Equity Outlook 2026 AI optimism trumps policy concerns

The global equity landscape has been shaped by a robust economy, strong earnings—particularly among technology stocks—and the growing influence of artificial intelligence. The transformative potential of AI across sectors is one to watch in 2026, while valuations and policy concerns will require attention.

Global equities have delivered strong returns through 2025, supported by a resilient economic backdrop and powerful earnings, focused on AI-related sectors. The transformative potential of Artificial intelligence (AI) across the broader economy has made it a focus for investors. While the Magnificent 7 companies have dominated the headlines, it is AI’s role as a driver of capital allocation, sector leadership, and macroeconomic momentum that is a key focus heading into 2026. The positive effects of the AI investment narrative will continue to offset the drag from protectionist policies and continued geopolitical uncertainty. We remain constructive on equities while recognizing that market valuations are expensive—and not just in the US. Higher volatility is likely to return at some point, along with the possibility of market adjustments, but these should be short-lived and overall we remain upbeat for 2026.

US: AI investment propelling the market

Our outlook for US equities, which comprise more than 60% of global market capitalization, is powered by several forces. First, the US remains the epicenter of the AI trade with Magnificent 7 share price gains fueled by AI spending expectations. Capital spending by this cohort is expected to grow to about $520 billion in 2026, or over 30% year-on-year.¹  AI-driven capex is boosting GDP and earnings—not just within the technology sector—with potential to unlock broad productivity gains.²

Second, it’s not all about the US large cap tech stocks. Signs of a turnaround in small cap fortunes are emerging; small caps historically have outperformed when the economy is improving and monetary policy is easing. US manufacturing activity appears to have stabilized, while anticipated Federal Reserve rate cuts could alleviate financing pressures on companies, small caps in particular.

Third, with pro-business policies on the horizon, US companies may get an extra shot of pro-growth momentum. Small caps trade closer to fair value³ and present an opportunity to leverage domestic growth. Fiscal policy is reinforcing this trend, with the One Big Beautiful Bill Act (OBBBA) providing incentives for capital goods, research and development, and factory construction, and potentially boosting corporate profits. Tax refunds will also provide consumer support in early 2026.⁴

Proceed with caution

There are two key caveats to the assumptions behind our US equity outlook, however. First, AI spending carries risk. An unexpected slowdown, especially among hyperscalers, could disrupt the market rally that has been rooted in earnings growth. The AI narrative is particularly vulnerable to any cracks in the key pillars supporting growth, specifically the depletion of free cash flow and falling FCF yields. Increased financial leverage via debt issuance could also become a weak spot, particularly if earnings decline or interest rates stay elevated.

Furthermore, the market’s run to new highs has been accompanied by rich valuations; the S&P 500 trades on a next-twelve-months (NTM) forward PE multiple of 23.1x⁵ and the Shiller CAPE ratio (cyclically-adjusted price-to-earnings ratio) has only been higher once before, prior to the dot-com collapse. That said, we subscribe to the argument that focusing solely on valuations can be myopic during periods marked by technological inflection points—where exuberance becomes rationalized by the uncertainty of its impact. The US market can outperform as long as corporations continue to improve return on investment (ROI) and productivity. While the AI theme supports momentum, a more discerning approach may be required should these firms not meet lofty growth expectations.

Europe: Playing catchup on infrastructure

European equities have narrowed the performance gap with the US, supported by new fiscal stimulus focused on defense spending, both in military and cybersecurity. In particular, Germany’s €500 billion infrastructure package should contribute positively to regional growth. However, the scale of AI investment in the US dwarfs European efforts and overcoming regulatory hurdles and fostering tech ecosystems are essential to being competitive. Market EPS growth expectations for 2026 have been revised higher, but still trail the US; further upside is contingent on Europe’s ability to implement fiscal reforms and achieve targeted earnings growth.

Japan: Takaichi targets growth

Japan’s equity market has surged to new highs amid reflationary momentum, governance reforms, and optimism around the policy agenda of new prime minister Sanae Takaichi. Her agenda emphasizes fiscal expansion, technological nationalism, and defense modernization. Earnings growth for 2026 is projected to hit approximately 10% compared to about 2% in 2025.¹⁰ Takaichi’s policies build on the AI Promotion Act for Japan to become the “most AI-friendly country,” prioritize voluntary compliance and innovation, and promotes strategic investments in multilingual AI and hardware-software co-evolution. A deal with the US also removes trade uncertainty, albeit with a sticker price of 15% tariffs, and allows policymakers, companies, and investors to refocus on opportunities.

Emerging markets and China: Macro tailwinds, AI adoption, and domestic shifts

For emerging markets (EM), we hold a broadly constructive outlook heading into 2026 as AI-driven global growth, loose liquidity, and a weak US dollar act as tailwinds. AI-led productivity growth is bullish for EM countries such as India, Saudi Arabia, and the UAE where governments are driving AI development and infrastructure. A weaker USD can support EM performance as capital continues to get pulled into the asset class.

China aspires to boost domestic consumption, but high savings and weak spending reflect low consumer confidence in property prices, employment, and social security reforms. Most importantly, the country is determined to be a leader in AI and is prioritizing infrastructure investment to compete with the US. Equity valuations are above the five-year average, and EPS has been revised lower. The IT sector and AI investment are critical to sustaining equity market performance, but questions persist around the quality and monetization of innovation, where China holds an energy advantage, but lags in the development of advanced chips.

While AI adoption and shareholder return initiatives provide tailwinds, investor sentiment remains sensitive to policy and macroeconomic developments. For global investors, Chinese equities offer diversification benefits due to their relatively low correlation with other major markets. However, a selective approach is warranted amid uncertainty around the sustainability of earnings growth, the degree of policy dependence, and the concentration of market leadership in a few sectors.