated market levels has historically functioned as a contrarian support for equities.
AAII Bull-Bear Spread: 6-Month Trend
The bull-bear spread has been persistently negative for most of 2026, sitting below the +6.5% historical average for 13 of the past 14 weeks. The deepest reading of -11.9% in mid-May (immediately following the CPI shock) represents a level that has historically preceded above-average forward equity returns. The most recent reading of -6.3% (May 28) shows a partial recovery but remains well in bearish territory.
Sentiment Interpretation
The Contrarian Case for Equities
Prolonged bearish sentiment by individual investors has historically served as a contrarian bullish signal. When the AAII bull-bear spread is deeply negative, as it has been for most of 2026, the forward equity returns over the subsequent 6 to 12 months have tended to be above average. The fact that individual investors remain heavily bearish while holding above-average stock allocations (68.5%) and equity indices sit near all-time highs is a notable dislocation that often resolves upward.
The Divergence Worth Watching
The dissonance between market prices (near record highs) and investor psychology (near-record pessimism) is historically unstable. One of two outcomes tends to follow: either sentiment recovers to match prices (a positive catalyst for further gains), or prices correct to match sentiment (a risk). With the CNN Fear and Greed Index in "Greed" territory and individual investors deeply bearish, the gap is wide. The resolution of this divergence is likely the most important near-term sentiment catalyst to monitor.
Looking Forward
Near-Term Data & Market Catalysts
- June 10 CPI Release: Will headline inflation continue to rise or show signs of cooling? Critical for Fed policy direction and rate trajectory.
- Fed FOMC Meeting (June): Hold, hike, or pivot? The Fed faces a dual-mandate conflict not seen in four decades.
- May Jobs Report (June): Labor market resilience vs. the first manufacturing employment contraction since July 2025.
- Q2 GDP Advance Estimate (July): Will the consumer-led slowdown deepen or will business investment sustain growth?
- ISM Services PMI (June): Services sector has moderated; a break below 50 would be a significant warning signal.
- U of Michigan Sentiment (June 26): Any reversal from record-low territory would be a meaningful positive catalyst.
Geopolitical Events to Monitor
- Strait of Hormuz Status: Reopening remains the single largest near-term catalyst for oil prices, inflation, and global growth.
- U.S.-Iran Ceasefire Negotiations: Diplomatic progress through Pakistani mediators will set the tone for energy markets.
- China-U.S. Trade Relations: Post-Trump China visit dynamics and implications for tariffs and technology sector decoupling.
- European Energy Security: Eurozone vulnerability to sustained high energy costs; risk of a technical recession in the second half of the year.
- Taiwan Strait: Geopolitical premium in semiconductor supply chains; implications for AI buildout timelines and costs.
- U.S. Fiscal Policy: Congressional budget negotiations and the trajectory of the U.S. deficit remain a structural risk for Treasuries.
Our central view is that the constructive earnings backdrop and broadening market leadership support an optimistic outlook on equities while we maintain our portfolios at benchmark exposures. Within fixed income, we favor shorter duration to manage rate sensitivity while we are cautious on long-duration bonds until the inflation trajectory becomes clearer. The Strait of Hormuz remains the single most important near-term variable for the global macro outlook. Equity markets, and technology stocks in particular, are carrying bullish sentiment to new highs, and several technical and sentiment indicators are flashing overbought conditions. This makes the market tactically vulnerable to a near-term pullback. That said, our view is that the underlying bull market remains intact. Any potential corrections should be viewed as attractive buying opportunities for long-term investors rather than signals of a structural reversal.
As always, please reach out to us with any questions regarding the report or your unique circumstances.
Altug Dincturk, CFA
- Chief Investment Officer
