Mid-year outlook: Prospects remain upbeat for equity and fixed income investors

The global macroeconomic outlook was dominated by two themes in the first half of 2026: the Middle East conflict and the continued boom in artificial intelligence-related spending. 

Higher energy prices threatened energy-dependent economies and consumer spending. But AI capital expenditure led to a firming of manufacturing activity in several economies as demand for construction materials, networking hardware and other associated inputs to build data centres soared. 

On balance, growth forecasts were revised down, although the extent of these revisions was limited.

A key concern has been the impact of higher energy prices on inflation with central banks turning more hawkish as a result. 

While the market shifted to price in higher official rates, only the European Central Bank and the Bank of Japan raised rates following the start of the conflict in the Middle East. 

This modest tightening of global monetary conditions has done little to impact the performance of financial markets nor indicators of credit demand. Once again, the global economy has proved its resiliency in the face of a significant supply shock.

Brighter horizons 

The economic outlook for the second half of 2026 and beyond has improved because of the announcement of a ceasefire between the US, Israel and Iran. 

Forward energy prices have eased in response to the resumption of tanker flows through the Strait of Hormuz. It will take time for oil and other energy markets to normalise, and consumers may face an extended period of higher energy costs, but the net change in pricing is positive for the growth and inflation outlook. 

Headline inflation may have already peaked, and central banks look less inclined to encourage even higher interest rate expectations. Not that we should expect any monetary easing; the odds still favour modest tightening from central banks like the Federal Reserve and the Bank of England if there are to be any moves in rates. 

Investors will focus on what happens to inflation in the coming months to assess what second round effects there have been and whether longer-term inflation expectations have been dislodged, which we doubt they have. 

There is also the risk of a resumption of Middle East hostilities. However, the core outlook is more benign, suggesting growth in developed and emerging economies could improve somewhat. 

While there have been questions over the profitability of some firms in the AI value chain, it seems quite certain that spending on both AI infrastructure (semiconductors, PC hardware and data centres) and on enterprise adoption of AI products will remain a positive contributor to growth.

Fixed income outlook: Potentially healthy returns ahead 

With central banks perhaps able to maintain current interest rate levels for the time being, fixed income market returns in the second half of 2026 should potentially be healthy. 

Sectors with a high-income return component, with some inflation linkage or with limited interest rate sensitivity (duration) performed well in the first half. And high yield credit and emerging market bonds look set to continue their solid performance in the second half.

Core rates markets have settled in a range that is arguably defined by the trend in nominal GDP growth in the major economies. This is now higher than where it was during the 15 years following the global financial crisis. 

Moreover, central banks are no longer pursuing policies designed to repress long-term yields – so today’s long-term yield levels are more reflective of macro conditions like those in place before 2008-2010. 

As a rough guide this suggests US Treasury 10-year yields in a broad range between 4.25%-5.0% and European government bonds between 2.5%-4.0% depending on the sovereign spread (Italy, Spain, France all a little higher than German yields).

Conditions favour income returns

Of course, there are long-term concerns about higher structural inflation and government debt levels. However, for now core rates appear to be stable and that supports a positive view on credit. 

Indeed, stable core interest rates, strong corporate earnings and balance sheets, strongly performing equity markets, and ongoing investor demand for income-producing assets all support the outlook.

Credit spreads did widen in March but have since returned to their pre-conflict levels, generating outperformance for investment grade, high yield, structured credit and emerging market fixed income. 

If there are no further geopolitical shocks or any sign of an equity market correction, credit markets are expected to provide a stable source of income return. Our central view is for no big moves in underlying rates or credit spreads in the second half of 2026. 

There are some concerns about increased issuance levels, due in no small part to technology companies issuing debt to finance AI capex spending. However, these companies have strong balance sheets and limited leverage, and the new debt that they bring offers increased diversification in credit indices. 

The preference remains for credit over duration for now. Long-term yields are higher but are still vulnerable to any evidence of inflation persistence or central bank hawkishness. 

The conditions for more confidence in strong performance from duration (lower long-term yields) would be central bank easing, much weaker economic growth, or a significant stock market correction.

These are not on the radar right now. Instead, conditions continue to favour income returns for fixed income portfolios.

Equity outlook: Hardware, and everything else

Most major equity indices enjoyed good returns in the second quarter, recovering from the sell-off triggered by the Iran war. While the situation in the region is not resolved, oil prices have fallen to near pre-war levels, reflecting the implicit market view that the conflict no longer poses a significant threat to the global economy.

While macroeconomic fundamentals and monetary policy is always a factor for equity market returns, it is the weight of technology stocks in the respective indices that has been the main driver behind differences in performance. 

Within technology, there is also a divide between those companies benefitting from AI-driven capital expenditures (namely semiconductor manufacturers and other hardware companies), and companies providing the funds (so-called ‘hyperscalers’) or software companies whose business models may be disrupted by AI itself. 

Within each of the major regional and country indices, the difference in returns between hardware companies, technology ex-hardware (Broadline Retail, Interactive Media and Services, Software and Services) and everything else, has been stark. 

The first category returned over 50% in the second quarter, while for the latter two it was 8.9% and 5.9%, respectively.

The range of returns across regions and countries was greatest for tech hardware, while China dragged down the performance of emerging markets ex-hardware. For the non-tech parts of the market, the difference in returns was relatively narrow, ranging from 2.9% to 9.1% (see Exhibit 1). 

The dominance of tech hardware means that in order to evaluate future regional/country equity index returns, one needs to first have a view on the outlook for hardware stocks in relation to their weight in the index. For emerging markets, it is very large (44%), followed by the US (29%), Japan (20%), and finally Europe (8%).

Bubble worries

The extremely high returns for tech hardware stocks during the second quarter have renewed worries about a bubble and led investors to wonder if, or when, it might burst. At an index level, we do not yet see signs of excess. 

The price gains have been in line with the increase in earnings. In Q1, aggregate index earnings doubled. They are expected to have risen by 129% in Q2. The near-term outlook for earnings seems solid to us given the significant demand from hyperscalers.

Longer term, one may question whether these forecasts are reasonable, but for 2027, earnings growth is already expected to drop to “only” 40%, pointing to a slower rate of price appreciation. 

If one accepts the earnings forecasts, there can still be questions about valuations. Since the price appreciation has been driven by earnings, forward price-earnings (P/E) ratios are not in fact stretched. 

The P/E ratio at the end of June was 20.4 times for global hardware stocks, which is only modestly above the long-run average of 19.4 times, and far below the peak level of 57 times reached during the dot-com bubble. 

Beyond hardware

The prospects for the non-hardware parts of the technology sector, which primarily concerns the US (20% of the market capitalisation) and China (29%), are more varied. The large capital expenditures of the hyperscalers will drag on earnings and it remains to be seen how quickly the companies will be able to generate an adequate return on these investments. The threats to software company business models are ever evolving. 

One advantage for Chinese companies is that valuations are attractive thanks to the recent underperformance: the forward P/E ratio for the ex-hardware index at the end of June was just 12.2 times, a large discount compared to a long-run average of 21.7 times. 

Meanwhile US non-hardware companies have outperformed other regions and countries. Despite worries about increased depreciation costs and challenges to business models, profits are still forecast to rise by 27% this year, more than the 20% rate seen in 2025.

Given the uncertainties around the impact of AI and the risk of energy or supply constraints limiting production, the earnings growth estimate will inevitably vary, and significantly at that, but we anticipate it will remain high and positive.

Beyond technology

Outside technology, there are different drivers for different markets. The outlook for corporate profits is arguably best in the US thanks to spillover effects from AI spending and deregulation. Companies in both the Russell 2000 and Russell 1000 Value indices should benefit. 

Europe can continue to look forward to government spending on infrastructure and other sectors linked to the European Union’s strategic autonomy initiative, even if at a slower pace than investors might have hoped. 

Recent signals from the European Central Bank that it may not need to hike policy rates further reduces one of the near-term risks.

Japanese equities can also expect to benefit from government largess following the announcement of long-term investment plans with spending of more than ¥370 trillion (€2 trillion) between now and 2040. Funding sources remains fuzzy (as it does in Europe), but it should nonetheless provide a positive impulse.

The stagflation fears of earlier in the year have largely faded. Central banks may hike rates less aggressively than what is currently priced into the markets. AI investment remains strong, and the worries about significant layoffs have yet to be validated. With positive earnings growth and reasonable valuations, equity markets look well placed as we move into the second half of the year.

Data sources: LSEG Workspace DataStream, ICE Data Services, Bloomberg, FactSet, BNP Paribas Asset Management as of 1 July 2026 (unless otherwise stated). Past performance should not be seen as a guide to future returns.