Insights The Push and Pull of a Resilient Economy

In 2025, the financial markets reached all-time highs, driven in large part by AI capital expenditures spending. Overall, the economy remained stable, despite various issues including persistent inflation, a softening labor market, tariffs and ongoing geopolitical conflicts. In 2026, these and other factors, such as the appointment of a new Federal Reserve chair, will present opportunities and risks.

AI Stock Bubble?

Despite the outsized role AI stocks played in bolstering the market in 2025, it’s still hard to conclude that a “bubble” is currently present, as many fear. Strong earnings and cashflows have supported equity gains, leaving AI-focused companies—and large cap tech in general—above historical averages, though not at overly stretched levels.

However, 2026 could see increased investor scrutiny if investors determine that these companies may not achieve adequate returns on their AI investments. Any slowdown in capital expenditures related to AI could impact broad market returns, as this theme goes well beyond large cap hyperscalers and chip companies.

Labor Market Uncertainty

On the labor market front, there were clear indications of softening during the second half of 2025, with the Bureau of Labor Statistics regularly reporting lower-than-expected job growth. In 2026, the employment situation may worsen if public companies look to reduce headcount to maintain high profit margins or by driving effciencies through AI.

Additionally, as companies have adjusted to newly imposed tariffs, many have chosen to eat most of the incremental costs for now. Should companies begin to pass on more of these costs, this would raise prices for consumers already feeling pressure from higher prices in recent years.

Federal Reserve in Spotlight

The change in administrations in early 2025 led to increased scrutiny of the Fed’s monetary policy by President Trump. Tensions mounted over Fed Chair Jerome Powell’s dedication to lowering inflation and achieving the desired “soft landing,” and holding off on interest rate cuts until economic conditions supported the decision.

Though inflation remains above the 2% target, the Fed started to cut rates as labor market weakness emerged. While investors expect the Fed to continue cutting rates in 2026, these are not expected to be as large as the president and some Fed board members would like.

However, the president is set to appoint a new Fed chair and the individual appointed is likely to pursue a more aggressive path for lowering rates. This may provide temporary relief for consumers, but ultimately could increase inflationary pressures beyond those already present.

401(k) Account Changes?

While all these items could impact market returns next year, there are potential changes that may be coming to 401(k) accounts that would pave the way for plan sponsors to offer investments in private assets, which could impact how people save for years to come. There are still many details to be worked out, and we see both benefits and risks which will need to be carefully evaluated by plan sponsors and fiduciaries.

Outlook

Overall, the economy proved resilient in 2025, and markets once again surprised to the upside. While this may continue into 2026, investors should be aware of the potential risks that could change this course. For those investing for the long term, it’s important to maintain a diversified portfolio, rebalance as necessary and stay on track with your established goals.