Executive Summary: July Market Performance
In July, global equities were mostly unchanged, though the relative stability masked substantial underlying volatility. The month was marked by a violent unwind of the AI/semiconductor trade, volatility in oil prices as a permanent peace in the Middle East proved elusive, and significant sector rotation. Adding to the volatility and rotations in equity markets was a strong upward move in bond yields, driven by a resilient economy and the emerging fear that current monetary policy may not be restrictive enough to control inflation in this environment. The S&P 500 returned -0.1% for the month, though YTD leading sectors such as technology and industrials saw losses while YTD lagging sectors such as financials and healthcare saw gains. The S&P Equal Weight Index rose 1.0%, and value outpaced growth across market capitalizations; mid cap (-0.6%) and small cap (-3.0%) stocks both saw losses and lagged large caps. Within the S&P 500, energy (+12.6%) and financials (+6.2%) were the best performing sectors; technology (-3.4%) and industrials (-3.0%) were the laggards. EAFE markets returned 2.0% in July with gains across major geographies, while EM returned -3.1% as gains in China (+9.0%) and Brazil (+6.4%) were more than offset by semiconductor stock-driven losses in Korea (-17.1%).
Bonds traded lower as Treasury yields rose. The U.S. Bond Aggregate returned -1.3% as rising oil prices tied to the U.S.-Iran conflict reignited inflation concerns. Investment-grade corporates declined more than high-yield corporates due in part to their lower duration/interest rate risk than investment-grade. The U.S. dollar declined 1.3% vs. other developed market currencies.
Markets Turn Back to the Middle East as Tensions Resurface
The ceasefire from earlier this spring didn’t hold in July. Renewed conflict between the U.S. and Iran resurfaced the same headlines and concerns from earlier in the year, as uncertainty around the Strait of Hormuz once again raised the risk of reduced oil supply. Late-month headlines pointed to another round of de-escalation, but the conflict’s status remains fluid. The situation matters for the same reason it did the first time around: energy prices feed directly into inflation, and inflation impacts Federal Reserve policy. The Fed ultimately held interest rates steady for a fifth consecutive meeting in July, though a handful of officials pushed for a +0.25% rate hike given the renewed inflation risk.
This isn’t the first time this year that markets have moved through this cycle. There have been multiple mini cycles of conflict escalating, oil prices rising, and tensions easing, only for the pattern to repeat. The specific headlines and details shift from week to week, but markets have now absorbed the same shock more than once. The Fed’s split decision in late July reflects the lack of certainty. Officials are debating their next move but choosing to gather more information rather than react to headlines. Despite the headline volatility, the net impact on markets has been limited. The stock market rebounded from the March selloff, and the S&P 500 has returned nearly +10%.
AI Stocks Trade Lower as Investors Shift Focus from Growth to Discipline
Second quarter earnings season kicked off in July, with leading AI companies Alphabet, Microsoft, Meta, Apple, and Amazon all reporting. The group, which is investing heavily in data centers and other AI-related infrastructure, talked about their forecasts and spending plans. For the past two years, the conversation around AI centered on scale. Investors focused on how much companies were spending, how fast they were building, and how big the opportunity could become. This quarter, there was a noticeable shift toward profitability and return on investment.
In a shift from recent quarters, investors pushed back on the spending. Companies whose investments are translating into growth, like Microsoft’s cloud business, were rewarded, while others, whose spending has outpaced their cash flow or weighed on profit margins, saw their stocks trade lower. The market is no longer simply rewarding growth and big spending numbers. It’s asking whether the spending is profitable, or whether rising expenses are outpacing revenue growth. This is a natural and, in many ways, healthy form of discipline. Every major technological buildout eventually reaches a point where investors stop rewarding growth alone and start looking for it to be matched by results. July was the moment that question arrived for AI.
Semiconductor stocks, along with other parts of the AI trade, gave back some of their gains from earlier in the year as investors questioned the sustainability of current spending levels. Despite the semiconductor and AI selloff, the volatility was relatively contained. The equal-weight S&P 500, a proxy for the average S&P 500 stock, set a new all-time high late in the month, and seven of eleven S&P 500 sectors traded higher. Credit spreads, which measure the market’s concern about credit risk, expanded modestly but remain very tight by historical standards. Even after the semiconductor July pullback of approximately 20%, semiconductor stocks are still up nearly +60% year-to-date. As for the companies doing the spending, they forecast even higher spending levels in the coming quarters.
Fixed Income
Investment-grade fixed income asset classes had negative returns as rates rose sharply across the curve and credit spreads widened. Municipals returned -1.9% (-0.8% YTD), the Bloomberg Aggregate Index returned -1.3% (-0.7% YTD), while investment-grade corporates returned -1.7% (-0.8% YTD). High-yield bonds returned -0.3% (+1.7% YTD) as spreads widened 9bps while leveraged loan returns returned +0.8% (+2.2% YTD). Emerging Market debt returned -0.8% (+3.4% YTD) as the U.S. dollar fell 1.3% and spreads widened 11bps.
Rates
Rates rose sharply across the curve with investors concerned that inflation may remain higher for longer with the economy strong and the Fed remaining on hold; the removal of forward guidance from the Fed under new Chairman Kevin Warsh has contributed to increased rate volatility. 2-year rates rose 12bps to 4.29%; 10-year rates rose 27bps to 4.74%. The recession-watch 3M-10Y spread widened 32bps to +96. The 2Y-10Y spread widened 15bps to +44. Rates rose sharply in other developed markets as well. The spread between Italian and German 10Y bonds is 0.81%. 5-year breakeven inflation expectations rose 2bps to 2.29% (vs. recent high of 2.74% on May 4, 2026); 10-year breakeven inflation expectations rose 5bps to 2.28% (vs. recent high of 2.52 on May 4, 2026); the 10Y real yield rose 22bps to 2.45%. For 2026, markets now expect between one and two rate hikes. At year-end 2026, the market expects the Fed Funds rate to be 3.98%.
Currencies/Commodities
The dollar index fell 1.3%. The commodities complex rose 12.6% with energy prices rising 22.5%. Brent prices rose 23.6% to $90/bbl. US natural gas prices fell 16.1%, coming off levels related to the June heat wave, while European gas prices jumped 36.8% based on low inventories and continued supply uncertainty due to the Iran war. Gold rose 1.0% to $4,046/oz, silver fell 1.7% to $58/oz. Bitcoin rose 7.3% in July to $62,899.
Market monitors
Volatility rose for stocks and for bonds (VIX = 16, MOVE = 83). Market sentiment fell from +9 to 11, indicating that investors remain cautious around geopolitics and stock market volatility despite strong corporate fundamentals.
Outlook
Markets have navigated significant equity and interest rate volatility this year, with investor sentiment shifting rapidly in response to changing expectations around economic growth, inflation, Federal Reserve policy, and geopolitical developments. Despite those swings, major equity indices remain near record highs. The consensus view still calls for a soft landing, reflecting the economy’s resilience despite a global oil supply disruption. The bull case is increasingly driven by corporate earnings rather than expectations for lower interest rates, while AI-related investment continues to be the dominant structural driver of earnings expectations. However, the market is widely viewed as pricing in these themes, and there’s recognition that full valuations and unresolved tensions in the Middle East introduce downside risks. The next 12 months likely depend on whether earnings growth can meet elevated valuations and whether inflation and energy prices remain contained.