February 4th, 2026
On September 9th of last year an unusual event took place. Elon Musk was no longer the richest person in the world, a title that he had held since 2021. For a brief time, Larry Ellison, the founder of Oracle was at the top of the list of the world’s wealthiest. Following a 40% surge in Oracle stock due to strong AI demand, Ellison’s net worth increased by over $100 billion in a single day, reaching $400 billion. He was briefly the world’s richest person.
Today, less than four months later, Oracle’s stock price has fallen more than 60% from its peak. Investors have concerns about its aggressive spending on AI infrastructure, much of which is financed through debt. They are also concerned that Oracle is highly dependent on the success of OpenAI. Approximately half of Oracle’s future business is tied to OpenAI. For now, Larry Ellison will have to figure out how to make do with only $240 billion.
Oracle is an extreme example of some of the questions investors face when trying to identify the winners and losers from the emergence of AI. The software industry is at the epicenter of the current sell-off in technology stocks. The stock prices of industry leaders like Legal Zoom and DocuSign are down more than 50% after Anthropic announced that it was releasing a new legal tool. Current estimates don’t yet reflect the potential threat. Docusign is falling despite increasing earnings estimates for 2026 and 2027. Investors and analysts are basically guessing as to how these industries will fare against the emergence of AI.
The software industry represents about 40% of the technology sector, which currently makes up almost 35% of the S&P 500. If software stood alone as a sector, it would be 14% of the S&P 500, larger than any other sector besides technology. The software index is now down about 28% from its peak set on September 19th. Our software companies are not immune to the selling pressure. The market is in the mode of sell first, ask questions later which leads to investors discounting stock prices to reflect an extinction level event.
If you only looked at the price of the S&P 500, the market appears stable, up about 1% for the first few weeks of the year, but that stability masks some turbulent price action under the surface. Investors who allowed the growth and technology allocation to dominate their portfolios are feeling some severe pain for the first time in a few years.
Non-U.S. stocks continue to lead the global stock market. Over the last twelve months, non-U.S. stocks are up more than twice as much as the U.S. market. They have a lot of catching up to do. Over the past five years, the S&P 500 is up more than twice as much as the international stock index.
While we wait for the Supreme Court to rule on the legality of tariffs, the international trade flows continue to adjust to the current era of increased regionalization. Driven by a need for supply chain resilience, and reduced costs, major trade hubs like Europe, North America, and Asia now conduct most of their trade internally. Historically, international trade relied on the U.S. dollar as the currency of choice. Increased intra-regional trade decreases the global reliance on the dollar. This has a few implications. First, foreign stocks increase in value as the dollar depreciates. Second, foreign earnings of U.S. based multi-nationals increase in value. Overall, a declining dollar is a tailwind for U.S. corporate earnings. Third, a depreciating dollar increases the cost of global commodities like gold and oil. Finally, a cheaper dollar increases the costs of imports to the U.S. consumer. The upward pressure on prices drives interest rates higher.
Our approach to portfolio management relies on diversification. About 30% of the stock portfolio is invested in non-U.S. stocks. The U.S. portion of the portfolio is a balance of growth and value stocks. Growth has dominated for the last several years, but there are indications that this is starting to turn in value’s favor. Across all our strategies, we favor high quality companies with good prospects and attractive valuations. We will likely lag in market environments that favor highly speculative, cash-burning companies and that’s fine by me. Our companies have earned their annual return of almost 18% over the last three years.
The S&P 500 ended 2025 about 1% below the price that I projected in last year’s January commentary. I’m proud to say that my target was much closer to the bullseye than most market experts.
The market began 2025 trading at 22.4 times 2026 earnings. It currently trades at 22.2 times earnings. My 2025 forecast suggested that if the economy can avoid a recession, then valuations should stay the same or even increase. The same holds true for this year.
As we have seen over the last few months, individual company outlooks are subject to disruption and rapid change. The market will react before the consensus of investors comprehends the factors driving the change. The challenge is that the market is not always right, so we must rely on our experience to help us separate truth from fiction.
Despite the sluggish job market, current economic growth forecasts for 2026 are clustering between 2% and 2.5% growth. We will begin to feel the effects of the fiscal stimulus that congress enacted last year. The One Big Beautiful Bill Act (OBBBA) cut taxes on high earners. It increased the amount of state and local taxes that are eligible for deduction. It expanded credits for childcare and Social Security. According to the Budget Lab at Yale University, the OBBBA will boost GDP by .2% per year from 2025 to 2027.
Business investment in artificial intelligence and the infrastructure necessary to support AI will also support economic growth. The Federal Reserve has cut interest rates ¾ of 1% over the last few months. Lower borrowing rates should modestly support higher investment in housing compared to 2025. If we can estimate the growth of GDP, we can also estimate corporate revenue growth, and earnings growth.
Forecasts within twelve months are generally reliable. As we look further out, the crystal ball gets cloudier. Analysts rely on a combination of top-down and bottom-up factors. Top-down factors are variables like economic growth and the direction of interest rates. Bottom-up variables are more specific to the individual companies in the market. Companies give guidance on revenue growth and operating margins, which allows analysts to derive earnings forecasts for each individual company. These individual outlooks are aggregated to form a comprehensive, index level estimate.
Modest economic growth with declining inflation is an excellent backdrop for earnings growth. The earnings projections of Wall Street strategists reflect this optimism. The consensus for 2026 earnings growth is about 14%.
The market will fluctuate as investors begin to discount 2027 earnings. If 2026 follows the baseline forecast, the $310 earnings forecast for 2026 will transform into $350 in earnings for 2027. If we assume the market valuation is the same at the end of 2026 as it is at the beginning then the S&P 500 would reach 7,840, 14% higher than today.
Eric Barden, CFA
