Quarterly Performance Update

U.S. Stocks Retreated as Uncertainty Mounted

The S&P 500® Index reversed course in early 2026, logging its first quarterly loss in a year, despite a generally positive corporate earnings backdrop. The broad-based stock index returned -4.33% for the quarter, as war in Iran and soaring oil prices triggered a 5% loss in March.

Even before the U.S. and Israel launched military strikes in Iran in late February, U.S. stocks were jittery. Fourth-quarter corporate earnings modestly exceeded expectations overall, but earnings breadth narrowed. Investors focused on valuation concerns and forward earnings guidance.

Additionally, tariff-related worries and renewed concerns about the effect artificial intelligence (AI) may have on the broader technology sector fueled volatility. Then, in March, inflation fears and waning expectations for Federal Reserve (Fed) easing further weighed on stocks.

Style Indices Showed Wide Performance Disparity

Size- and style-specific indices were mixed for the quarter. Large-cap stocks broadly declined and underperformed small- and mid-cap stocks, which posted gains. Across the board, the value style advanced and outperformed growth, which declined.

Small-cap value stocks (Russell 2000® Value Index) were top first-quarter performers, up nearly 5%. Large-cap growth stocks (Russell 1000® Growth Index) were among the weakest, declining almost 10%.

Six of the S&P 500 Index’s 11 sectors posted gains, led by energy, up more than 38%, materials up nearly 10%, and utilities, up more than 8%. The financials, consumer discretionary and information technology sectors were the weakest, each down more than 9%.

Fed Held Rates Steady in Q1 2026

Stalled inflation, a stabilizing labor market and weak fourth-quarter economic growth (+0.5% annualized) prompted the Fed to leave interest rates unchanged during the quarter. The conflict in Iran further complicated the Fed’s multiyear effort to ease inflation and restore interest rate neutrality. Surging oil prices and the war’s uncertain economic fallout persuaded Fed officials to remain on the sidelines.

However, policymakers left the door open to cutting interest rates later this year, even as they lifted their core inflation forecast for 2026 from 2.5% to 2.7%. They also slightly increased their economic growth forecast for the year, from 2.3% to 2.4%.

Non-U.S. Stocks Outperformed U.S. Stocks

Non-U.S. developed markets stocks generally rallied through February amid expectations for dovish central bank policy, resilient global growth and earnings stability. But a sharp reversal in March left the MSCI World Ex-USA Index with a modest first-quarter loss of nearly 1%. The conflict in Iran disrupted energy supply, triggering a steep loss of nearly 10% in March and erasing earlier gains.

European Market Underperformed in Q1

Escalating geopolitical tensions rattled European markets, where skyrocketing gas prices fueled growth concerns for the region and led to lagging stock results. Inflation edged higher, once again surpassing the European Central Bank’s (ECB’s) 2% target. The ECB left interest rates unchanged and warned the Iran war created risks to inflation and growth.

U.K. stocks advanced and outperformed the index for the quarter. Although U.K. stocks declined nearly 8% in March, they stayed in positive territory for the quarter due to earlier gains. In general, with a tilt toward value-, defensive- and commodities-focused sectors and companies, the U.K. stock market had broad exposure to the quarter’s top performers.

The Bank of England held rates steady in the quarter, as headline inflation stabilized through February. However, policymakers cautioned that rising energy prices could push inflation higher and growth lower.

Japan’s stock market also advanced and outperformed the index. The victory of the nation’s ruling party in February’s elections supported stocks, as investors expect additional pro-growth policies. Inflation eased slightly, and Japan’s central bank left rates unchanged at the highest level in 30 years.

Emerging Markets Index Outpaced Developed Markets

Emerging markets (EM) stocks (MSCI Emerging Markets Index) returned -0.17%, outpacing developed markets stocks. The EM index declined more than 13% in March.

Positive AI sentiment through February supported stocks in the technology-heavy South Korean and Taiwanese markets, which represent large weightings in the index. By March, the Middle East conflict weighed on EM stocks, as risk-off sentiment took hold. Additionally, the disruption in oil flows through the Strait of Hormuz weighed on EM stocks.

Meanwhile, stocks in China, the EM index’s largest component, declined and lagged the broad EM index. Similar to other markets, losses in March erased early-year gains amid risk aversion and oil price-driven inflation worries. Because China relies heavily on Iranian oil, the disruption in oil flow weighed heavily on China and other oil importers.

U.S. Bonds Declined Slightly

The Bloomberg U.S. Aggregate Bond Index returned -0.05% in the volatile quarter, breaking its four-quarter winning streak. The index declined nearly 2% in the quarter’s final month, erasing earlier gains.

Amid renewed inflation fears triggered by Middle East unrest, Treasury yields rose for the quarter. The yield on the 10-year Treasury note ended March at 4.32%, compared with 4.17% at fourth quarter-end. The two-year Treasury yield rose from 3.48% to 3.81%, and the yield curve flattened.

Within the index, all sectors declined in March, and only the mortgage-backed securities (MBS) sector advanced in the first quarter. Treasuries slightly outperformed the index for both periods, while corporates underperformed. Credit spreads widened in the quarter, and high-yield corporates outperformed investment-grade corporates.

Economic data remained uneven, inflation stayed above its 2% target, and the Fed held interest rates steady at both of its first-quarter policy meetings. The target lending rate ended March in a range of 3.5% to 3.75%. Most Fed officials penciled in one rate cut for later in the year.

Global Bonds Lagged U.S. Bonds

Government bond yields in Europe and the U.K. also rose for the quarter, as inflation fears mounted. The U.S. dollar rose versus other currencies in the quarter, largely due to a robust March gain. Bloomberg Global Aggregate Bond Index (USD, Hedged) returned -0.15% for the quarter, lagging U.S. bonds.

Amid late-quarter risk aversion, soaring oil prices and U.S. dollar strength, EM bond returns stumbled for the quarter and underperformed U.S. and global bonds. Local currency-denominated EM bonds lagged U.S.-dollar-denominated EM securities.