• Markets have remained resilient this year despite a near 10% correction in March and ongoing geopolitical uncertainty.
  
• While valuations already reflect considerable optimism and markets may consolidate in the near term, we do not currently see the conditions for a deep or prolonged downturn.
• Recessions and aggressive Federal Reserve tightening — typical triggers for major market declines — are not yet in place. Moreover, successfully timing markets is extremely difficult, as investors must correctly predict both when to exit and when to re-enter. 
• As a result, we continue to favour equities over fixed income, while using gold, commodities, and hedge funds as portfolio hedges.

There is a paradox at the heart of markets right now. The Strait of Hormuz is blocked. Roughly 13% of global oil supply — some 14.4 million barrels a day — has been knocked out. US gasoline has jumped around 50% year-to-date, the 10-year Treasury yield has broken above 4.6%, and Federal Reserve funds futures now imply roughly a 70% probability of a rate hike rather than a cut. By any conventional playbook, this is the kind of energy and rates shock that ends bull markets. And yet equities have largely shrugged it off. The S&P 500 has continued to climb, the Nasdaq sits in a steep upward channel, and risk assets are having a strong year. What explains the disconnect?

The answer is simple: the AI boom is offsetting the macro shock. We are living through a collision between a nightmare scenario in the Gulf and one of the most powerful structural tailwinds in a generation — and, so far, the tailwind is winning.

Two forces pulling in opposite directions

On one side sits a textbook supply shock. Crude is not merely transport fuel; it is woven into food packaging, electronics, auto parts and medical supplies through the entire petrochemical chain — polypropylene, the base polymer for most consumer goods, is up around 20%. The pass-through is already visible in the real economy: headline CPI near 3.8%, producer prices running at their fastest pace since 2022, and real wages slipping into negative territory for the first time since mid-2023. The pain is concentrated on consumers and energy importers, with the lowest-income households bearing the brunt.

On the other side sits the AI boom. Investors continue to pour capital into AI infrastructure, manufacturing and electrification, and US manufacturing has just flipped into expansion after three years of contraction. The result is an unmistakably K-shaped economy: consumers and import-dependent sectors strained at the bottom, while industrial, commodity and technology sectors ride a structural investment wave at the top. The market, in aggregate, is choosing to look at the top half of the K.

Earnings are winning the tug of war

The reason this is more than wishful thinking is earnings. The first quarter of the 2026 reporting season was genuinely exceptional. The aggregate US earnings surprise reached 18% — one of the strongest beats outside the distorted post-COVID re-opening period. With the vast majority of the S&P 500 reported, 82% of companies beat EPS estimates and aggregate earnings grew roughly 23% year-on-year. When profits are accelerating at that pace, investors have a real, fundamental reason to tune out the daily headline noise rather than react to it.

Crucially, this is not a story about a handful of mega-caps alone. Yes, the Magnificent 7 did the heavy lifting, with EPS growth around 52% — their strongest print since early 2024. But the more encouraging signal is breadth. The S&P 500 excluding the Mag-7 still grew earnings around 14%, seven of eleven sectors delivered double-digit EPS growth, and cyclicals outpaced defensives across every major region. Forward estimates for 2026 and 2027 are being revised higher, not lower. This is what a broadening, healthy earnings cycle looks like — not a narrow, fragile one.

You can even hear the priorities shift in the language of corporate leaders. Across S&P 500 earnings transcripts this quarter, mentions of “AI and machine learning” outnumbered mentions of “economic slowdown” by a factor of roughly 75 to one. Management teams are not battening down the hatches against an oil shock; they are racing to deploy capital into AI. That tells you where the conviction lies.

So far, the offset has held — but the cracks are visible

Three caveats keep us grounded. First, leadership is narrow and extended: the Philadelphia Semiconductor Index has traded around 62% above its 200-day moving average, well beyond the ~35% average seen at historical bubble peaks, and “long global semiconductors” is now the single most crowded trade in investor surveys. A pullback there would pressure the whole market. Second, the rates backdrop is unfriendly. History shows that median weekly equity returns turn negative once the 10-year yield pushes above ~4.5%, and the current move is being driven by a rising term premium — the classic “bad rates up” regime, characterised by multiple compression without an offsetting growth benefit. Third, revisions can lag shocks, as we learned in 2022; the earnings strength is real, but it is partly backward-looking.

Will it last? Duration is the key variable

This is where the Strait of Hormuz becomes decisive. The market is fixated on the size of the shock. We would argue the real risk is its persistence. A useful way to frame it: macro damage scales not with the oil price alone but with the oil move multiplied by the square of time — a short, sharp spike is absorbable; a prolonged closure is corrosive. Floating oil inventories, the importers’ buffer, are depleting. If the Strait remains closed for another few weeks, prices risk going parabolic into summer, and the arithmetic changes.

Our house view

Our base case is that the shock proves transitory and is contained within roughly three months. The political constraints are simply too binding for an indefinite standoff — gasoline above $4 a gallon is the kind of pressure that forces a rapid resolution. As long as corporate profits keep accelerating, the path of least resistance for equity markets remains upward, Middle East-linked profit warnings notwithstanding. Long-term trends, momentum and global breadth are all still intact, even if equities are overbought near term and a consolidation would be healthy.

Accordingly, we are positioned slightly overweight equities, underweight fixed income, and overweight gold and commodities, with a structural overweight to the US balanced by retained exposure to the rest of the world. We would turn more defensive on three signals:

• Rates breaking decisively higher, driving a renewed, broad-based compression in valuations.
• Credit spreads widening, giving clear evidence of contagion into high-yield and investment-grade markets.
• Breadth and momentum deteriorating, confirming that participation is narrowing and the underlying trend is weakening.

For now, the AI boom is doing exactly what a structural tailwind should do in the face of a cyclical shock: it is absorbing the blow. The question for the months ahead is not whether AI is real — the earnings settle that — but whether the Gulf gives markets the time they need. Watch the Strait and watch May’s inflation print. They will tell us whether the offset endures.

We have adjusted our macro scenario probabilities to reflect a more resilient global backdrop than previously expected. The probability of the “growth freeze” scenario has been reduced from 30% in April to 25% in May, while our baseline “Indian summer” scenario remains unchanged at 40%.

The decline in downside growth risks is driven by a set of more supportive-than-expected developments: fiscal policy is increasingly cushioning the impact of the energy shock, trade uncertainty has stabilised, and capex remains strong — supporting the global manufacturing cycle, particularly in emerging markets. In addition, US consumption continues to hold up, underpinned by a still solid labour market.

At the same time, we have increased the probability of the “inflation heatwave” scenario from 30% to 35%. This reflects mostly the ongoing Middle East crisis, which has pushed energy prices higher again and lifted near-term inflation risks after a temporary easing in April – but also the latest increase in underlying price pressures, outside of energy related parts of the CPI. However, as we continue to expect the conflict to remain contained and energy prices to gradually decline into June, we maintain our “Indian summer” scenario as the baseline.

How does it lead us in terms of asset allocation preferences and portfolio positioning?

Below we review the weight of the evidence and subsequent investment decisions.

US exceptionally strong, Europe more challenged

With 94% of S&P 500 companies and around 80% of STOXX 600 companies having now reported, the picture is almost complete. The US earnings season is shaping up as one of the strongest of the past decade, while Europe remains positive but structurally challenged. Japan, despite severe weakness in autos, is proving more resilient than feared. Forward earnings expectations continue to move higher across major regions, and companies globally are reporting operating margins higher than ever, reinforcing the view that the global earnings cycle remains intact despite energy and geopolitical uncertainty.

United States: S&P 500

94% of S&P 500 companies have now reported Q1 2026 results, with 84% beating EPS estimates, the highest beat rate since Q2 2021, and the blended earnings growth rate standing at 28.4%, well above the 13.0% consensus at quarter-end. NVIDIA was the last major name to report (May 20), completing the Magnificent Seven earnings season. Ten out of eleven sectors are delivering positive earnings growth, with healthcare the sole exception. Forward estimates continue to be revised upward, with S&P 500 CY+1 EPS growth now at +22.7% and CY+2 at +15.1%, with 1-month revisions of +3.6 and +2.8 percentage points respectively.

Europe: STOXX 600

The European season remains positive but structurally weaker than the US. Approximately 60% of companies beat EPS estimates, with the aggregate EPS surprise improving +4 percentage points as late reporters came in above expectations. EPS growth stands at +5% YoY, while revenue growth remains slightly negative, highlighting weaker operating leverage and softer demand conditions than in the US.

Earnings estimates continue to move higher

The most important signal of the season remains the continued upward revision in forward EPS expectations. Despite geopolitical uncertainty and elevated energy prices, analysts have continued to revise estimates higher into the final weeks of reporting. S&P 500 full-year 2026 EPS growth expectations now stand at +22.7%, versus +13% at the start of January, the largest in-season upgrade since at least 2021. Emerging markets are seeing particularly strong momentum, with MSCI Emerging Markets CY+1 revisions up +4.0 percentage points and CY+2 up +7.9 percentage points over the past month. STOXX 600 2026 EPS growth expectations have risen to +16.7%, MSCI Japan to +15.3%, and MSCI Emerging Markets to +51%.

Markets have shown remarkable resilience this year. Despite a near 10% correction in March and continued uncertainty surrounding the conflict with Iran and oil prices, equities have rebounded and are once again trading close to all-time highs.

A question many investors may be asking after this strong market rally is whether it’s time to take profits and reduce exposure.

While a significant amount of optimism is already reflected in current valuations — and markets may experience a period of consolidation or sideways trading after recent gains — we do not yet see the conditions that typically lead to a deep or prolonged market downturn, and this is true for at least two reasons.

First, we do not see a fundamental breakdown in the current market narrative. Historically, major market downturns tend to occur when a recession is approaching or when the Federal Reserve is aggressively tightening monetary policy — conditions that, in our view, are not in place — at least for now.

Second, market timing is notoriously difficult to execute successfully. Investors are generally poor at consistently identifying market tops and bottoms. Importantly, selling requires getting two decisions right: when to exit and when to re-enter the market. That is not an investment strategy we typically recommend.

As such, we stick to our preference for stocks over fixed income, using gold, commodities and hedge funds as hedges.