MARKET UPDATE [FEBRUARY 2026]

MARKET OVERVIEW

            February 2026 was a month defined by escalating geopolitical friction, significant shifts in U.S trade policy, and a cooling but resilient domestic economy. The period began with a major legal rebuke to the White House’s tariff strategy when the Supreme Court stuck down duties imposed under the International Emergency Economic Powers Act (IEEPA), invalidating a core component of the administration’s 2025 trade agenda. The administration quickly moved to replace these with a new 10% global tariff surcharge under Section 122 of the Trade Act of 1974m signaling a pivot toward more aggressive trade protectionism despite mounting evidence that the economic burden of these levies is primarily borne by U.S firms and consumers.

            The geopolitical landscape deteriorated rapidly as the month closed, culminating in the death of the Iran’s Supreme leader, Alik Hamenei, during joint U.S – Israeli strikes that targeted the nation’s leadership, security forces, and nuclear infrastructure. This escalation abruptly ended any remaining prospects for diplomatic engagement, as Iran categorically rejected further negotiations despite earlier, failed attempts at de-escalation. The conflict had spilled into energy markets, causing a sharp spike in oil prices amid fears for security of shipping through the Strait of Hormuz. This instability triggered a “flight to safety” move across global financial markets, driving energy and defense stocks higher while pressuring travel and technology sectors.

            Domestically, the economic picture remained mixed. January job numbers showed a surprising rebound with 130,000 net new jobs, though this strength was tempered by the ongoing effects of mass deportation policies, which significantly reduced the foreign-born labor pool. While the economy showed signs of resilience, inflation remained stubborn, keeping the Federal Reserve on a split path on rate cut projections. Federal Reserve maintained high interest rates throughout the month, consistently signaling that reaching their 2% target would be a slow and uneven process.

            Investor sentiment was further strained by the “double edged sword” of artificial intelligence. While major technology companies continued to commit to massive capital expenditures for data centers, this spending surge created opaque depreciation schedules, complicating earnings analysis and leading to increasing scrutiny of long-term profitability. This anxiety contributed to a notable rotation in market leadership late in the month as investors moved capital away from high growth, capital light technology and software names toward “Halo” assets; companies with tangible, heavy infrastructure in energy, materials, and transport. This shift was underscored by stress in the private credit market, where liquidation at firms like Blue Owl Capital highlighted growing risks in what had previously been viewed as high opportunity sector.

MARKET OUTLOOK

A major challenge we faced over the past year was largely due to our structural perspective on the market and its anticipated direction. In December 2024, we made a significant call and took a big position against the market, prompted by perceived equity overvaluation, notable shifts in equity risk premiums, and heightened uncertainty with the Trump administration taking office. While we initially benefited from the market’s downward move, it quickly rebounded at the midpoint we had projected, and our increased exposure led to notable underperformance. For a period, it seemed clear that our competitive edge lay in predicting market direction using our distinct fundamental approach. However, as we examined the shortcomings of our models, it became apparent that the issue wasn’t with our observations themselves, but with the timeframe and scope of metrics we were considering. Specifically, we neglected historical cases of sharp downturns, such as those in 1987 and 2001–2002, which more appropriately resembles current market conditions.

The 1987 stock market crash, commonly known as “Black Monday”, remains a landmark event in financial history, driven not by a single catalyst but by a volatile combination of structural market flaws, macroeconomic instability, and psychological contagion. In the years leading up to the crash, a relentless five-year bull market had pushed the Dow Jones Industrial Average to record highs, resulting in valuations that many analysts believed were significantly disconnected from underlying corporate fundamentals. This fragility was compounded by macroeconomic concerns, including the United States' persistent trade and budget deficits, rising interest rates, and investor anxiety over a weakening dollar. Tensions were further exacerbated by geopolitical instability in the Persian Gulf and proposed legislative changes that threatened to dismantle the tax advantages supporting the booming merger-and-acquisition market, which had been a key driver of investor sentiment.

The structural epicenter of the crash was the emergence of automated, computer-driven trading strategies that the market’s existing infrastructure was ill-equipped to manage. Institutional investors had widely adopted "portfolio insurance," a hedging strategy that used algorithms to automatically sell stock index futures when market prices declined. As the market began to dip on October 19, these automated programs executed massive, simultaneous sell orders. These algorithms interacted with program trading and index arbitrage systems in a feedback loop that overwhelmed the liquidity of the New York Stock Exchange. Because the specialist traders on the floor could not find enough buyers to absorb the sudden surge in sell orders, transaction delays mounted, panic intensified, and the resulting liquidity vacuum caused prices to spiral downward in a chaotic "domino effect."

In this scenario, the market did not decline at the expected time that our model would have suggested; instead, it climbed another 30% beyond what would have been a "risk off (short)" recommendation. The significant correction only occurred after this secondary bull run, similar to the current market regime that we are observing today. Not only does the price movements at the broader market level appears similar, but the broader context also mirrors previous conditions. Political uncertainty then was comparable to the current geopolitical situation we face. Investor concerns about the weakening dollar echoes today's "sell America" themed trades.

If 1987 reflected some of the geopolitical uncertainty we are experiencing today, recent changes in the tech market closely mirror the developments that occurred before the tech bubble burst from 2001 to 2002.

            Throughout the 1990s, an unprecedented influx of venture capital, fueled by low interest rates and a media driven frenzy, created an environment where investors routinely ignored traditional metrics like price to earnings ratios in favor of speculative indicators like web traffic and “mind share”. The bubble began to deflate in March 2000, triggered by a confluence of tightening monetary policy and a shift in market sentiment. As the Federal Reserve aggressively raised interest rates to combat inflationary pressures, the easy access to capital that had sustained thousands of loss-making startups began to evaporate. Simultaneously, several high-profile corporate failures and the realization that many internet businesses lacked viable paths to revenue forced investors to confront the reality of their over-leveraged positions. The Nasdaq, heavily weighted toward tech stocks, peaked at over 5,000 in March 2000 and subsequently entered a brutal multi-year decline, eventually losing nearly 80% of its value by its trough in late 2002.

The conditions preceding the technology bubble are increasingly reminiscent of current market dynamics. Last year, investor enthusiasm centered on artificial intelligence (AI), with a select group of technology stocks driving most returns; companies associated with AI were particularly favored. However, significant investments in expanding infrastructure and pursuing future growth, without clear evidence of tangible returns, have prompted investors to reconsider these positions, seeking companies that demonstrate measurable profitability. Additionally, overcrowding in demand for these stocks has led to elevated valuations, fueling what is now referred to as “sell AI” strategies. Growing skepticism about the accounting methods used for AI-related expansion—particularly regarding assumptions about asset useful life, has further complicated the evaluation of genuine earnings, as free cash flow rapidly declines due to increased capital expenditures.

As shown below, this historical example demonstrates market price movements like current trends. Rather than declining at a conventional “risk off (short)” signal, the market rose about 25% before eventually dropping to a valuation point suitable for reintroducing equity risk into investors’ portfolios.

The central question now is: what happens next? Before reaching any conclusions, several key points should be considered. Firstly, we are currently at the midpoint of the secondary bull markets observed in the previous two cases outlined above. From a technical price standpoint, this suggests there may be an additional 10% to 15% upside before our negative forecast possibly materializes. Looking at fundamentals, we need to ask ourselves what factors will sustain that 10% to 15% market-level return. While this analysis is more art than science, we can identify several bullish factors stemming from both fiscal and monetary policies, that may support continued market gains under the present economic conditions.

Central to this optimism is the fiscal stimulus introduced by the "One Big Beautiful Bill Act" (OBBBA), which is expected to inject considerable liquidity into the economy through broad tax cuts. By increasing household disposable income and providing business tax incentives for capital spending, the policy serves as a direct boost to consumer expenditures and corporate financial health. Analysts remark that, with tax refunds anticipated throughout the first half of 2026, the retail sector and diverse consumer cyclicals are set to gain from this increased purchasing power. This effect is especially notable because most U.S. equities are owned by individuals in higher income brackets, who stand to benefit most from these tax cuts.

Fiscal momentum is being bolstered by a changing monetary environment. The Federal Reserve's decision to end Quantitative Tightening (QT) in December 2025 has alleviated a significant structural constraint on market liquidity that had affected risk assets for an extended period. The Fed's adoption of "Reserve Management Purchases," which involves acquiring short-term treasuries to maintain sufficient system reserves, has shifted the monetary stance from restrictive to accommodative. This transition effectively lowers the hurdle rate for corporate investments and establishes a valuation floor for equities. As the Federal Reserve progresses with interest rate reductions, the decreased cost of capital is expected to benefit small and mid-cap stocks to a greater extent, given their higher sensitivity to borrowing costs and domestic economic trends compared to their large-cap counterparts. This dynamic is reflected in the unusual outperformance of the equal-weighted S&P 500 relative to the traditional S&P 500 index observed in current market conditions.

If these momentum factors persist, under what circumstances might their influence on the equity market wane, particularly before driving an additional 10 to 15% increase? From a technical standpoint, this is clear: historically analogous cases have seen equities advance only about 10% to 15% further based on current index trends. Fundamentally, the explanation is somewhat more complex. Nevertheless, our review of historical patterns provides insight into potential limitations for continued equity growth, which can largely be attributed to one key factor: inflation.

The market declines of 1987 and the 2000–2002 period illustrate how inflation and the central bank responses to it can transform a speculative boom into a systemic correction. In both instances, markets initially ignored rising price pressures, buoyed by strong earnings and irrational exuberance. However, as inflation began to "creep up"—threatening to return the economy to the stagflation of the 1970s—the Federal Reserve was forced to tighten monetary policy. By raising interest rates to curb these inflationary pressures, the Fed effectively increased the cost of capital, making debt-fueled growth and speculation far less attractive and directly challenging the lofty price-to-earnings ratios that had defined the preceding bull markets.

In the 1987 crash, the interplay between inflation, interest rates, and the dollar created a critical vulnerability. As inflation fears pushed bond yields toward 10%, investors began to view safe, income-yielding bonds as an increasingly attractive alternative to the riskier stock market. This shift in yield attractiveness, coupled with a weakening dollar and rising trade deficits, sowed deep uncertainty. When the market began to wobble, the high interest rate environment left little margin for error, and the structural reliance on "portfolio insurance" and automated trading algorithms turned a rational re-evaluation of risk into a cascading, panic-driven sell-off. The upward pressure on rates effectively acted as a catalyst that exposed the market’s overvaluation, turning moderate skepticism into a massive, liquidity-crushing liquidation.

The dot-com bust of 2000–2002 followed a similar logic but unfolded as a slow-motion liquidation. During the late 1990s, the "new economy" craze led investors to abandon traditional valuation metrics, pushing technology stocks to valuations that only made sense in an environment of low interest rates and boundless capital. When the Federal Reserve raised rates to stave off the inflationary pressures of a red-hot economy, the cost of borrowing skyrocketed. For the thousands of "money-burning" startups that relied on constant capital infusions to survive, this shift was fatal. As borrowing costs rose, the speculative frenzy cooled, and investors finally demanded evidence of profitability. The ensuing market decline was not just a reaction to interest rates but a fundamental reassessment of value; as inflation-fighting policies made "easy money" disappear, the underlying lack of business viability in the tech sector was laid bare, resulting in an 80% peak-to-trough collapse in Nasdaq.

What could cause inflation to return, despite the Federal Reserve’s efforts to control it? There are four main factors to consider. The first two are somewhat ironic, as they are forces that could drive markets higher: tax cuts and easy financial conditions. Both tax cuts and environments with low, or expected lower, interest rates tend to be inherently inflationary. The other two factors arise from current geopolitical tensions, especially the ongoing conflicts that are driving oil prices up. Oil is a crucial commodity because its cost sets the inflation base rate for many goods and services, vital for manufacturing and production. Tariffs further complicate the situation; although some tariffs were deemed illegal by the Supreme Court, the Trump administration found ways to introduce even higher baseline tariffs, which are generally considered inflationary despite the debate continues as to whether these tariffs will cause temporary or long-lasting inflation.

Combining these observations, our perspective is that markets are expected to trend upwards over the coming quarters to a year. However, inflation may gradually emerge, potentially interrupting the Federal Reserve’s rate cut trajectory and ushering in a shift toward tighter financial conditions, which could result in broader market declines.