Kevin Warsh Asked the Market to Speak. It Answered.
Bond yields, inflation and earnings are driving the market now more than the Fed
For much of the past couple decades, investors rarely had to wonder what the Federal Reserve was thinking. Fed officials gave speeches. They published projections. They dropped hints about future decisions and sometimes seemed to provide turn-by-turn directions to the bond market months before making a move.
The new Federal Reserve under Kevin Warsh appears far less interested in holding investors’ hands.
At its July meeting, the Fed left short-term rates unchanged at 3.50% to 3.75%. More interestingly, three officials voted to raise rates, while Warsh continued pulling back from the extensive “forward guidance” markets became accustomed to under previous Fed chairs.
In other words, investors have been given fewer clues about what happens next. Warsh has argued that markets should perform more price discovery rather than relying on the Fed to telegraph every move. That sounds sensible. Markets are supposed to price risk.
Warsh has also been unequivocal that the Fed’s inflation target remains 2%. Wall Street appears willing to take him at his word, with Treasury markets pricing long-term inflation expectations not far above that level. But with federal debt near 120% of GDP, persistent deficits and enormous Treasury financing needs, getting inflation back to 2% and keeping it there may prove considerably harder than the marketcurrently assumes.
There is just one catch.
Silence Has a Price
The bond market delivered its message almost immediately. When investors become less certain about the Fed’s reaction function, uncertainty itself can become a form of tightening.
Long-term Treasury yields jumped following the Fed meeting, with the 30-year briefly moving above 5.2%. Mortgage rates, corporate and small business borrowing costs, and other financing rates take their cues from these markets, not directly from the Fed. That distinction matters. The Fed can leave rates unchanged while financial conditions tighten anyway.
Investors are not necessarily telling Warsh he is wrong. They may simply be saying: if you tell us less about how you will respond to inflation, employment or another energy shock, we want to be paid more for lending money long term. That uncertainty gets priced into rates. With 30-year mortgages hovering near 7%, the effects reach well beyond Wall Street, pressuring housing affordability and economic activity, with housing accounting for roughly 44% of CPI.
Other pressures remain. Federal deficits are large, Treasury financing needs continue to grow, energy remains volatile, and inflation has moderated but hardly disappeared.
The Fed controls the front end of the yield curve. Farther out, the bond market has a much bigger vote. That distinction could matter considerably for stocks, bonds and portfolio diversification through year-end.
As illustrated below, longer-term Treasury yields have moved above the Fed funds rate, reinforcing that markets, not the Fed alone, set borrowing costs farther out on the curve
Stocks Don’t Need 2% Inflation
Wall Street has developed a new favorite number: 8,000.
A growing collection of strategists believes the S&P 500 can reach or exceed that level, with some of the more bullish forecasts suggesting it could happen sooner rather than later, even in the next month.
They may be right. Corporate earnings remain strong. Consumers continue spending. Business investment remains substantial, especially around artificial intelligence, data centers and the enormous physical infrastructure needed to support them.
Somewhere between Tom Lee’s optimism toward S&P 8,000 and Jeff Gundlach’s more cautious view on inflation and long-term rates probably lies the more realistic path forward.
The economy has also absorbed a remarkable collection of significant shocks without falling apart while the S&P 500 has spent much of the past year reaching new highs. War in the Middle East, higher gasoline prices, tariffs and elevated interest rates have generated plenty of headlines, yet stocks have largely shrugged them off.
That resilience deserves respect. Still, I am less convinced by the second half of the bullish argument, which assumes inflation will cooperate neatly enough for the Fed to move out of the way and stocks will only continue to move up.
June CPI fell sharply from 4.2% to 3.5%. That is good news. It is not the same thing as declaring victory.
Energy costs surged earlier this year, and their full impact does not necessarily show up immediately. Higher gasoline prices affect household budgets directly, but energy also flows through transportation, manufacturing, agriculture and distribution costs. Tariffs can work through corporate supply chains with similar delays.
That is hardly the kind of euphoria that typically marks a major market top. Bull markets often climb a wall of worry, and this one appears to have brought a ladder.
Driving Through Sticky Inflation
Last week we compared today’s market with the 1980s – a decade of higher inflation, double-digit interest rates, geopolitical conflict, oil shocks, and ultimately the 1987 stock market crash. The 10-year Treasury yielded roughly 10.5%, while 30-year mortgage rates averaged nearly 13%.
The 80’s brought an eight-year war between Iran and Iraq that threatened Persian Gulf oil production and shipping. Later in the war, both sides attacked oil tankers in what became known as the “Tanker War,” eventually drawing the U.S. military into protecting shipping routes.
Yet despite those headwinds, the S&P 500 returned approximately 18% annually, including dividends. History reminds us that bull markets don’t require perfect conditions. They are driven by corporate earnings, innovation, and productivity- not the absence of uncertainty.
Then there is AI
Over the long run, artificial intelligence may produce enormous productivity gains and ultimately lower costs. But building the infrastructure is hardly deflationary today. Data centers require electricity, natural gas, copper, steel, cooling equipment, semiconductors, construction workers and transmission capacity.
AI may eventually help solve parts of the productivity puzzle. First, somebody has to pour a lot of concrete.
That is why our base case does not require inflation to surge again. It simply recognizes the possibility that inflation may prove stickier than the most optimistic forecasts suggest and settle closer to 3% than the Fed’s 2% target.
Here is the more important point for investors. Stocks do not need 2% inflation to rise. They need inflation to remain contained enough that earnings can keep growing and the Fed does not have to aggressively slam on the brakes.
That is a much lower hurdle.
Bonds Are Back. Duration Still Bites.
Investors keep hearing that “bonds are attractive again.” That is true, but incomplete. Which bonds?
Short-term Treasuries yielding around 4% can provide meaningful income with relatively little sensitivity to long-term interest rates whether you are managing for diversification or seeking income in retirement. After years of earning almost nothing on cash and short-term bonds, that is a meaningful improvement.
Long-duration bonds are a different story. Investors learned that lesson the hard way over the past several years. Intermediate and long-term bonds, traditionally viewed as the ballast in diversified portfolios, suffered as interest rates reset from near zero. On a price basis, the iShares 20+ Year Treasury Bond ETF (TLT) remains nearly -50% below its April 2020 peak. (see chart)
That drawdown exposed an uncomfortable weakness in the traditional 60/40 portfolio. For much of the past five years since the start of the pandemic in 2020, the supposedly “safe” 40% has often failed to provide the diversification investors expected when stocks became volatile.
That does not mean bonds are broken. It means duration is not free.
If inflation remains sticky, Treasury borrowing stays elevated, and the new Fed provides less guidance about its next move, long-term yields may remain volatile. Higher real yields make bonds considerably more attractive today than when yields hovered near zero, but an attractive starting yield does not eliminate interest-rate risk.
For investors, the opportunity in fixed income today may be less about simply “owning bonds” and more about being intentional about where on the yield curve those bonds sit. This is why we continue to favor high-quality, short-duration bonds across fixed-income sectors, along with Treasury Inflation-Protected Securities (TIPS), while selectively extending maturities rather than making an oversized bet that long-term rates are about to collapse.
The distinction may sound technical, but the portfolio implication is simple. Four percent with modest duration risk looks very different from reaching for slightly more yield while exposing the portfolio to another large move in long-term rates.
For retirees and balanced investors, that deserves more attention than it often receives. For clients seeking additional income and diversification, our family office portfolios may also incorporate measured allocations to structured notes and alternative investments to help lower volatility and smooth out returns over time.
Broadening Continues: The Bull Market Is Getting Wider
The encouraging development in equities is happening away from the loudest headlines. Artificial intelligence still dominates financial television, but the S&P 500 is no longer being carried entirely by a handful of mega-cap technology companies. That matters in an index where the 10 largest stocks represent roughly 40% of its market value.
Industrials, financials, energy, materials, utilities and infrastructure have all found periods of leadership. International and emerging markets have been particularly strong again this year, building on last year’s gains and rewarding investors who maintained global diversification after years when owning almost anything outside the largest U.S. technology companies felt unnecessary.
Market leadership has broadened. Over the past 12 months, international stocks and the S&P 500 have outpaced the Magnificent Seven, a notable reversal after a few years of mega-cap tech dominance. (see chart) (Source: ACWX, SPY and MAGS ETFs, Yahoo Finance)
That broader participation matters, and our investment thesis is built around diversified exposure to where earnings and leadership are expanding. Bull markets tend to become more durable when growth spreads across sectors, industries and regions, reducing dependence on ever-higher valuations from the same handful of companies.
This does not mean technology is finished. Far from it. The largest technology companies remain extraordinarily profitable, and AI capital spending continues to reshape the economy. But expectations are also enormous. When investors already expect perfection, even very good results can produce very ordinary stock returns.
The next phase of this market may look different from the last one.
Returns may come less from expanding price-to-earnings multiples and more from actual earnings growth. The S&P 493 may matter more. International stocks may matter more. Companies supplying electricity, industrial equipment, materials and infrastructure to the AI buildout may participate alongside the companies designing the chips and software.
None of this requires a bearish outlook. Our base case remains constructive. We do not currently foresee a recession or major bear market, and corporate earnings continue to provide a solid foundation for stocks.
But after a strong run, expectations matter. An S&P 500 at 8,000 would no longer surprise us. Neither would a market that takes a bumpier route getting there. Another 10-15% market correction before New Year’s Eve would not be unexpected.
Bottom Line: The second half of 2026 may require investors to hold several ideas at once. Inflation can remain stubborn without derailing the economy. Stocks can move higher without the Fed coming to the rescue. Bonds can offer attractive income while long-duration risk remains very real.
That is a less comfortable backdrop than the one investors grew accustomed to when the Fed provided the map. It may also be a healthier one, with markets increasingly forced to price earnings, inflation, growth and risk on their own merits.
For portfolios, that argues against making a heroic bet on any single outcome. We continue to favor quality, broader diversification, disciplined fixed-income positioning and exposure to areas where earnings and capital investment are expanding.
The Fed may be talking less. Markets are not.
The challenge for investors is knowing which signals matter, and which are simply noise.
For more information on our firm or to request a complementary investment and retirement check-up with Jon W. Ulin, CFP®, please call us at (561) 210-7887 or email jon.ulin@ulinwealth.com.
Note: Diversification does not ensure a profit or guarantee against loss. You cannot invest directly in an index.
Information provided on tax and estate planning is not intended to be a substitute for specific individualized tax or legal advice. We suggest that you discuss your specific situation with a qualified tax or legal advisor.
You cannot invest directly in an index. Past performance is no guarantee of future returns. Diversification does not ensure a profit or guarantee against loss. All examples and charts shown are hypothetical used for illustrative purposes only and do not represent any actual investment. The information given herein is taken from sources that are believed to be reliable, but it is not guaranteed by us as to accuracy or completeness. This is for informational purposes only and in no event should be construed as an offer to sell or solicitation of an offer to buy any securities or products. Please consult your tax and/or legal advisor before implementing any tax and/or legal related strategies mentioned in this publication as NewEdge Advisors, LLC does not provide tax and/or legal advice. Opinions expressed are subject to change without notice and do not take into account the particular investment objectives, financial situation, or needs of individual investors.
