Big Tech & The Fed on Deck

Good morning investors,

I hope you're warm and safe wherever you're reading this from as the snow storm covers a large chunk of the country.

Markets enter one of the busiest weeks of the year with the Federal Reserve's January meeting Wednesday and four Magnificent Seven companies reporting earnings. Two straight weeks of losses have investors cautious, but the underlying market story is becoming healthier beneath the surface. Leadership is broadening, small caps leading on the year, and AI is shifting from hype to measurable productivity. The risk is not the absence of growth, it is policy uncertainty and transitions colliding with elevated starting valuations.

S&P ($SPY ( ▲ 1.92% )) futures down 0.1%, Nasdaq ($QQQ ( ▲ 2.11% )) futures off 0.2%, and Dow ($DIA ( ▲ 2.48% )) futures hovering near flat as traders brace for a consequential stretch. Gold surged past $5,100 for the first time, extending its historic run as central banks and investors seek safe-haven assets. Natural gas topped $6 per million BTU for the first time since 2022, spiking 75% over the five trading sessions through Thursday as Winter Storm Fern brings Arctic cold to more than 150 million Americans.

Oil prices edged higher on supply disruptions and rising tensions between the U.S. and Iran after Trump's "armada" warning last week.

The Federal Reserve is virtually certain to hold rates steady in the 3.5% to 3.75% range Wednesday, with CME data showing 97% probability of no change. The bigger story may be developments around Trump's pick for the next Fed chair after Powell finishes his term in May. BlackRock's global CIO for fixed income Rick Rieder has risen quickly as a prospect and become the favorite on prediction markets, with Trump calling him "very impressive" in Davos.

Microsoft, Meta, and Tesla report Wednesday after the close, with Apple following Thursday. Investor attention centers on AI spending and how these companies plan to fund their infrastructure ambitions. Meta boosted spending projections to $70 billion to $72 billion, while Microsoft indicated it would spend more in 2026 than the $88.2 billion deployed in 2025.

To fund this investment, hyperscalers are issuing so much debt they're changing the landscape of investment-grade credit. The tech sector issued nearly $700 billion in investment grade debt over the past quarter, closing in on the just over $800 billion in issuance by the financial sector, which has long led the credit market.

What stood out most to me last week is that volatility is behaving exactly as you would expect during earnings season. Large one day moves are not a signal of market stress, they are a feature of this period. We've already seen stocks that were up materially over the past 12 months suffer sharp post earnings pullbacks, even when the broader trend remains intact. Context matters. A stock correcting after a strong run is not the same as a market rolling over.

The earnings this week are critical. Most of the largest technology companies are reporting, and collectively they represent roughly 15% of the S&P 500's total market capitalization. These businesses still offer the clearest earnings visibility in the market, which is why they remain structurally important. That said, leadership is no longer as narrow as it was. Year to date, the equal-weighted S&P 500 is up roughly 3%, while the cap-weighted S&P 500 is up about 0.9% and the Nasdaq is up around 1.1%. That gap tells you something about breadth.

My strongest sector conviction looking forward is currently energy. Over the past five years, the sector has significantly underperformed the broader market and now sits at valuation levels that historically coincide with major turning points. This is not a high growth story. It is a mean reversion trade, where modest earnings growth combined with low expectations can still generate strong equity returns.

Baker Hughes reported an 11% rise in adjusted Q4 profit Sunday as demand for gas technology equipment and services more than offset weakness in oilfield services. Revenue from the industrial and energy technology business rose 9% to $3.8 billion.

Small caps are another area where the numbers are becoming hard to ignore, and this has continued to be my top asset class pick for 2026. The Russell 2000 is up roughly 6.5% year to date and has nearly been the best performing major index over the last year. Valuation metrics such as price to sales and price to book are comparable to levels seen in 2001, which preceded more than a decade of relative outperformance.

This setup is supported by several macro tailwinds: a Federal Reserve that is becoming more dovish, a potential pickup in M&A activity, manufacturing momentum with ISM moving back above 50, and a valuation catch-up versus emerging markets, which outperformed last year while U.S. small caps lagged.

We are living through a familiar pattern where a genuinely transformational technology is scaling fast, the spending behind it is unprecedented, and markets are arguing in real time about whether the excitement is rational or excessive.

The starting point is not that AI is "a story." There are hard facts that make this moment distinctive. Capital spending tied to AI has become a meaningful driver of corporate investment, a meaningful contributor to incremental economic activity, and has accounted for a disproportionate share of equity market gains. The market is not inventing the scale. It is reacting to it.

AI fits the inflection bubble template more naturally than a purely financial one, because the demand is real and the capability is improving quickly. The harder question is not "will AI matter?" but "who wins, who earns the profits, and for how long?"

The technology valuation picture has improved meaningfully. The tech sector's premium relative to the S&P 500 has fallen to about 16%, down from 36% to 37% just a few months ago, the lowest level since 2021. That de-rating reduces risk, but upcoming earnings guidance will determine whether leadership resumes or rotation continues.

We are moving away from an infrastructure only phase toward what could be describe as the year of the AI user. At present, only 15% to 20% of companies have meaningfully integrated AI into their operations. That leaves enormous runway. Even moderate adoption is expected to lift profit margins by 2 to 3 percentage points, which is highly material for companies trading at lower valuation multiples.

The news and public opinion are becoming increasingly political, so I want to reiterate something important - you should not invest based on political views. It's a great way to lose your plan and get run over.

Midterm years see the largest peak to trough pullbacks of any year in the four year cycle at 17.5%. Of course, a year off those lows, stocks have never been lower and are up more than 30% on average.

The past 13 times we had a split Congress, stocks were higher every single time. Maybe this shows that the best government in Washington is one that can't get anything done? Or if you want to be more optimistic, a government that is forced to compromise?

Republicans currently have a historically small majority in the House. Only three times in the past 23 midterms did the party in the White House add seats, with the average being a loss of nearly 27 seats.

Under Trump 2.0, stocks finished the first year up 16%.

The biggest rule of politics and investing is you don't mix your political views with your investment views. The market doesn't care what you think or feel.

Gold trading around $5,100 continues to attract flows despite elevated real yields, telling you it's being used as a true defensive asset. Silver has surged toward $100, but its six month momentum is the strongest since 1979 to 1980, which historically has preceded sharp pullbacks. Gold offers a cleaner risk adjusted hedge here, but I still believe equities outperform gold this year.

The metals rally has continued on the industrial side, with copper futures picking up nearly 4% in 2026 as data center-driven demand continues. Lithium spot prices have risen 44% on the year while tin has surged nearly 30%.

I do see a credible risk of a significant drawdown later this year or into mid year, potentially 20% or more from current levels. Two factors stand out. First, a transition in central bank leadership, with markets testing credibility and policy reaction functions. Second, rising policy uncertainty, including tariffs and selective intervention that create winners and losers. We've already seen how sensitive markets are, with relatively small headlines triggering 2% single day moves in the S&P 500.

On rates, expectations need to be realistic. I do not expect a major collapse in long term yields. The 10-year Treasury is trading around 4.2% and is likely to remain in a 4.0% to 4.5% range. Concern only really emerges if the 10-year moves above 5%. Sticky long term yields limit multiple expansion and keep pressure on housing and other rate-sensitive sectors. Equity returns will need to come from earnings growth and productivity, not easy financial conditions.

Stepping back, the numbers point to a market that is becoming healthier under the surface. Leadership is broadening, value and small caps are reasserting themselves, AI is shifting from hype to measurable productivity, and liquidity conditions are supportive even without aggressive easing. The risk is not the absence of growth, it is policy uncertainty and transitions colliding with elevated starting valuations.

The practical investor conclusion is not "all-in" or "all-out." It is to accept two truths at once: AI can be one of the great steps forward, and the path can still involve overbuilding, competitive profit erosion, and sharp drawdowns. The right posture is to separate belief from price, stress test balance sheets, treat leverage as a potential ruin variable rather than a return enhancer, and size positions in a way that allows you to stay invested through volatility rather than being forced out at the worst moment.

The real question is not whether AI is important. It is whether today's prices and financing assumptions leave enough room for the future to be merely good, rather than perfect.

Selectivity, diversification, and discipline matter more now than at any point in this cycle. Stay warm and stay safe this week.

As always, feel free to reach out with questions about positioning.

Dan Sheehan

[email protected]

This newsletter is for informational purposes only and should not be considered as investment advice. Please consult with your financial advisor about your specific situation.