Rotation Accelerates as Data Complicate the Policy Path

February 17, 2026

Financial Markets

U.S. equity markets finished the week lower, with rotation and dispersion remaining the dominant themes. Ongoing concerns around artificial intelligence disruption continued to weigh on parts of the growth complex, extending beyond software into more traditional service-oriented industries. Insurance brokers, financial advisory firms, commercial real estate brokers, and freight intermediaries were among the groups that experienced meaningful pressure, reflecting investor reassessment of which business models may prove more vulnerable to automation and AI-enabled efficiency gains.

Beneath the surface, market breadth remains constructive, with the equal-weighted S&P 500 and small-cap stocks again outperforming the cap-weighted S&P 500 and NASDAQ—evidence that leadership is broadening beyond a narrow group of mega-cap technology names. International markets offered an additional source of strength, as international developed and emerging market equities finished the week higher and extended their relative outperformance versus the U.S., supported by softer inflation trends and evolving policy expectations abroad, reinforcing the benefits of global diversification.

Fixed income markets experienced sharp but ultimately offsetting moves. A stronger-than-expected January payrolls report initially pushed Treasury yields and the U.S. dollar higher immediately following the release. However, a cooler-than-expected Consumer Price Index (CPI) report later in the week reversed much of that move. By week’s end, the 10-year Treasury yield had settled near 4.05%, down from the post-payroll peak of 4.21%, while the policy-sensitive 2-year Treasury yield declined to approximately 3.42% from 3.54% after the jobs report. The back-and-forth in yields underscores a market grappling with competing signals on growth, inflation, and the Federal Reserve’s next move.

Economics

The week began with softer consumer data, raising renewed concerns about household momentum. December retail sales were flat month over month, missing consensus expectations for a 0.4% increase. While one data point does not establish a trend, it added to a growing narrative of consumer selectivity and potential fatigue following several years of above-trend spending.

More concerning were signs of rising financial strain. A recent Wall Street Journal article highlighted that financial stress is increasingly moving up the income ladder.[1] The average credit counseling client now earns approximately $70,000 annually, compared with roughly $40,000 before the pandemic. At the same time, unsecured debt balances among these households have risen sharply and now represent about 50% of income, double the pre-pandemic share. Broader delinquency data reinforce this shift. The share of U.S. household debt in delinquency has risen to 4.8%, the highest level since 2017. Roughly 13% of FHA borrowers are not current on their mortgages, and serious delinquencies in credit cards and auto loans are approaching post-2008 highs. Counseling agencies report double-digit enrollment growth, suggesting that financial strain is spreading beyond traditionally lower-income cohorts.

Midweek, labor data told a different story. January nonfarm payrolls increased by 130,000, well above the consensus estimate of 70,000 and up from December’s revised 48,000 gain. Private payrolls rose by 172,000, also significantly exceeding expectations. The unemployment rate declined to 4.3%, and labor force participation ticked higher to 62.5%, its highest level since April 2025. The prime-age (25-54) employment-to-population ratio rose to 80.9%, underscoring continued underlying labor market resilience.

The week concluded with January’s CPI report, which largely matched expectations and helped temper inflation concerns following the payrolls surprise. Core CPI rose 0.3% month-over-month and 2.5% year-over-year, while headline CPI increased 0.2% on the month and 2.4% annually. Core goods prices were flat, and shelter inflation moderated to a 0.2% monthly gain, down from December’s 0.4% pace. The report was viewed as constructive, easing fears of a reacceleration in price pressures. Market expectations for a June rate cut remained near 50% following the release, indicating that investors continue to see a plausible path toward additional easing, though not an urgent one.

Taken together, the economic data presented a nuanced picture: consumer strain is building at the margin, labor markets remain resilient, and inflation is cooling gradually. This combination complicates the policy outlook but does not point decisively toward either overheating or recession.

Policy

On the trade front, signs of a tentative U.S.- China rapprochement emerged. Leaders are expected to meet in Beijing in early April, with speculation that the existing October trade truce may be extended. The administration has reportedly paused certain technology security measures to avoid antagonizing China ahead of the meeting. While tariffs have receded from the market’s immediate focus, their longer-term trajectory remains uncertain. A recent House vote opposing the use of emergency declarations to impose tariffs on non-USMCA trade with Canada was largely symbolic, as any such measure would likely face a presidential veto. Meanwhile, the Supreme Court has yet to rule on the legality of certain emergency powers used to impose tariffs, with a decision potentially forthcoming later this month.

Fiscal policy remains a significant variable. The administration’s strategy appears aimed at sustaining above-trend growth into the midterm election cycle, with estimates of nearly $1 trillion in cumulative stimulus measures spanning consumer and business tax cuts, financial deregulation, expanded Fannie Mae and Freddie Mac mortgage purchases, and prospective Federal Reserve balance sheet adjustments. While this backdrop may provide a cushion against downside risks, history suggests that midterm years often bring heightened market volatility and lower returns, even in periods of solid economic growth.  On a positive note, historical market data indicate that the year following a midterm election is often above average for the U.S. stock market.

Conclusion

The past week underscored the increasingly layered nature of the current environment. Markets are rotating meaningfully, with defensives and energy gaining favor while AI-linked and growth-oriented equities face valuation scrutiny and disruption fears. Beneath headline index moves, breadth dynamics and international outperformance suggest a more complex and diversified market landscape.

Economically, inflation is moderating but not collapsing, labor markets are cooling but not cracking, and consumer stress is rising, though not yet destabilizing. These crosscurrents leave the Federal Reserve in a patient posture, with flexibility but no urgency.

In this setting, selectivity and diversification remain paramount. Leadership is shifting, dispersion is rising, and policy uncertainty—both monetary and fiscal—continues to shape risk sentiment. A balanced approach that recognizes both the resilience of the expansion and the growing signs of strain is, in our view, the most prudent path forward.

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[1] Imani Moise, “Americans With Higher Incomes Are Starting to Fall Behind on Payments,” The Wall Street Journal, February 12, 2026.

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