Third quarter results were strong on the surface. Driven largely by AI infrastructure names, record earnings helped lift the S&P 500 11.8% YTD through September 30. Beneath the headline, however, the market was far more fragile.

Polarized Market

Market performance was highly unequal. AI infrastructure and megacap growth companies propped up headline index returns, yet over 80% of S&P 500 stocks sat in correction territory, trading more than 10% below their 52-week highs. The 10 largest companies now command roughly 40% of the index, a concentration level not seen since the mid-1960s. This reliance on so few names creates an imbalance of stock market risk that demands close monitoring.

Energy and Supply Constraints

Prolonged supply shocks and geopolitical conflict continue to push energy prices higher. With oil around $100 a barrel and strategic reserves at a 44-year low, the longer the disruption lasts, the heavier the toll on the broader economy.

Interest Rates

Yields rose sharply in Q3 as core inflation remained above the Fed’s 2% goal. Resilient consumer spending, solid labor market developments, and heavy AI investment gave the Fed room to hike rates on September 16, its first increase in over three years. Hyperscalers also tapped debt markets to fund infrastructure, adding significant corporate bond supply alongside heavy Treasury issuance, further pushing long-term yields higher. Persistent federal deficits renewed “fiscal dominance” concerns, the fear of structurally higher inflation and rates.

Midterms

Markets are typically volatile around midterm elections, and the incumbent congressional party usually loses seats. History shows little link between the party in power and equity returns. 

Our View

Fed rate hikes will not lower gas prices. This is a supply shock, not a demand problem. Though core inflation has moderated, the higher cost of money matters. Rising rates directly pressure housing, consumer-financed purchases, business investment, and bond prices. We see the economy at mid-cycle, historically a constructive backdrop for stocks. Corporate earnings have surged, fueled by innovation, particularly in AI infrastructure, on a scale that appears to be reshaping the economy for the first time in a generation. Still, clear risks remain abundant with any escalation in the US/Iran or Ukraine/Russia conflicts, higher oil, sharply higher rates, and leveraged AI spending that may not earn expected returns. Volatile quarters like this test our patience, but our strategy stays focused on owning diversified quality assets, while time remains your best ally as a long-term investor.