Hi, everyone. I'm Liz Ann Sonders, and this is the December Market Snapshot. Happy holidays, everyone.
In this slightly longer than usual installment, I'll provide, well, a snapshot of our just published 2026 Outlook Report, which you can find on the Learn tab on schwab.com. Now, the visuals in this video are just a sampling of what you'll find in the full report, which, as always, I penned with my brilliant colleague and our newly-minted head of Global Macro Research, Kevin Gordon.
[K-shaped visual for "Cycle still brought to you by letter K" is displayed]
So let me start by framing this broadly. This unique economic market cycle is best defined using a couple of key letters, U and K. I'll get to the K in a second, what you see on the screen. The U-word most often used to describe the backdrop is 'uncertain.' I always chuckle inside my own head when I hear the old adage that the market hates uncertainty, as if the environment is ever certain. I believe the more relevant U-word for the current set of macro market circumstances is 'unstable.' To-date, instability obviously hasn't knocked the stock market off its enviable path higher this year, and the market may continue to climb a wall of worry in 2026, but we do expect that ongoing instability is likely to usher in bouts of volatility, sustained high churn and rotation, and probably a persistence in this K.
Now, without playing around too much with semantics, 'uncertain' implies a lack of clarity, obviously, while 'unstable' implies movement, with shifting inputs and relationships happening somewhat rapidly. We think there's still going to be that tension between the upper part of the K and the lower part of the K. But the reality is this current backdrop isn't just unclear, it's fluctuating in real time.
Now, uncertain environments still allow forecasters and prognosticators to build somewhat reliable probability models. Unstable environments bring less reliable probabilities because the underlying relationships are changing in real time, and they're affecting different parts of the economy, and even market at different times, again, hence the K-shaped nature of this cycle.
[High/low chart for "Tariffs boosting prices" for Retail prices for Imported and domestic goods is displayed]
Now, it's safe to say that inflation, and by direct association, affordability, has dominated the post pandemic economic discourse for multiple reasons. A good chunk of that upside risk might be driven by tariffs which have already lifted prices on consumer goods by a notable magnitude. As shown here, tariffs have led to higher overall retail prices relative to the pre-tariff trend. Now, intuitively, the increase has been sharper for imported goods, but it's worth noting that domestic goods' prices have also moved higher. In other words, tariffs are not only impacting prices on goods coming from overseas, but domestic goods as well.
[High/low chart for "The small get smaller" for ADP change in employment by firm size for 500+ employees, 1-19 employees and 20-49 employees is displayed]
Now let's move on to the labor market. Courtesy of the government shutdown, we published our outlook without any updated official payroll data for October or November. So investors have had to rely on private sector sources, like ADP, which show an increasingly soft hiring backdrop, with all of the stress concentrated in smaller businesses, and weakness having accelerated last summer when businesses started to feel more of a pinch from tariffs.
[High/low chart for "Unprecedented divide" for University of Michigan expected increase in unemployment rate during the next year and Consumer confidence expectations for stock prices to increase over the next year is displayed]
Now, staying on the subject of the labor market, one of the more striking K-shaped bifurcations is the clash between the dour expectations for unemployment and the unusually upbeat outlook for stock prices. So the UMich survey's respondents that's associated with the unemployment outlook, they tend to be more sensitive to job security, wages, and day-to-day economic stress that kind of captures the "kitchen table" anxieties that have kept recession fears elevated. In contrast, the other survey, the Conference Board's, showing stock price expectations, those survey respondents reflect a more market-aware and often higher income cohort that has obviously been buoyed by rising equity prices, abundant liquidity, and the resilience of corporate profits. The result is a split personality in confidence, again, textbook K.
[High/low chart for "Midterm years' dull historical performance" for S&P 500 Four-year presidential cycle and YTD performance is displayed]
[Table for S&P 500 presidential cycle average, best, worst and % positive performance for 1st, 2nd, 3rd and Election year is displayed]
Now, let's home in a bit more on the market. Unless you've been living under a rock, you know that we're heading into a midterm election year in 2026. Shown here is the historical four-year presidential cycle performance pattern, just looking at calendar years over the four-year pattern. Notable is the fact that 2025's performance, after undershooting the historical trend significantly, as you can see, into the early April tariff tantrum, it's now significantly overshot the trend since then. Now, that doesn't necessarily mean reversion to the norm is about to kick in, but in keeping with historical trends, we do expect significant market gains to be more difficult to come by in 2026.
[Visual for "AI goes round and round" for How Nvidia and OpenAI Fuel the AI Money Machine is displayed]
Now, this cycle is also being brought to you by the letters A and I. Everyone knows what that is. This visual has been making the rounds over the last month or two, rightly so, as it does a terrific job laying out not only the companies involved, but the circular financing concerns that have really become elevated in the AI ecosystem. The primary concern being that it creates a self-reinforcing, potentially unsustainable loop of investment and demand that may obscure genuine market value.
Now, while this does accelerate innovation and infrastructure build out, critics worry it artificially inflates revenue and valuations, as the capital is simply circulating between a relatively small handful of interconnected companies, rather than being driven by broad external user demand. And that's why we've had this elevated comparison to the dot-com bubble in late 1990s. We do expect these concerns to persist in 2026.
We also believe that the market could start rewarding AI adopters more than AI enablers. With the adopters we're starting to see more tangible cost reductions from automating routine tasks, driving revenue growth for improved customer satisfaction through faster product development.
[High/low chart for "Earnings to the rescue" for S&P 500 Forward P/E and EPS is displayed]
Amidst the AI hype and mega-cap significant weight in cap-weighted indexes like the S&P 500, a less discussed aspect of the market's performance in 2025 has been the lack of multiple PE expansion in the second half of the year. So shown here, the forward earnings per share estimate for the S&P 500 has made successive all-time highs since the low earlier this spring. Taking a backseat has been the forward PE ratio, price-to-earnings ratio. In other words, the E, earnings, have been doing more of the heavy lifting, which has actually put beneficial downward pressure on the PE.
Now, in general, an earnings-driven market tends to be healthy, and has been much needed this year after multiples got back to cycle highs. If forward earnings estimate continue their upward trek, we see the possibility of multiples continuing to move lower into 2026. In other words, the market's PE would be moving down for the so-called right reason, (i.e., prices not falling rapidly).
[Scattergram chart for "Valuation says…nothing" for S&P forward P/E vs. S&P 500 price performance 1-year later is displayed]
Crucially, and we make this point often, a stretched multiple, stretched valuations, that doesn't necessarily translate into imminent downside risk for the market. Shown here is one of our favorite scattergrams, which plots the S&P 500's forward PE against the index's return a year later. What you can see is that the relationship is essentially insignificant, and it underscores the important market truth, that valuation is a horrible market timing tool. By the way, there's no such thing as a good market timing tool. Now, as a real-time example, take the S&P 500's forward PE a year ago, it was a lofty 22-1/2. One year later, the index is up by about 13%.
[List of "Takeaways" is displayed]
So let me sum things up. Year ahead outlooks are interesting exercises, in that they imply a fresh turning of the page when one year ends and another begins, as if the economy and market are not dynamic beasts. So keep that in mind. That said, what doesn't change heading into 2026 is the sticky nature of macro forces like tariffs, like the K-shaped economy, and what could continue to be a wobbly labor market. Some themes like AI are still with us, but they're changing in complexion.
There still remains a lot of unknowns. However, we aren't really waiting for clarity. We're just living inside this continuously shifting equilibrium, and that's been leading to and will continue to lead to faster capital shifts between investing styles, higher interest sector dispersion. We encourage, though, investors to embrace the reality of a higher volatility and dispersion floor. It isn't a bad environment for the market, it's just different.
Take a look at our written outlook for more details. Thanks, as always, for tuning in, and happy holidays to you all.
[Disclosures and Definitions are displayed]