OF LIONS AND LAMBS – Market Commentary Q1 2026
It is said that “March comes in like a lion and leaves like a lamb,” and this year did not disappoint. The conflict with Iran erupted with unbridled intensity, shocking global stock and commodity markets and sending ripple effects worldwide. The economic fallout from disruptions to transit through the Strait of Hormuz, through which roughly 20% of global oil supply flows, quickly translated to a sharp increase in energy prices. Brent crude exceeded $110 per barrel by quarter-end, its highest level since mid-2022, before moderating modestly as questions arose about the likely duration of the conflict. In response, the International Energy Agency announced the release of 400 million barrels from strategic reserves in March, though the impact on prices remained limited through month-end. Beyond energy, the conflict also put pressure on agricultural supply chains, as the region plays a critical role in global fertilizer distribution, with approximately one-third of seaborne fertilizer passing through the Strait of Hormuz. It appears that your Easter lamb may be free-range this year.
At home, economic conditions grew more uneven. The labor market showed signs of softening, while elevated investment in artificial intelligence and digital infrastructure continued to support capital spending. At the same time, rising energy and input costs added to inflationary pressures, complicating the outlook for both growth and monetary policy. Taken together, these dynamics contributed to a more uncertain inflation backdrop and a more complex path forward for central banks, particularly the Federal Reserve.
The Home Field
The Pride (FOMC), composed of the Federal Reserve Governors, stalked its prey (the fed funds decision) but ultimately left rates unchanged at 3.50%-3.75%. Despite growing uncertainty surrounding the economic outlook (including geopolitical developments and signs of slowing job growth) concerns over persistent inflation, heightened by rising oil prices, led policymakers to hold their ground. The Personal Consumption Expenditures (PCE) Price Index, the Fed’s preferred inflation measure, remained above target, with core PCE rising 3.1% year-over-year in January. In February, the Consumer Price Index for All Urban Consumers (CPI-U) increased 2.4% year-over-year, while core CPI rose 2.5%, both unchanged from the prior month. Measures of input cost pressures also intensified during the quarter. The Institute for Supply Management (ISM) Manufacturing Prices Index climbed to 78 in March, up 19 points since January and reaching its highest level since June 2022; a level historically associated with rising producer prices. The increase was driven by higher costs for metals and petroleum-based inputs, reflecting both tariff-related pressures and rising energy prices.
The labor market, meanwhile, appeared increasingly sheepish. According to the Job Openings and Labor Turnover Survey (JOLTS), job openings were little changed in February, while the hiring rate fell to its lowest level since April 2020. Nonfarm payrolls fell by 92,000 in February, marking the third monthly decline in five months, and the unemployment rate edged higher to 4.4%.
Economic activity softened despite continued support from the still roaring AI boom. The revised estimate for fourth-quarter 2025 GDP showed the economy expanding at a seasonally and inflation-adjusted annual rate of 0.7%, down sharply from the prior estimate of 1.4% and well below the 4.4% gain recorded in the previous quarter. The slowdown reflected declines in government spending, exports, and consumer spending; areas that have begun to show more lamb-like behavior after last year’s strength. Even so, AI-related capital expenditures; particularly in information processing equipment, software, and research & development, remained historically strong, helping offset some of the broader economic drag. This dynamic is expected to persist, as AI “hyperscalers” signaled continued aggressive spending plans during the quarter, with some projections reaching $700 billion in 2026, driven by continued demand for AI infrastructure.
Other Pastures
The energy shock also complicated the policy outlook across several economies, adding to inflation concerns and forcing central banks to tread more cautiously. The European Central Bank (ECB) left its policy rate unchanged at 2.0%, balancing its commitment to returning inflation to its 2% target against the risk that higher energy costs could both stoke inflation and dampen growth. Euro area headline inflation was estimated at 2.5% in March, up from 1.9% in February, with energy expected to be the primary driver, according to Eurostat’s flash estimate. The ECB also revised downward its 2026 growth projection to 0.9%, reflecting weaker expected consumption and investment tied to higher energy prices. Still, over the next three years, growth is expected to find support from a resilient labor market and continued government spending (particularly in infrastructure and defense), as policymakers attempt to steady the flock amid gathering crosswinds.
Across Asia, the region’s heavy reliance on energy imports flowing through the Strait of Hormuz, estimated at roughly 80% of regional oil flows, has amplified energy pressures across several economies. In response, several countries moved quickly to manage supply and price volatility. The Philippines declared a national energy emergency, granting the government greater control over fuel prices, while India curtailed gas supplies to certain industries to prioritize household consumption. China, the largest importer of oil transiting the Strait, appeared better positioned to navigate the disruption. Domestic production, a freeze on fuel exports, and its extensive pipeline network enabled it to source energy from alternative suppliers.
China set its 2026 GDP growth target at 4.5%-5.0%, the lowest since the early 1990s, reflecting a shift in policy emphasis from headline growth toward improving the quality and sustainability of economic expansion. The economy showed a firmer start to the year, supported by increases in industrial output and exports, driven in part by demand for AI-related technology. At the same time, structural challenges remain. The government has signaled targeted fiscal support aimed at boosting consumption and raising living standards for its flock, as the economy entered a fourth year of deflation amid a prolonged real estate sector downturn, weak consumer confidence, and ongoing local government debt pressures.
Closing Thoughts – Re-Globalization?
Writing this quarter’s letter underscored that many of the forces shaping markets are rooted in real-world events with meaningful human impact. As much as countries have de-globalized in recent years, developments in the Middle East and the resulting rise in energy prices serve as a reminder of just how interconnected the global economy remains; particularly when it comes to trade and the cost of doing business. Even with greater domestic energy independence, oil prices continue to filter into nearly every corner of the economy, including the cost of goods and services ranging from basic plastics to the food on our tables. This dynamic has muddied the inflation outlook, which directly shapes monetary policy decisions. The key question for markets is whether this latest shock proves transitory, arriving like a lion but ultimately leaving as a lamb; or signals a more sustained shift in the inflation environment. Until that becomes clearer, uncertainty remains elevated. In this environment, we continue to encourage investors to maintain a long-term perspective and a prudent, well-diversified asset allocation.
Warm regards,
John P. Ulrich, CFP® Whitney E. Solcher, CFA®
President Chief Investment Officer
Equity Markets
Global equities declined in 1Q26 as rising interest rates and elevated macro uncertainty weighed on risk sentiment. The MSCI ACWI Index fell 3.2% for the quarter, with U.S. equities underperforming international markets. The S&P 500 declined 4.4%, driven by weakness in growth-oriented sectors as higher yields pressured valuations. Technology declined (Russell 3000 Technology: -9.6%), with the Magnificent 7 underperforming the broader market as investors rotated away from mega-cap technology stocks.
Energy (+37.0%) was the strongest-performing sector, supported by higher commodity prices and geopolitical tensions, while Materials (+13.8%) and Utilities (+11.5%) also advanced. In contrast, Financials (-7.8%) and Health Care (-4.9%) lagged alongside broader risk assets. Value significantly outperformed Growth, with the Russell 1000 Value Index rising 2.1% compared to a 9.8% decline in Growth, reflecting a rotation toward more defensive and inflation-sensitive segments of the market. Small-cap performance was mixed, with the Russell 2000 posting a modest gain (+0.9%) as Value (+5.0%) offset weakness in small-cap Growth.
Non-U.S. equities were more resilient, despite a modest strengthening of the U.S. dollar (DXY: +1.7%). The MSCI ACWI ex-U.S. Index declined 0.7%, supported by stronger performance in commodity-sensitive markets and value-oriented sectors. Developed market equities were mixed, with the Eurozone down 5.0%, while the U.K. (+2.0%) and Japan (+1.4%) posted gains. Emerging markets were broadly flat (MSCI EM: -0.2%), though performance diverged significantly across regions. Latin America outperformed, led by Brazil (+19.1%), supported by currency strength and commodity exposure, while Emerging Asia lagged, driven by declines in China (-8.9%) and India (-18.1%). Semiconductor-oriented markets such as Korea (+16.5%) and Taiwan (+9.1%) were notable exceptions.
Fixed Income Markets
Fixed income markets were broadly flat to modestly negative in 1Q26, as rising yields and spread widening offset income. The Bloomberg U.S. Aggregate Bond Index declined 0.1% for the quarter. Treasury yields moved higher across the curve, with the 2-year rising 32 basis points to 3.79% and the 10-year increasing 12 basis points to 4.30%. The yield curve flattened, with the 2s/10s spread narrowing by 20 basis points. Inflation expectations rose modestly, with the 5-year breakeven increasing to 2.54%.
Credit markets weakened during the quarter as spreads widened. Investment grade corporate bonds (-0.5%) underperformed Treasuries, while high yield declined 0.5%. Leveraged loans also posted negative returns (-0.6%), reflecting softer demand and spread-widening. Securitized assets were a relative bright spot, with MBS (+0.4%), ABS (+0.3%), and CMBS (+0.3%) generating modest positive returns. Municipal bonds declined slightly (-0.2%), though high yield municipals posted gains (+0.7%). TIPS (+0.3%) outperformed nominal Treasuries, supported by rising inflation expectations.
Global fixed income declined (Bloomberg Global Aggregate: -1.1% unhedged, -0.2% hedged), with developed market bonds under pressure from rising yields across regions, including Japan, Europe, and the U.K. In contrast, emerging market debt outperformed, with both hard-currency (JPM EMBI: +3.3%) and local-currency (JPM GBI-EM: +3.3%) indices benefiting from commodity strength and improved investor sentiment in select regions.
Alternatives
Liquid alternatives delivered strong returns in 1Q26, led by commodities and energy-related assets. The Bloomberg Commodity Total Return Index rose 24.4% for the quarter, reflecting gains in energy markets amid geopolitical tensions and supply concerns. Natural resource equities (+19.8%) and MLPs (+16.9%) also performed well, benefiting from higher oil and gas prices. REITs (FTSE Nareit: +4.8%) advanced, supported by stable income despite rising interest rates. Gold spot prices experienced increased volatility during the quarter, including a sharp pullback late in the period, partially retracing gains from earlier in the year.
Source: Callan Q1 Quarterly Letter
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