As we moved through January, the U.S. economy continued to expand at a pace above its long-term trend, boosted by steady household spending and ongoing strength across many service industries. The housing market also regained energy as lower home loan
rates encouraged more buyers to re-enter the market.
Still, some underlying weaknesses are becoming harder to ignore. Manufacturing output has now declined
for ten straight months, and while inflation
has cooled from its highs, it remains sticky in key areas. Meanwhile, the Federal Reserve continues to strike a cautious tone on future rate cuts, balancing economic data with rising political pressure for a more accommodative stance.
Below is a recap of what shaped the markets in January, the forces driving these trends, and the areas we’re watching moving forward.
Major U.S. Stock Indices
Small‑cap companies finally stepped into the spotlight as 2026 got underway. After years of being overshadowed by the mega‑cap “Magnificent 7,” smaller domestic-focused firms rallied sharply. The Russell 2000 even outpaced both the S&P 500 and the Nasdaq for 14 consecutive trading days.
This shift suggests investors are broadening their search for opportunities, looking beyond large tech leaders to companies more tied to local economic conditions and those that stand to benefit from easing borrowing costs.
By the end of the month:
- The S&P 500 added 1.37%.
- The Nasdaq 100 rose 1.20%.
- The Dow Jones Industrial Average led the pack with a 1.73% gain.
Economic Snapshot
The U.S. entered 2026 with solid momentum. Third‑quarter GDP for 2025 reached
an annualized 4.4%, its strongest showing in two years. Early estimates for the fourth quarter suggested growth in the 3–4% range. However, the pace is likely beginning to normalize. High‑frequency indicators show activity narrowing, increasingly supported by services and government outlays rather than broad-based private sector strength.
Most economists anticipate a return to roughly 2% growth over the course of 2026—steady but far from red‑hot.
The labor market also displayed signs of cooling. December payrolls increased by only 50,000, a notable drop from 2024’s monthly average of 168,000. The bulk of the pullback came from retail and manufacturing. Even so, unemployment held firm at 4.4%, consistent with a gradual slowdown rather than a sudden downturn.
Wage gains have eased but continue to exceed inflation, allowing real incomes to remain positive. This has helped sustain consumer activity without creating renewed upward pressure on prices.
Headline CPI measured 2.7% year over year in December, edging closer to the Federal Reserve’s target. The larger concern emerged on the producer side, where prices experienced their fastest monthly increase in five months as tariff costs filtered through supply chains.
In its late‑January meeting, the Fed kept rates unchanged
at 3.5–3.75% and suggested that only one additional cut is expected this year. Policymakers reiterated their commitment to data-driven decisions and independence amid heightened political scrutiny.
Manufacturing continued to struggle, with the ISM index registering a tenth month in contraction at 47.9. New orders remained weak, inventories tightened, and job losses increased as tariffs weighed on production. By contrast, service‑oriented industries continued to expand, home sales jumped 5% in December as mortgage rates declined, and credit spreads hovered near historic lows.
The result: a split economy—goods producers under strain, consumers and services relatively sturdy.
Our Outlook
The current environment reflects slower but steady growth, continued disinflation, and a Federal Reserve nearing the end of its loosening cycle. One encouraging development is the widening of market leadership. After years dominated by a handful of mega‑cap technology names, small‑cap and cyclical sectors are starting to reassert themselves, opening the door to opportunities in areas that lagged previous rallies.
At the same time, this is a late‑cycle expansion where policy shifts and geopolitical risks can spark bouts of volatility. We’re approaching portfolio positioning with a balance of cyclical exposure and high‑quality holdings, all while remaining mindful of valuations and maintaining flexibility.
In an environment like this, smart avoidance can be just as important as smart selection.
If you have questions or want to discuss how these developments may affect your portfolio, our team is always here to help.
