Market Commentary - January 2026: A Year in Review
Artificial Intelligence and the US Equity Market
Artificial intelligence remained the primary driver of US equity markets in 2025. The Communication Services and Information Technology sectors significantly outperformed the broader market, delivering returns of 33.0% and 23.6%, respectively. However, market performance became increasingly selective as investors worked to distinguish the ultimate winners of the AI race from the losers.
In contrast, consumer-focused sectors faced greater challenges. Sluggish job growth weighed on consumer confidence, while concerns regarding softening demand made companies reluctant to pass tariff-related costs on to customers. While this restraint helped prevent a spike in inflation, it simultaneously dampened returns in these sectors. Overall, US equities delivered an annual return of 17.9%. Despite this positive result, they were outperformed by other regions; notably, 2025 marked the first time in 20 years that the S&P 500 was the worst-performing major equity market.
The Fading Dominance of the "Magnificent Seven"
As the year progressed, investor attention began to shift away from the "Magnificent Seven." Of this group, only Alphabet and NVIDIA managed to outperform the S&P 500, marking a notable departure from previous years when gains were heavily concentrated in a handful of mega-cap technology stocks. Part of this shift reflects the extraordinary run-up these companies had experienced in prior years; sustaining returns of that magnitude would have been remarkable for even the strongest performers like NVIDIA and Alphabet.
Although NVIDIA remained the largest contributor to overall S&P 500 returns, this headline figure masks an important detail: in terms of share price performance, NVIDIA ranked only 75th among index constituents. Its outsized influence on the index was driven primarily by its massive market capitalization rather than exceptional price gains. This highlights the risks of overconcentration in a few large names and underscores that market leadership in 2025 was far broader, with meaningful opportunities extending well beyond a small group of high-profile technology stocks.
The Case for International Diversification
International diversification, long promoted despite extended periods of underperformance, proved its value in 2025. International equities delivered the strongest results of any major asset class, while small-cap value stocks were the weakest performers within the equity universe.
Monthly rankings often failed to capture the full picture. US Large-Cap Growth (as measured by the Russell 1000 Growth Index) led the market in five of the twelve months, while international equities (as measured by the MSCI EAFE Index) ranked first in only three. Nevertheless, international stocks finished the year markedly ahead. Globally diversified portfolios benefited from this for a couple reasons:
● Broadened Growth: After a long period of "US Exceptionalism," non-US markets began to catch up, aided by lower valuations, tariff positioning, and improving earnings momentum.
● Currency Tailwinds: The sharp weakening of the US dollar significantly boosted returns from overseas assets when translated back into domestic currency, a benefit not realized by US-centric portfolios.
Together, these broader sources of returns and favorable currency effects meant that globally diversified portfolios captured more upside while remaining less reliant on a narrow group of US technology stocks.
Fixed Income: Risk Assets Extend the Rally
The strong performance of risk assets extended into the fixed-income markets, where credit spreads tightened across all sectors. Emerging market debt was the top-performing fixed-income category, supported by solid economic conditions, robust investor demand, and favorable currency movements. While default rates in US and European high-yield bonds increased modestly, corporate balance sheets remained generally healthy.
Government Bonds and Interest Rates
Concerns regarding fiscal sustainability continued to weigh on government bond markets, leading to steeper yield curves globally. Despite worries about the long-term effects of the "One Big Beautiful Bill" on US debt, US Treasuries were the strongest-performing major government bond market in local currency terms.
The anticipated inflation surge from tariffs failed to materialize. Simultaneously, increasing concerns about the labor market prompted the Federal Reserve to cut interest rates by 75 basis points in the second half of the year, providing crucial support for bond prices.
Key Takeaways from 2025
Overall, 2025 was a rewarding year for investors, marking a clear shift in market leadership and reinforcing several important lessons.
While artificial intelligence remained a powerful driver of returns, performance within US equities became increasingly selective and less reliant on a narrow group of mega-cap stocks, reducing the effectiveness of highly concentrated, US-centric portfolios.
At the same time, international diversification proved its value as growth broadened beyond the US and a weaker dollar amplified overseas returns, allowing globally diversified portfolios to outperform despite positive US equity performance.
Fixed income echoed this theme, with credit benefiting from risk appetite and government bonds supported by slowing growth and easier monetary policy.
Taken together, 2025 highlighted the importance of balance over concentration, global opportunity over home bias, and disciplined diversification as the foundation for resilient portfolios.
From the Investments Desk at MDL Wealth Management and Journey Strategic Wealth
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