Key Takeaways

No tactical changes. We are maintaining our current tactical positioning to start the year. Following a year where diversification finally paid dividends—with international equities outperforming the U.S.—we see no immediate catalyst to alter our slightly defensive but invested stance. Earnings outlooks are robust, but valuations with US large caps remain elevated, warranting modest caution.

Jobless growth and productivity. The economy has shifted from “cooling” to a narrative of “jobless growth.” While GDP remains robust at +4.3%, rising unemployment (4.4%) suggests companies are successfully substituting capital (AI/automation) for labor. This productivity boom supports earnings but validates our preference for quality over pure cyclicality.

Fiscal tailwinds vs. policy fog. We anticipate a fiscal impulse in the first half of 2026 driven by the “OBBBA” tax refunds, which is expected to deliver outsized tax refunds for the consumer in early 2026. However, this is counterbalanced by the “known unknown” of tariff policies and geopolitical friction, suggesting volatility could likely remain a feature of this market environment.

Fixed Income stability. With the Fed pivoting from balance sheet runoff to re-expansion and enacting “insurance cuts,” liquidity conditions remain supportive. We maintain our overweight to Core Fixed Income as yields remain attractive relative to the last decade, despite recent moderation.

The Macro (Top-Down) Picture

The “soft landing” consensus has evolved into a more nuanced reality of “jobless growth.” The economic data paints a picture of bifurcation: Gross Domestic Product (GDP) is expanding at a healthy 4.3% clip, yet

unemployment has ticked up to 4.4%. This divergence suggests that the massive capital expenditures in Artificial Intelligence are beginning to manifest as productivity gains—effectively allowing output to expand without a commensurate expansion in headcount, though a broadening out of economic activity could help keep the labor market in normalization, not deterioration phase.

United States. The American consumer remains resilient, though sentiment is dislocated from action. While sentiment scores suggest consumers feel pressured by sticky inflation, their balance sheets tell a stronger story. Household leverage ratios are at 40+ year lows (debt to net worth at 12.3%), and net worths have risen faster than the pre-2020 trend. Looking ahead to the first half of 2026, we expect a consumption tailwind from the OBBBA legislation, which is estimated to boost tax refunds for many working households. This fiscal impulse arrives just as the Federal Reserve has shifted to “maintenance cuts,” lowering rates to the 3.50–3.75% range to support the labor market rather than rescue a failing economy.

Europe and Asia. Diversification proved its worth in 2025, with international markets beating U.S. equities for the first time in years. This was not purely a growth story; rather, it was driven by multiple expansion and currency dynamics. In Europe, physical industries enjoyed a resurgence, while Japan and China saw returns driven by shareholder value initiatives and policy pivots, respectively. While the U.S. dollar may face headwinds from the Fed’s easing bias relative to the ECB, we believe international valuations remain attractive relative to the U.S., validating our continued allocation to these markets.

Fixed Income. The Federal Reserve has pivoted from quantitative tightening to balance sheet re-expansion via reserve management purchases, ensuring ample liquidity in the system. With the market pricing in approximately 70bps of additional cuts in 2026, we are witnessing a normalization of the yield curve. Although absolute yields have shifted lower, they remain above their 10-year averages, and credit spreads remain tight. Consequently, we prefer to manage risk through a “barbell” approach—pairing high-quality, intermediate duration with selective credit exposure—rather than chasing yield in lower-quality segments.

The Micro (Bottom-Up) Picture

Equities. The “Mag 7” monolith fractured in 2025 as returns were driven less by an optimistic cohort and more by execution, evidenced by the wide dispersion between top performers (Google +68%) and laggards (Amazon +5.2%). The AI trade is broadening into “physical” beneficiaries, such as utilities and industrials, which are powering the data center buildout. While U.S. large cap valuations remain stretched at over 22x forward earnings, high earnings growth estimates help support these multiples, especially in the growth vs. value cohort. However, given the concentration risk—where the top 10 stocks comprise over 40% of the S&P 500—we maintain our slight tactical underweight to U.S. Large Cap in favor of diversification.

Credit. Credit spreads have re-tightened, signaling that markets are pricing in a constructive economic outlook with little buffer for potential volatility. With absolute yields shifting lower but remaining above their 10-year averages, we see limited reward for taking on broad credit risk at these valuations. Consequently, we advise being very selective, favoring managers with the flexibility to navigate dispersion and underwrite through volatility—focusing on niche areas like securitized credit rather than chasing yield via broad index exposure.

Private Markets. We are seeing signs of a thaw in exit markets. The successful IPOs of companies like Circle, Chime, and Figma in 2025 suggest a return of liquidity events. Private equity valuations have stabilized, and while bid-ask spreads remain, the environment for deploying capital into vintage years benefiting from lower rates looks constructive.

This is a summary of our full Tactical Allocation Viewpoints report, which includes detail on Pathstone’s current recommended allocations by asset class and sub-class.