AAF Wealth Management Q1 2026 Market Insights

In an ongoing commitment to keep you abreast on a range of issues that might affect your business, AAFCPAs is pleased to share Q1 2026 Market Insights published by AAF Wealth Management, a wholly owned subsidiary of AAFCPAs. This provides investors with an understanding of what’s driven performance of late.

The start of 2026 offered a familiar reminder that markets rarely move in straight lines, particularly over shorter periods. What began with encouraging momentum gave way to renewed volatility, with global equities declining over the first quarter (MSCI ACWI ‑3.2%). Early strength outside the U.S. led by Japan and emerging markets reversed sharply in March as sentiment shifted.

In the U.S., all three major equity benchmarks declined as the quarter progressed. The S&P 500 fell 4.63%, the Nasdaq 100 declined 5.98%, and the Dow Jones Industrial Average finished the quarter down 3.58%, reflecting a broad reassessment of risk following a strong market advance in 2025.

Style and sector performance diverged meaningfully. Value and minimum‑volatility stocks proved relatively resilient, while growth‑oriented areas, particularly technology and consumer discretionary, lagged. U.S. mega‑cap stocks underperformed, contributing to a widening gap between market segments. Sector dispersion was pronounced: energy surged as oil prices spiked, while technology and software stocks declined sharply amid concerns around artificial‑intelligence‑related disruption.

Volatility was also evident at the individual stock level. More than one‑fifth of S&P 500 constituents experienced price moves of plus or minus 20% during the quarter, underscoring the degree of market dispersion. At the same time, U.S. market concentration declined, with the top ten S&P 500 stocks’ share of total index capitalization falling below 38%.

Geopolitical Concerns and Key Drivers

Geopolitical developments became a significant driver of market volatility during the quarter, particularly in March. Escalating conflict in the Middle East weighed heavily on global risk sentiment and contributed to sharp moves across asset classes.

Iran’s closure of the Strait of Hormuz, along with subsequent military actions, disrupted approximately 20% of global oil flows. As a result, energy markets experienced acute stress. Brent crude oil surged to $103.9 per barrel, representing a 69% year‑to‑date increase, while gasoline prices nearly doubled. These disruptions led to energy market fragmentation and rationing across regions, driving energy‑sensitive sectors to outperform most other areas of the market.

Higher energy prices added renewed pressure to inflation and dampened optimism around monetary easing, increasing concerns about stagflation. Market volatility rose sharply during this period, as reflected by an increase in the VIX, though the spike did not reach the levels observed during prior tariff‑related market shocks.

Central banks responded cautiously. Persistent inflation pressures and energy‑related shocks prompted the Federal Reserve, the European Central Bank, and the Bank of England to shift away from expectations for rate cuts toward more hawkish policy stances, including holding rates steady or signaling potential hikes.

The conflict layered additional uncertainty onto existing market challenges, including concerns around equity concentration and AI‑driven business disruption. In this environment, defensive positioning proved more resilient. Value‑oriented strategies, minimum‑volatility approaches, defensive sectors, and businesses with strong pricing power outperformed broader market segments.

Stress also emerged in private credit markets, particularly among tech‑enabled borrowers, introducing additional risks for sectors and business models dependent on AI‑driven growth assumptions.

Inflation and the Role of the Federal Reserve

Inflation dynamics and monetary policy remained central to market behavior during the quarter. The Federal Reserve met twice in Q1 and made no changes to the federal funds rate, maintaining short‑term interest rates within the 3.50%–3.75% range throughout the period. While policy settings were unchanged, market expectations shifted sharply—from anticipating multiple rate cuts earlier in the year to pricing in the possibility of future rate hikes.

Fed Chair Jerome Powell emphasized the importance of closely monitoring inflation expectations amid energy price shocks tied to the war in Iran. While energy price surges are often temporary, Powell cautioned that repeated shocks risk embedding broader inflation concerns, influencing wage negotiations and price‑setting behavior across the economy.

With the conflict expected to drive additional fuel cost pressures, the Federal Reserve’s path toward its 2% inflation target appears increasingly delayed. It has now been five years since inflation last reached that goal. The Fed’s preferred consumer price gauge has remained above 2% since early 2021 and is currently hovering near 3%, down from a post‑COVID peak above 7%.

Energy price impacts are already visible across the economy. Gasoline prices are up more than 30%, while diesel prices have risen over 40%, adding to inflation pressures and weighing on consumer sentiment and small business confidence.

Short‑term inflation expectations have increased across consumer surveys, market‑based measures such as breakevens, and economist forecasts. Longer‑term inflation expectations remain somewhat anchored but are showing signs of fragility. Fed officials have increasingly warned that inflation could become stuck near 3% if current oil shocks persist. Kansas City Fed President Jeff Schmid captured this sentiment, stating that “now is not the time to assume that inflation from higher oil prices will be transitory.”

At the same time, the U.S. labor market presents additional challenges. Job creation has been the weakest outside of a recession since 2002, alongside growing evidence that artificial intelligence is constraining entry‑level hiring opportunities. While Powell has maintained medium‑ and long‑term optimism about technology’s potential to boost productivity, the Federal Reserve is operating in an environment of heightened public and policy scrutiny.

Research suggests that public confidence in the Fed’s ability to manage inflation may be more fragile than in past cycles. A series of repeated shocks—including the pandemic, the war in Ukraine, tariff actions, and now the conflict in Iran—have challenged earlier assumptions about the transitory nature of inflation.

The Fed’s baseline forecast anticipates one 25‑basis‑point rate cut late in 2026, followed by additional easing in 2027. However, the ultimate policy path remains highly dependent on the duration of the conflict and the persistence of inflation pressures.

Market/Economic Expectations for 2026

Looking ahead, equity investors should be prepared for a wide range of potential outcomes. A key source of uncertainty remains the Middle East conflict, including its duration, escalation risk, and implications for oil supplies, inflation, and global growth. Markets are expected to remain volatile, particularly if the conflict persists or intensifies.

Sustained energy shocks could keep inflation elevated, delay monetary easing, and increase stagflation risks, contributing to continued volatility and wider dispersion in returns. In this environment, market leadership is likely to continue rotating rather than remaining narrowly concentrated.

Energy, materials, and utilities could remain relative beneficiaries, while technology and growth‑oriented stocks may stay under pressure. Global central banks are expected to follow diverging policy paths, with the ECB and Bank of England leaning toward tighter policy, while the Federal Reserve remains cautious, with the possibility of one late‑year cut if economic conditions warrant.

More recently, a two‑week temporary ceasefire in the Middle East has provided a short‑term reprieve, contributing to a rebound in equities alongside declines in bond yields and energy prices. While markets have responded positively to this pause, the longer‑term outlook remains uncertain, and the durability of these moves will depend on whether de‑escalation can be sustained. In this environment, continued market broadening may favor active management and thoughtful sector allocation. Companies able to pass higher input costs to customers, maintain strong balance sheets, and shorten cash‑flow duration appear better positioned to manage ongoing volatility.

Investor Behavior in Light of Recent Volatility

The current environment—shaped by geopolitical stress, macroeconomic shifts, and accelerating AI adoption—calls for disciplined investor behavior. While uncertainty can challenge confidence, it reinforces the importance of a long‑term approach.

Rising inflation risks underscore the continued role of equities in long‑term wealth accumulation. Historically, equities have outpaced inflation over time, even through volatile periods, making appropriate equity exposure an important component of long‑term strategies.

Diversified and intentional allocations across sectors, regions, and investment styles are more important than ever. Defensive stocks, supported by stable earnings and recurring revenue, have historically provided resilience during volatile and inflationary periods. Value‑oriented stocks, often backed by tangible assets and shorter‑duration cash flows, tend to become more attractive when long‑term growth assumptions are uncertain.

At the company level, investors continue to emphasize fundamentals. Strong balance sheets, pricing power, and efficient operations are key attributes as businesses navigate deglobalization trends, energy shocks, and technological change. Active portfolio management allows for stress testing of business models and adjustment as macro conditions and AI innovation evolve.

Market turbulence can tempt investors to time short‑term moves, but history suggests this approach is risky. Retreating during periods of stress often means missing subsequent recoveries. Across eight major conflicts over the past five decades, the S&P 500 has averaged a gain of approximately 7% one year after the onset of hostilities.

Scenario planning and robust diversification remain essential. Investors are best served by resisting headline‑driven decisions and avoiding extreme shifts in risk positioning. Reviewing portfolios for goal alignment, sector concentration, and appropriate cash reserves can help maintain discipline during uncomfortable periods.

Ultimately, focusing on long‑term objectives, adhering to a disciplined investment process, and avoiding reactive behavior can help investors remain positioned for both stability and opportunity—regardless of how near‑term events unfold.

These insights were contributed by AAF Wealth Management.

Questions? Reach out to Kevin P. Hodson, CMT, CAIA, AIF®, Director of Investments & Wealth Advisor or or your AAFCPAs partner. AAFCPAs offers a wealth of resources on managing wealth.

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