In very broad strokes, the U.S. economy has held up considerably better than many had predicted in the quarters and years following COVID. Despite persistently higher inflation than desired, economic growth had often surprised to the upside while the labor market consistently was depicted as adding healthy amounts of jobs. And to be fair, none of those statements are necessarily rendered false by anything we will say below. Rather, they are simply less convincing than the original data may have implied.

It is often helpful to start an economic analysis with the labor market since that is the primary source where consumers obtain the money that they use to drive an economy forward. After all, personal consumption is roughly 2/3 of economic activity overall in the US. The more secure individuals are in their jobs, and the more they are being rewarded with competitive increases to their compensation, history has convincingly shown that economic growth will therefore follow.

Despite seemingly endless expectations of slowing, throughout 2025 we consistently saw steady job growth for much of the year. However, we now know that the number of additional jobs that had been reported by the non-farm reports was overstated by nearly one million units with the annual revision in January. As such, looking back, we can now see that the average number of jobs added each month of 2025 was just 10K. For comparison, this same number was over 120K per month in 2024. The current year has started off with some similar uncertainty, with the most recent prints showing January adding 160K jobs but February giving 133K of them back, resulting in an average of only 13.5K for the two months. However, March numbers released just last Friday saw an addition of 178K. The extreme range (and subsequent revisions) of these numbers make interpretation challenging

It is also true that we do not need to add many jobs to maintain a relatively tight labor market. The unemployment rate has risen, but only to 4.3%, which is still a relatively low number by historical standards. This apparent inconsistency is a result of the relatively low supply of labor due in large part to a considerably more restrictive immigration policy.

Switching over to economic growth, we have also had an interesting ride of late. Due to the collection and subsequent reporting delays caused by the government shutdown, the third and final reading of Q3 GDP didn’t print until mid-January. When it finally came, it confirmed very strong growth of 4.4% for that period. Throughout much of Q1, estimates for Q4 2025 were equally rosy, approaching 5% at times. When the advance reading came in at only 1.4%, it represented a meaningful downside surprise. However, that was largely explained away by significant reductions in government spending from the shutdown and the market absorbed it with little fanfare. But when the second reading came through at only 0.7%, and this time driven lower by a softening personal consumption number, it gathered more attention. These significant downside surprises certainly cast some doubt on the current state of the economy. But like the labor market data, while the revisions are disappointing, the numbers do remain in positive territory.

No economic commentary would be complete without discussing inflation, a fact underscored by recent events. The last half of 2025 carried with it a general sense of relief that inflation had not gotten out of control despite the tariff debate that dominated much of the earlier parts of the year. We saw a gradual decline from 3.0% year over year headline CPI inflation in January of 2025 down to 2.7% in December of last year. That number has edged a little lower down to 2.4% for February of 2026, the most recent print available in that metric. The Fed’s preferred metric of pricing pressures, Core PCE, paints a less optimistic picture at 3.1% as of January readings. So, while relatively contained, this metric remains more than a full percentage point above that desired by the Fed.

So now that we have a general understanding of the available data and what it tells us about conditions prior to the war in Iran, it is probably far more important to think about the potential trajectory. In doing so, perhaps the best indication of how everyone feels was voiced in a rare joking moment by Fed chair Jay Powell at the most recent March FOMC meeting. The Fed held rates as was largely expected, and during the press conference Chair Powell joked that if there was ever a time to skip the regular summary of economic projections (SEP), this would be the one. For those unfamiliar, the SEP is a collection of “guesstimates” from current Fed members on the future levels of inflation, labor, and economic growth. The obvious intent behind the moment of brevity was to illustrate that the potential magnitude of the current events in the Middle East is so impactful that it creates such a wide range of potential outcomes that prediction is nearly impossible.

Of course, the participants ultimately completed the SEP, and predictably increased expectations for inflation while decreasing expectations for growth. The pricing influences from the war are many, and this creates a domino effect for increased pressures throughout the economy. While the oil situation gains all the attention, we have learned all too painfully in recent weeks just how dependent we are on the Strait of Hormuz for shipping things like natural gas, fertilizers, and aluminum. The potential spillovers are certainly global in nature rather than just contained to those directly involved.

Higher pricing pressures, even in the face of a resilient consumer base, should naturally apply braking power to economic growth. The obvious follow-on statement is that the magnitude of this impact will clearly depend upon the length and severity of the conflict.

Prior to the current events, the US economy appeared to be slowing but holding. And there were meaningful reasons for optimism coming into the new year such as economic stimulus from the One Big Beautiful Bill Act (OBBBA) and expected significant increases in tax refunds. While those elements are still in play, the honest assessment is that many of these tailwinds are now in danger of being offset by headwinds brought about by the war. Thus, while the U.S. economy still appears to be bending but not yet breaking, there is undeniably a very large hammer looming in the backdrop. And at times like these, it is prudent to reassess the strength of the glass we have been taking shelter behind and peering through – and be prepared to adjust investment positioning with incoming data. At the same time, in just the recent few days, there have been signals of optimism that the war will perhaps come to an end soon. In such a case, while the negative spillover effects will not dissipate overnight, we do remain confident that the U.S. economic backdrop is sufficiently stable to recover in relatively short order.

At times these past three months, it felt like investing was a contact sport as well, with very few opportunities for pit stops to change tires or catch your breath. While the month of March was rough (the worst March in a midterm election year since 1942 for the S&P 500), the car (the market) is still drivable, to continue the race analogy. Certainly, some dings and dents, but that’s racing and investing these days. Let’s examine the “damage” and what we might expect for the rest of the year.

We started the year with a green flag with equity markets around the world reaching new highs in late January and through February before the caution flags came out (I’m going to run is racing reference into the ground). The S&P 500 Large-cap Index ended the quarter down -4.4%, nearly matching the performance of the same quarter a year ago. By contrast, small-cap stocks (as measured by the S&P 600) were positive, highlighting some rotation out of the largest companies, up +2.5%. Performance outside the US, which at one point was up over +11% through February, got hit hard in March, pushing them into negative territory with Developed International Markets falling -1.1% for the quarter (as measured by the EAFE Index) while Emerging Markets (EM) posted a slight decline of -0.1% for the period (measured by the MSCI Emerging Market Index). Despite the rough finish (under caution) both areas were still solidly ahead of the broader US market. Putting the US and International Markets together, the MSCI All-Country World Index (ACWI) finished down -3.1% for the quarter. The equal-weight ACWI was also negative (-0.8%) but did outperform reflecting some of the rotation mentioned above.

From a sector perspective, 6 of 11 economic sectors of the market were positive for the period and 6 of 11 outperformed the broader market (S&P 500). As you might suspect, given the increase in oil, Energy (+38.3%) was the biggest winner for the period. Materials (+9.7%) also benefited from the rise in commodity prices while Utilities (+8.3%) and Consumer Staples (+7.7%) benefited from a move toward more defensive areas. Industrials (+4.6%) and Real Estate (+2.8%) were the other two positive sectors for quarter. At the bottom, Financials, Consumer Discretionary and Technology were all down around -9.2% while Healthcare (-4.9%) and Communication Services (-6.9%) did just slightly better. Isolating specifically on the month of March, Energy was the only positive sector since the war began, up over +10% for the month. The remaining sectors were down between -3.2% and -8.5%.

Examining the factors for the 1Q26, they were definitely influenced by the final month of the quarter, but we had started to see a rotation into Dividends and Value even before then. Growth, Quality and Profitability lagged in the large-cap space mainly due to the underperformance of “Big Tech” for the period. Overall, what we would call a “risk-off” tone for markets, although less so in the small-cap spaces. For our strategies, the factor backdrop was generally favorable as stock and particularly sector selection provided another strong tailwind to the relative performance in our Large-cap strategy for the quarter, marking our fifth straight quarter of relative outperformance. The Dividend & Income strategy performed well absolutely, with Dividends and Value both in favor, and in-line on a relative basis with sector and stock selection netting each other out. While positive for the quarter, our Small/Mid-cap portfolios trailed relatively for the year due to the market shift to smaller/non-profitable names (away from our portfolio positioning in this space). Finally, our International ETF portfolios outperformed as these markets rebounded late in the quarter.

So, what’s the bottom line? I think we are definitely still under a caution flag due to a wreck on the track with lots of smoke creating very low visibility. Fans of NASCAR will say that when this actually happens in a race, the conventional wisdom is to stay high on the track (with wrecked cars tending to drift down given the slope of the track) and drive through it, albeit at a reduced rate of speed. I would agree with that approach in today’s world of investing. Pick your line (strategic allocation) and stick to it but slow down given the lack of visibility in the near-term outcomes with a volatile geopolitical backdrop. I think there is more “rubbing” that is going to happen before we get through this period of uncertainty, but fortunately this is not my (or our team here at Greenwood Capital) first difficult race. Using those prior experiences, we will endeavor to navigate through this one, not without some lost paint to be sure, but out the other side with a car that can win the long-term race.

The shifting tone revealed itself in expectations over the course of 2026 which moved from two cuts to a slight probability of an increase. The yield on the 2-Year Treasury Note increased by 32 basis points (bps) for the quarter to 3.79%. The income component offset the drop in price to produce a total return of +0.23%. Duration sensitive bonds were more negatively affected. The 10-Year Treasury Note finished the quarter with a yield of 4.32%, which is 15 bps higher for the quarter and equated to a total return of -0.11%. The difference between the 10-Year and the 2-Year narrowed from 69 bps to 52 bps in what is known as a bear flattener. That is, both yields moved higher though short-term rates increased faster than long-term rates.

Corporate bonds performed slightly worse than government bonds as the spreads at which they trade over Treasuries moved to the widest levels since the “tariff tantrum” in April of 2025. The yield-spread over Treasuries of the Bloomberg Intermediate Corporate Index finished the quarter at 81 bps. The overall yield of this index is 4.81%. That is about 40 bps higher than the start of the year resulting in a total return of -0.22%. Interestingly, it was a robust quarter of corporate issuance that was met with ample demand. Four of the top five issuers this quarter were in the technology (hyperscaler) space. Amazon’s $37 billion deal led the largest single-session issuance on March 10th and reportedly had over $120 billion in orders. We continue to watch private credit. This space is experiencing investor redemptions and, in some cases, limiting the withdrawals as is their option in these investment vehicles. The concern is to what extent this affects public markets and credit conditions.

The municipal market was not immune to the bond market selloff as many parts of this market saw outflows and weak reinvestment demand. Additionally, supply was quite healthy. Many states are managing shortfalls due to revenue needs and federal funding reductions. The month of March had the worst monthly return for municipals in three years, but for the quarter, the Bloomberg 5-Year Municipal Index was essentially unchanged – up +0.01%. The municipal yield ratio to Treasuries is 71% which is the most attractive relative value in several months.

We used the opportunity of this higher interest rate environment to increase the duration of our portfolios. More specifically, we are in-line with the benchmark duration and have achieved this through the addition of government bonds. We think the conflict and its effect on commodities will ultimately slow growth. This should reengage the Federal Reserve, under a new Chairman, to be more accommodative with its monetary policy. Concerns will remain around longer-run inflation expectations and debt levels, but growth will be the primary focus given it’s an election year.

The information contained within has been obtained from sources believed to be reliable but cannot be guaranteed for accuracy.  The opinions expressed are subject to change from time to time and do not constitute a recommendation to purchase or sell any security nor to engage in any particular investment strategy. Investment Advisory Services are offered through Greenwood Capital Associates, LLC, an SEC-registered investment advisor.