Executive Summary
The S&P 500 Index gained +1.5% in January, setting a new high as it traded above 7,000 for the first time. The month was also marked by sharp sector rotation; value outpaced growth across market caps. Large Cap Growth declined -1.5% as tech stocks traded lower, while Large Cap Value rose +4.6%. The Russell 2000 returned +5.4% and set new highs as market leadership rotated toward smaller companies. The month was marked by volatility as markets reacted to headlines around geopolitics, the Fed and AI disruption though a buoyant economy and strong corporate earnings eventually took markets higher. Geopolitical tensions flared around U.S. action in Venezuela and President Trump’s intentions around Greenland; a Justice Department investigation into the Fed and Chair Powell roiled markets only to be calmed with the appointment of Kevin Warsh as next Fed Chair; and the potential for AI to disrupt software and service business models worried investors.
Energy led all S&P 500 sectors with a +14.4% return as oil prices rose nearly +15%. Seven of the eleven S&P 500 sectors outperformed the index, while the Financials, Technology, and Health Care sectors each traded lower.
Bonds produced modest gains despite rising Treasury yields, with the U.S. Bond Aggregate gaining +0.1%. Corporate bonds outperformed as credit spreads tightened, with investment-grade gaining +0.4% and high-yield returning +0.5%.
International stocks outperformed the S&P 500 as the U.S. dollar fell to a nearly 4-year low. Developed Markets gained +5.2%, outperforming the S&P 500 but underperforming Emerging Markets’ +8.9% return.
Economic Activity Remains Solid Despite Weak Sentiment
Economic data continues to highlight a widening gap between how people feel and how the economy is performing. Measures of real activity, such as retail sales and industrial production, indicate the economy ended 2025 with solid momentum. In contrast, consumer confidence fell to multi-year lows, driven by concerns about inflation, job security, and geopolitical uncertainty, and an index of manufacturing conditions remained in contraction. The gap between sentiment and behavior has been a recurring theme over the past 12 months. Despite weak consumer and business confidence, data that measures actual spending and economic activity is supportive of continued growth.
Treasury Yields Rise as the Fed Pauses its Rate-Cutting Cycle Again
Treasury yields rose in January in anticipation that the Federal Reserve would pause its rate-cutting cycle. The shift was driven by better-than-expected economic data and signs of stabilization in the labor market. While job growth continued to slow and the number of job openings fell, unemployment unexpectedly declined and jobless claims remained low. The data points to a continued hiring slowdown, but the lack of widespread layoffs signals underlying stability. Overall, January’s economic data offered little new information on inflation or growth, which allows the Fed to remain patient.
As anticipated, the Fed held interest rates steady at its late January meeting, ending a streak of three consecutive 0.25% cuts in late 2025. The policy statement struck a more optimistic tone compared to recent months, describing consumer spending and business activity as solid despite disruptions from the Q4 government shutdown. The Fed’s decision and commentary signal a wait-and-see approach as policymakers assess the lagged impact of last year’s cuts. Based on pricing in futures markets, the next rate cut isn’t expected until June.
Market Leadership Broadens & Commodity Prices Spike
Two market themes defined the month. First, market leadership shifted away from mega-cap technology stocks. Major indexes traded higher, but the average stock outperformed the index. The equal-weighted S&P 500 outperformed the traditional market-cap-weighted index, small-cap stocks outperformed the S&P 500 by nearly +4%, and the Value factor outperformed the Growth factor by over +5%. The rotation is a significant change after a small group of mega-cap stocks drove a large portion of the stock market’s recent gains. The shift is attributed to an improving economic outlook and a catch-up trade, as expensive mega-cap technology valuations prompt a rotation into more traditional, domestically focused companies that will benefit from lower interest rates and trade at more attractive valuations.
The second theme was a sharp rally in the commodity market. Despite late month volatility, gold rose +10% to a new high, silver surged over +20% to a new high, and oil prices rose to the highest level since last September. Investors turned to commodities as a hedge against global uncertainty, driven by geopolitical tensions, policy uncertainty, and a weaker U.S. dollar. The strength in commodity markets made Energy and Materials the top two performing sectors. This year’s start, with the stock market rotation and commodity rally, highlights how portfolio diversification can help smooth results when leadership shifts.
Equities
Mid cap (+3.1%) and small cap (+5.4%) stocks both outperformed large caps. Energy (+14.4%), materials (+8.7.3%) and consumer staples (+7.7%) were the best performing sectors in the S&P 500; financials (-2.5%) and information technology (-1.7%) were the laggards and only sectors in the red. EAFE markets returned 5.2% in January with broad gains across geographies, while EM appreciated +8.9% with a 28.1% gain in Korea and 16.8% gain in Brazil while India (-5.1%) lagged.
From a valuation perspective, the S&P 500, NASDAQ, EAFE and EM trade at or above +1 standard deviation based on historical forward P/E ratios with the S&P 500 at +1.8, NASDAQ at +1.1, EAFE at +1.5 and EM at +1.4. For the next 12 months, EPS growth for S&P 500 is expected to be 12.3% (vs. 6.9% annualized over the last 20 years). For the next 12 months, EPS growth for NASDAQ is expected to be 26.3% (vs. 10.7% annualized over the last 20 years). Equities across markets caps in the U.S., and in non-U.S. developed and emerging markets, trade at or above their 20-year averages based on forward P/E ratios.
Fixed Income
Investment grade fixed income asset classes had positive returns even as rates rose modestly across the curve as spreads compressed . Municipals returned +1.17%, the Bloomberg Aggregate Index returned +0.1% while investment grade corporate returned +0.2%. High yield bond returns returned +0.5% while leveraged loan returns returned -0.3%. Emerging Market debt returned +1.1% even as the US dollar fell 1.4% as spreads compressed 16bps.
Rates
Rates rose modestly across the curve; the Fed held rates steady at the January FOMC meeting. The recession-watch 3M-10Y spread widened 4bps to +57. The 2Y-10Y spread widened 2bps to +71. Rates fell in Europe but rose in the U.K. and Japan. The spread between Italian and German 10Y bonds is 0.61%. 5-year breakeven inflation expectations rose 29bps and now sit at 2.56%; 10-year breakeven inflation expectations rose 10bps and now sit at 2.34%; the 10Y real yield fell 1bp to 1.90%. For 2026, the market expects 2 cuts vs. the Fed’s guidance of 1 cut. At year-end 2026, the market expects the Fed Funds rate to be 3.13% vs. the Fed’s guidance of 3.25%-3.5%.
Currencies/Commodities
The dollar index fell 1.4%. The commodities complex rose 9.8% with energy prices spiking 17.2%. Brent prices rose 16.2% to $71/bbl amid increased geopolitical tensions and production disruption due to the winter storm in the U.S. US natural gas prices surged 18.1% as a winter storm covered a large swarth of the country; European gas prices rose 39.1% due to a sudden shift in sentiment around the adequacy of inventories. Gold continued its surge and topped $5,000/oz before plunging upon the appointment of Kevin Warsh as Fed Chair but ended the month up 13.3% at $4,894/oz; Silver topped $116/oz before plunging 25% in a day to end up 18.9% for the month at $85/oz.
Market monitors
Volatility rose for stocks and for bonds during the month before retreating (VIX = 17, MOVE = 54) vs. the 10-year average for each VIX=19, MOVE = 80. Market sentiment remained bullish, rising from +3 to +14.