The third quarter of 2026 saw the S&P 500 increase by +2.3%.1 The appreciation was driven largely by continued robust earnings growth in the largest technology-oriented companies, resulting from the build-out of the Artificial Intelligence (AI) infrastructure. Meanwhile, mid cap stocks (S&P 400) declined -6.4% and small cap stocks (S&P 600) retreated -7.9%.2 The divergence in the performance of the different indices was largely a function of the concentration in performance in large cap technology oriented companies and rising interest rates, as mid and smaller capitalization companies tend to be more interest rate sensitive with greater exposure to floating rate debt. For the year, the S&P 500 Large Cap Index is +12.7%, the S&P 400 Mid Cap Index is +9.9% and the S&P Small Cap 600 Index is +14.1%.3
International oil prices (Brent) which had retreated to around $72 per barrel at the end of the second quarter on hopes of a resolution to the conflict with Iran, rebounded to about $104 by the end of September as geopolitical tensions in the Middle East continue to persist, as the chances for a quick settlement receded.4 Yields on the benchmark U.S. 10-Year Treasury rose to 5.29% from 4.42% during the quarter.5 Inflation continues to remain stuck above the Federal Reserve’s long term target, driven largely by rising energy prices and their downstream effects. With the backdrop of a resilient labor market, the Federal Reserve moved to increase the Fed Funds rate by 0.25% in September. This was the first move under the new Federal Reserve Chairman, Kevin Warsh, who is trying to establish his independence and credibility in the battle to rein in inflation.
Despite the backdrop of higher energy prices, persistent inflation and rising interest rates, corporate earnings remain robust and grew at double digit year-over-year rates during the quarter. It is estimated that 40-50% of the growth in corporate earnings is driven by the AI infrastructure build-out.6 That build-out is starting to face increasing public opposition. In particular, the growth in datacenters is facing bi-partisan backlash fueled by concerns about the strains on resources including environmental considerations and electricity demand. In addition to broad anxiety about the impact on jobs, there is also discussion about the potential existential risks that AI could pose. Whether or not AI fully delivers on its promises and/or fears remains to be seen.
Inflation and rising rates continue to pressure the consumer, but we are increasingly witnessing what has been broadly described as a bifurcated K-shaped economy and consumer. The higher end continues to see robust spending fueled by rising asset prices from equities and real assets, including real estate. Most upper end consumers are not impacted by rising interest rates, as they tend not to carry floating rate debt. An overwhelming percentage of upper-income households own their own home, with over 60% of mortgages fixed at rates below 4%.7 We continue to see strong spending on luxury goods and travel. Airlines and hotels continue to grow their upscale product offerings, including expanding premium seating and high-end properties.
At the other end of the income spectrum, there has been an increase in credit delinquencies among subprime borrowers.8 Those delinquency rates are now above pre-pandemic levels and facing higher revolving credit costs with an increase in the Fed funds rate. Discount and off-price retailers are benefiting from the trade-down effect as consumers are looking for greater value in their purchasing decisions. Meanwhile dollar stores are seeing their key customer demographics trimming their spending. Quick service restaurants are also responding to erosion in traffic from low-income demographics by expanding value meal offerings.
This issue of affordability is increasingly becoming the key focus of the upcoming mid-term elections. Despite a robust stock market, growing economy and resilient overall job market, voters’ confidence in the direction of the economy remains extremely low. The most recent release of the University of Michigan Consumer Sentiment Index recorded its second lowest level ever in September, even lower than levels during the Great Financial Crisis (2008/2009).9 Many are puzzled by the seeming disconnect between the headline economics numbers and stock market performance with the average person’s perception of the direction of the economy. This can largely be attributed to the real-life impact that inflation, especially for everyday goods such as food and gas, has on the average American household, whereas less than 40% of U.S. households own stocks, ETFs or mutual funds outside of their retirement plans, which are experiencing the wealth effects of a rising equity market.10
While sentiment remains poor, we are starting to see some moderation in housing costs, the largest component of the average household budget. Interest rates for 30 year fixed-rate mortgages are now over 7%, up significantly from the depths of the pandemic, but in line with long term historical averages.11 With new supply coming on board nationally, the trend in home prices and rents has started to flatten, and decline in the Sun Belt and Mountain West, areas which had seen significant gains coming out of the pandemic. Rising housing prices continue to be a challenge in the more supply constrained areas of the Northeast, West Coast, and select parts of the Midwest.12
The current consensus expectations for third quarter GDP growth remains robust with the Philadelphia Federal Reserve survey of professional forecasters projecting growth of +2.1% to +2.4%.13 Some of that growth can be attributed to the U.S. now being a net exporter of energy, which at higher prices, helps in the trade balance to partially offset the significant demand for imported electronic components and capital goods.14 Current estimates for growth in the fourth quarter of this year and 2027 are also centered around 2%, continuing to point to a resilient economy.15 This has caused interest rates to rise along with concerns about the large persistent federal government deficits and increased supply of debt coming to market to fund the AI infrastructure build-out. While the level of Federal government debt has increased meaningfully in recent years driven by record deficits, corporate and personal debt levels are in line with historical averages.
With the backdrop of a growing economy and record corporate profits, the overall valuation level of the stock market has come down, despite double-digit equity returns year to date. The forward price/earnings ratio (P/E) for the S&P 500 is now around 19x, below its recent peak in 2025 at about 23x, but still above its longer-term average of about 16.5x.16 This suggests that, at least from a valuation perspective, the market levels are not excessive, and barring any unforeseen events, provide a constructive backdrop, with a continued resilient economy.
Dumont & Blake Investment Advisors, LLC
September 30, 2026
1Bloomberg.
2Bloomberg.
3Bloomberg.
4Bloomberg.
5Bloomberg.
6Goldman Sachs Research.
7FHFA (Federal Housing Finance Agency) National Mortgage Database.
8Fitch Ratings and The Federal Reserve Bank of New York Household Debt and Credit Report.
9Surveys of Consumer, University of Michigan.
10Federal Reserve Board Survey of Household Economics and Decision Making (SHED).
11Federal Reserve Bank of St. Louis FRED database.
12Apartment List Research and Zillow Research.
13Federal Reserve Bank of Philadelphia.
14US Bureau of Economic Analysis.
15Bloomberg.
16Yardeni Research.
This commentary is for informational and educational purposes only and includes general economic and market conditions. Forward-looking statements cannot be guaranteed. Past performance is not a guarantee of future results. Data and other market and economic information referenced is from sources believed to be reliable and opinions are subject to change. All investments involve risks, including the loss of principal.