The swan
Deirdre Kennedy
Head of Davy Global Fundamental Equities
It’s been an interesting year for stocks and a little complicated to explain how markets have behaved. Through multiple conflicts, an energy shock and AI safety scares, equities have delivered strong returns. The developed world index is up close to 16% and emerging market indices have returned 28%.
This might seem an unusual analogy but imagine a swan gliding gracefully along, looking very serene. Unseen, below water, the bird’s legs are thrashing around, moving in opposite directions. Just like the swan, overall stock markets have been fairly calm. Looking at the US, the VIX is the volatility index for the S&P 500. The US-Iran war drove the VIX higher in March, but it was nothing like the spike in volatility during President Trump’s tariff announcement last year. The long-term average for the VIX is 20. It ended September at 16, and it’s been below average this year. Barely a ruffled feather. Beneath the surface of market indices like the S&P 500, individual stocks have experienced significant volatility, much like a swan’s legs working furiously beneath the water. We’ve seen large single-day moves. A prime example is Microsoft, one of the biggest companies in the world. After reporting quarterly results in July, its shares leapt 15% in the following session. A huge move for a company of that size. Microsoft’s market value increased by $450bn, the largest single-day increase in one corporation’s capitalisation ever. While some shares have soared higher on a day, others have crashed lower. The dispersion in performance between stocks has been very wide, and it has cancelled out the single-stock volatility. The swan’s legs going in opposite directions. So viewed from above, the overall market hasn’t appeared volatile. The stock market swan, gliding along.
Unnatural force There’s been two major influences on equities this year: geopolitics and AI. The US-Iran conflict drove oil prices higher, with concerns about inflation and the impact on the consumer and the cost of living. It changed the outlook for monetary policy from interest rate cuts expected at the beginning of the year to interest rate increases. The European Central Bank (ECB) raised rates in June and September, and the US Federal Reserve (the Fed) increased interest rates last month. The fallout from geopolitics has been completely overwhelmed by the AI capital expenditure (capex) boom. Only two sectors have outperformed the broader market this year, energy and technology. Energy stocks are up 39%. The oil majors are benefitting from higher prices, with Brent around $100 a barrel, 65% higher since the end of 2025. Energy isn’t a large part of the market by weight. The technology sector has been the top performer, returning 40% and accounting for almost two thirds of the performance of global equities so far in 2026.
Top 10 contributors to global equity returns are all plays on AI The US-Iran war has had an impact on the market. Since the conflict began at the end of February, global equities have risen 13% but the median stock performance is much weaker. There are over 2,400 stocks in the global equity index and the middle performer is flat since the end of February. Lots of stocks have been left behind in this year’s rally. High levels of dispersion and single-stock volatility reflect anxiety about geopolitics and artificial intelligence.
Figure 1: Top 10 contributors to global equity returns year to date
Source: Bloomberg, MSCI, AC World Index. December 31st 2025, to September 30th, 2026.
Soaring earnings
Traditionally, when we look at stocks, we compare the market value of a company to the earnings that it generates. This produces the price to earnings (P/E) ratio. We can calculate the P/E for an individual company, and we can aggregate the data and look at the price to earnings ratio for the overall market. World equities are currently trading at less than 18 times earnings. That number is lower than it was at the start of the year even though the market has gone up. This is thanks to earnings forecasts rising even more. Earnings are forecast to grow at a double-digit pace across all the major regions this year. In the US earnings are set to climb more than 30%. The S&P 500 is getting a boost from the revaluation of holdings that some of the technology giants have in other companies, namely SpaceX and Anthropic. But even excluding those gains, earnings in the US are still expected to grow at least 20%. That kind of growth is more typical when recovering from a recession. The US accounts for two-thirds of global equities by weighting and almost three quarters of developed world equities. In emerging markets, earnings are forecast to grow an even more impressive 70%. This is where you see the biggest influence from the AI infrastructure story. Semiconductors and technology hardware stocks account for more than 40% of emerging indices by weighting. It is semiconductor makers like TSMC, SK Hynix and Samsung that are generating massive earnings growth.
Figure 2: MSCI World Index price to earnings multiple and forecast earnings
Source: Bloomberg, September 30th, 2026.
Remaining buoyant With double digit earnings growth forecast this year and next, what else can influence equities from here? We’ve had support from fiscal policy; even the German government has loosened the purse strings. We also see the impact of the US administration in lighter regulations: freeing up capacity for banks to lend more; cutting back on environmental requirements which cost companies money or restrict investment; loosening anti-trust so corporations feel free to build scale through acquisitions; more than $3trn US dollars of deals have been announced globally this year. There are capex tailwinds from building datacentres, reshoring and reindustrialisation. Corporate balance sheets are in decent shape, even though the technology giants, the so called hyperscalers, will spend $700bn this year and around $1trn next year building out AI infrastructure. US labour market data is always important, and the unemployment rate is low at 4.1%. The US mid-term elections in November will get a lot of attention. The expectation had been for the Republicans to retain the Senate and the Democrats to take control of the House. This would mean a split congress and gridlock, which the market likes. Although according to Polymarket the odds of a Democratic party sweep are now over 50%.
Choppy waters Geopolitical volatility is part of life. The US-Iran conflict cannot go on forever; there must be some resolution and normalisation of commodity flows through the Strait of Hormuz. While few expect peace in the Middle East, perhaps it turns into a form of Cold War. The Russia-Ukraine war is now in its fifth year, and there will be other geopolitical events in the future. Narrow market performance and dependency on AI capex related spending is a clear risk. It is boosting economic growth, earnings growth, the stock market, and the wealth effect. Semiconductors are now the largest industry group in the Global Equity universe accounting for over 16%. Five years ago, they were 5% of the market and 10 years ago just 2%. It’s a capital intensive and cyclical industry, prone to booms and busts. It’s in an AI boom phase now. There are uncertainties around the economics of AI, the disruption risk of AI and increasingly the destruction risk of AI. There have been jailbreaks from sandboxes and agent swarm attacks, which means that models have escaped their test environments. Most investors can appreciate the transformative potential of AI, but how exactly do the economics work? Will the large language models be commoditised? Will the hyperscalers get a return on their huge investments in datacentres? Is there enough power, water and labour to build the infrastructure? Will there be political pushback? Will organisations adopt the technology across business functions, and beyond coding which, may require a complete reorganisation of workflows? Concerned about the speed of advance, some AI leaders like Dario Amodei of Anthropic, want to pace development.
Deep undercurrent I run an equity fund, but I know who the boss is. It’s the bond market. It is the foundation for economies and markets because it influences the cost of borrowing. The higher the yield available on government bonds the more it competes with equities as an asset class. Bonds are getting a lot of attention now. US government debt has risen to $40trn, a headline grabbing number. The yield that investors require to lend to the US government has risen since the beginning of the year. The US isn’t alone, as government bond yields have risen around the world. Governments have a lot to pay for with aging populations, high spending on welfare, the price of increasing energy security, the cost of climate mitigation, and, in the era of great power rivalry, more investment in defence. To a certain degree, bond yields have just normalised over the last few years. Hovering around 5%, the yield on the US 10-year treasury is in line with the very long-term average. Investors that buy bonds want to see fiscal consolidation, governments reining in budget deficits. Populist politics goes against that. But the bond market is the boss. Looking ahead, there are many positives for markets and there are also risks. We encourage our clients to diversify across securities and asset classes, while taking a long-term view. The stock market swan won’t always appear so serene. From time to time there will be hissing and flapping of wings.
Warning: Past performance is not a reliable guide to future performance.
Warning: The value of your investment may go down as well as up.
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