Matt Davis · Davis Financial Group

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AE WEALTH MANAGEMENT:

Q1 2026 MARKET REPORT

The first quarter of 2026 will be remembered as one of the most eventful in recent memory. Markets entered the year on a high note, with both the S&P 500 and Dow Jones Industrial Average approaching milestone levels.1,2

The optimism didn't last long. Over just three months, investors navigated Federal Reserve policy drama, a Supreme Court ruling on tariffs, a partial funding standoff in Congress and a significant U.S. military operation in the Middle East. By quarter's end, markets had erased all of their early 2026 gains and then some.

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A Strong Start

The quarter opened with genuine momentum. The S&P 500 was closing in on 7,000 points, while the Dow approached the 50,000 mark. This reflected investor expectations that the economy would rebound after the government shutdown that disrupted the final months of 2025.

An early geopolitical development rattled markets when the U.S. ordered the capture of Venezuelan President Nicolas Maduro, who had been accused of harboring narco-terrorists and facilitating drug trafficking into the United States.3 Markets regained their footing and resumed their climb, with the S&P 500 briefly topping 7,000 in intraday trading and the Dow breaking through the 50,000 threshold for the first time.4,5

Fed Policy and Political Pressure

As the quarter progressed, warning signs began to surface. The labor market was showing signs of softening while inflation remained elevated. Against that backdrop, the Fed met in January and decided to suspend its rate-cutting cycle, citing persistent inflation amid a still-stable jobs market.6

Markets did not respond well to the Fed's pause. Adding to the tension, President Trump publicly pressed for lower rates. The administration also opened an investigation into Fed Chair Jerome Powell's management of spending on new Fed facilities, prompting an unusual public defense from Powell.7

The situation escalated further when President Trump named Kevin Warsh as Powell's successor, effective in May.8 Markets ultimately absorbed the news by concluding that rate cuts were unlikely before the second half of the year, with Powell effectively serving as a lame-duck Fed chair in the interim.

Rotation and Volatility

With rate cut expectations pushed further out, markets shifted into what analysts referred to as "the Great Rotation." Investors moved away from AI and large-cap technology stocks (widely seen as overvalued) and rotated into broader large-cap, mid-cap and small-cap equities. The shift introduced a sustained period of volatility even as the overall market initially held near its highs.

At the same time, Congress avoided a second government shutdown by reaching a partial funding agreement, but a dispute over funding for the Department of Homeland Security left full government funding unresolved.9 The standoff ultimately contributed to the removal of DHS Secretary Kristi Noem.10

Economic Data Disappoints

Employment data weakened over the quarter, and inflation remained stubbornly elevated. Fourth-quarter 2025 gross domestic product (GDP) initially came in at a weak 1.4% and was revised further downward to 0.7%.11 The combination of slowing growth and persistent inflation raised the prospect of stagflation — a challenging environment for both investors and policymakers.

A further complication arrived in February when the Supreme Court ruled President Trump lacked authority under the International Emergency Economic Powers Act to impose tariffs.12 The administration quickly reassembled a similar tariff structure through alternative mechanisms, but the legal uncertainty reignited market anxieties and produced another period of turbulence.

Geopolitical Shock Erases Gains

The most significant market event of the first quarter came on Feb. 28, when the U.S. and Israel launched Operation Epic Fury, a military offensive targeting Iran's top leadership.13 The operation continued throughout the month of March.

The near-term impact was swift and severe. Oil prices surged from the $60-per-barrel range to more than $100 per barrel, and equity markets fell sharply as volatility spiked. National gas prices rose significantly almost overnight, as Iran's proximity to major oil production and shipping routes amplified the potential disruption to global energy markets.14

By quarter's end, markets had given back all of their 2026 gains.

Equity Performance as of March 31, 2026

Equity IndexQ11 YR3 YRS5 YRS
S&P 500:-4.63%16.33%16.69%10.44%
NASDAQ:-7.11%24.81%20.89%10.26%
DJIA:-3.58%10.33%11.67%7.04%

Looking Ahead

How the situation in the Middle East unfolds will likely be the single biggest variable for markets in the second quarter. A swift resolution could support a meaningful rally, as investors would refocus on corporate earnings, valuations and the prospect of resumed Fed rate cuts. A prolonged conflict, on the other hand, would likely keep energy prices elevated and maintain pressure on inflation.

The Fed's next steps will be closely watched. With inflation still above the 2% target and GDP growth slowing, policymakers face a difficult set of trade-offs.15 Incoming data on employment and consumer spending will play a significant role in shaping rate expectations heading into the summer. The transition to a new Fed chair in May adds another layer of uncertainty for markets to absorb.

Regardless of how these dynamics play out, the principles that served investors well throughout a turbulent first quarter remain relevant: maintaining a diversified portfolio, avoiding reactive decisions based on short-term headlines and staying aligned with your long-term financial plan. If you have questions about how recent events may affect your portfolio, this is a good time to connect with your financial advisor and confirm your plan is still on track.

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