Economic Commentary

As we approach the midpoint of the year, we are reminded of Mark Twain’s famous observation: “Prediction is difficult – particularly when it involves the future.” Many of the events driving global capital markets this year were not widely anticipated. Yet despite geopolitical turmoil, inflation concerns and shifting interest-rate expectations, one overarching theme has continued to support markets: robust corporate earnings fueled by business investment in artificial intelligence, a resilient consumer and a balanced labor market.

With that backdrop, let’s take a closer look at how the year is unfolding, while also touching on several broader themes shaping investor sentiment including the war in Iran, and the Federal Reserve’s evolving policy outlook.

The U.S. economy remains on relatively stable footing, although some unanticipated headwinds have emerged. Inflation has moved higher in recent months, driven largely by rising energy costs tied to the conflict in Iran and the ongoing closure of the Strait of Hormuz. April’s Consumer Price Index (CPI) showed year-over-year inflation rising to 3.8%, the highest annual reading since May 2023. Energy prices increased 17.9%, while gasoline prices surged 28.4% over the prior year. Core CPI – excludes food and energy – rose 2.8%, remaining above the Federal Reserve’s long-term 2% target.

Market participants are increasingly concerned that elevated energy prices could begin spilling over into other areas of the economy, creating broader inflationary pressure. As a result, expectations for monetary policy have shifted meaningfully. At the start of the year, investors were anticipating two quarter-point rate cuts in 2026. Today, expectations favor the possibility of a rate increase as the more likely next move.

Despite these pressures, the U.S. consumer has remained remarkably resilient. Retail sales rose 4.9% year over year on a nominal basis, which still reflects healthy real growth after adjusting for inflation. While gasoline station sales understandably accounted for a large share of the increase (+20.9%), spending also remained robust at brick-and-mortar retailers (+12.8%) and online merchants (+11.1%). While higher earners have greater flexibility in the face of rising fuel costs, above-average tax refunds likely provided a temporary cushion for lower earning consumers.

The labor market has also continued to provide important support for the economy. April unemployment remained at 4.3%, still near historically low levels, with 115,000 jobs added during the month. Combined job gains over the past two months totaled approximately 300,000. Unemployment insurance claims have also remained low and stable.

To this point, strong consumer spending and a balanced labor market have largely offset the negative effects of higher inflation. That said, we will continue to monitor incoming economic data closely for signs that elevated prices or tighter financial conditions are beginning to weigh more meaningfully on growth.

Meanwhile, the conflict in Iran is unresolved. At the time of this writing, the Strait of Hormuz continues to face disruptions while diplomatic negotiations remain ongoing. We have discussed the broader economic implications of a prolonged closure in prior newsletters, but the key takeaway remains straightforward: a sustained disruption to global energy flows would create meaningful headwinds for economic growth while simultaneously placing upward pressure on inflation. While the conflict represents an unforeseen geopolitical shock – and a near-term drag on growth – the broader long-term investment backdrop remains intact.

Beyond the economic data, the confirmation of a new Chairman of the Federal Reserve caught investor’s attention last month. In one of the most contentious Federal Reserve confirmation votes in history, the U.S. Senate confirmed Kevin Warsh as the next Fed Chair by a 54-45 margin, replacing Jerome Powell. Warsh assumes leadership during an especially delicate period for monetary policy. While the Trump administration has advocated aggressively for lower interest rates to support borrowing and economic growth, a 3.8% inflation environment makes immediate cuts difficult to justify for many members of the Federal Open Market Committee (FOMC).

Warsh has argued that advances in artificial intelligence and productivity-enhancing technologies could allow the economy to sustain lower interest rates without reigniting inflationary pressures – a framework somewhat reminiscent of the productivity boom of the late 1990s under former Fed Chair Alan Greenspan. Whether that thesis gains broader support within the Fed remains an open question and could become one of the defining policy debates over the coming year.

Ultimately, the first half of the year has served as another reminder that markets rarely move in a straight line – and that even well-established forecasts can quickly be disrupted by unforeseen geopolitical events. Yet through it all, the core engine of the U.S. economy has remained surprisingly durable.

As we move into the summer months, our attention will remain focused on three key areas: incoming retail and labor market data, developments surrounding the Strait of Hormuz and the Federal Reserve’s next policy decisions. For now, the broader market continues to demonstrate that strong corporate fundamentals can still overcome significant macroeconomic uncertainty.

On behalf of the investment research team, thank you for your continued trust and confidence.