Executive Summary

Global financial markets staged an impressive recovery during the second quarter, overcoming the volatility that accompanied geopolitical tensions earlier in the period. Strong corporate earnings, accelerating investment in artificial intelligence, and easing concerns surrounding energy markets helped propel equities higher. Thayer portfolios participated meaningfully in this advance while maintaining a disciplined approach to risk management.

Key Highlights

• U.S. equities posted their strongest quarterly gains since the post-pandemic recovery.
• Artificial intelligence and large-cap technology companies remained the primary drivers of market performance.
• Easing tensions in the Persian Gulf pushed oil prices sharply lower after an earlier wartime surge.
• The Federal Reserve entered a new chapter under Chairman Kevin Warsh, though monetary policy remained largely unchanged.
• Thayer portfolios maintained a strong equity allocation while modestly extending bond duration to capture improved fixed-income opportunities.

Five Questions

What Happened in Financial Markets During the Second Quarter?

The second quarter was marked by a significant rebound across global equity markets. After early volatility driven by geopolitical concerns and disruptions in energy markets related to the Iran conflict, investor confidence returned as economic fundamentals remained resilient. U.S. stocks delivered exceptional returns, with the NASDAQ advancing 27.7% and the S&P 500 gaining 15.3%, benefiting client portfolios across the board.

Much of the rally was fueled by continued optimism surrounding artificial intelligence and the strong earnings growth generated by major technology companies. Corporate profits continued to exceed expectations, with S&P 500 earnings projected to increase more than 20% year over year for a second consecutive quarter. Importantly, earnings estimates have continued to rise faster than stock prices, bringing valuation multiples down from roughly 23x earnings to approximately 20x despite substantial market gains.

International markets also participated in the advance. The MSCI EAFE Index rose 11.8%, with the strongest performance coming from countries closely tied to semiconductor manufacturing and AI infrastructure. Japan, Taiwan, and South Korea posted gains of approximately 37%, 45%, and 68%, respectively. Even European markets, despite having relatively limited exposure to large technology companies, generated returns near 10%.

Fixed-income markets produced modest gains after a largely flat first quarter. Investors continued evaluating the outlook for inflation and interest rates under the Federal Reserve’s new leadership. While expectations for near-term rate cuts have largely diminished, markets have generally accepted the higher-rate environment with far less volatility than in previous years.

How Did Artificial Intelligence and Technology Shape Market Performance?

Technology stocks once again led the market higher as investors continued to view artificial intelligence as one of the most transformative investment opportunities in decades. Demand for AI-related infrastructure—including advanced semiconductors, data centers, networking equipment, and cloud computing—remained exceptionally strong. Unlike previous technology cycles, today’s AI expansion is being financed primarily by companies with substantial cash flow, healthy balance sheets, and durable profitability.

Investor enthusiasm reached another milestone with the highly anticipated SpaceX public offering in June. Shares opened strongly after pricing at $135, climbed above $220 within days, and later settled back into the $150 range by month-end. The trading reflected both tremendous excitement surrounding the company’s long-term prospects and increasing investor discipline regarding valuation.

More broadly, the investment debate has shifted away from whether AI represents a genuine technological revolution. Instead, investors are now asking whether the extraordinary growth rates currently supporting valuations can be sustained over the coming years. Technology companies now account for an historically large portion of the U.S. equity market, and AI investment is expected to contribute significantly to global economic growth over the next several years. While the long-term outlook remains compelling, growth rates may naturally moderate as the industry matures.

How Has the Iran Conflict Affected Markets?

Although active hostilities have eased and negotiations continue, the conflict’s economic effects remain an important consideration. The greatest concern centered on potential disruptions through the Strait of Hormuz, one of the world’s most critical energy transportation routes. Any prolonged interruption to oil, natural gas, or fertilizer shipments had the potential to increase inflationary pressures and weaken global economic growth.

The World Bank subsequently reduced its global GDP forecast for 2026, reflecting these risks. However, as diplomatic efforts progressed and tensions cooled, energy markets stabilized more quickly than many expected. Oil prices reversed nearly all of their wartime gains by the end of the quarter, reducing one of the largest inflation concerns facing investors.

The conflict also highlighted the world’s continued dependence on energy infrastructure located in politically sensitive regions. Governments and businesses have accelerated efforts to diversify supply chains through expanded pipeline capacity, alternative shipping routes, and increased investment in renewable energy sources and electric vehicles.

Despite recent progress, uncertainty remains. Ongoing negotiations and future geopolitical developments could still influence energy prices and financial markets over the coming months, making continued vigilance appropriate.

What Does the New Federal Reserve Leadership Mean for Investors?

The second quarter also marked an important transition at the Federal Reserve as Kevin Warsh assumed the role of Chair. He inherits an economy that continues to experience above-target inflation while benefiting from a relatively resilient labor market.

During his first meetings, Chairman Warsh emphasized a thoughtful and measured approach, signaling openness to new perspectives without introducing immediate policy changes. One area attracting increased attention is the possibility that artificial intelligence could meaningfully improve productivity over time. Historically, stronger productivity has allowed economies to expand while reducing inflationary pressures, potentially providing central banks with greater policy flexibility.

However, these benefits are expected to emerge gradually. In the near term, policymakers must continue balancing persistent inflation risks against the possibility of slowing economic growth. While declining energy prices have reduced one source of inflationary pressure, interest rate reductions do not currently appear imminent.

Have We Made Any Changes to Portfolio Positioning?

Our long-term investment outlook remains constructive. Strong corporate earnings, healthy profit margins, and continued technological innovation continue to support equity markets. At the same time, we recognize that periods of exceptional market performance are rarely uninterrupted.

Accordingly, portfolios continue to maintain a near-full allocation to equities, complemented by a modest hedged position intended to help manage both expected and unexpected market volatility.

Within fixed income, we modestly extended bond duration during the quarter. After several years in which shorter maturities benefited from rising interest rates, today’s higher yields present more attractive opportunities across longer-term bonds. We believe much of the inflation risk has already been reflected in current bond prices, while the potential for slower economic growth and improved productivity creates a more balanced risk-reward profile.

As always, our investment philosophy remains centered on participating in long-term growth opportunities while carefully managing evolving risks. Artificial intelligence has the potential to become one of the defining investment themes of this generation, but successful investing continues to require discipline, thoughtful valuation analysis, and prudent portfolio management.

David S. Beckwith, CFA®
Chief Investment Officer