Throughout history, the stock market has had a long history of boom-and-bust cycles. And while these are typically driven by macroeconomic factors such as the business cycle and interest rates, political decisions can also influence market sentiment.
As President Donald Trump begins his second year in office, let's explore two reasons the market could underperform in 2026 and beyond.
1. Tariff uncertainty is getting worse
On the surface, Trump's first year may have looked decent for U.S. equity markets, with the S&P 500 (^GSPC 1.52%) gaining around 18%. But the devil is in the details. For example, the dollar index (which compares the U.S. dollar to global peers) dropped 8% last year, eroding the U.S. stock market's gains relative to other currencies.
Analysts generally blame this trend on Trump's trade policy, which seeks to boost U.S. export competitiveness through aggressive tariffs. And while the Supreme Court recently ruled these actions unconstitutional and revoked them, the judgment may create more problems than it solves.
Trump continues to try to enact his tariffs through different legal means. Most recently, this has involved pledging to implement a 15% global tariff to replace the previous levies. But regardless of what happens, uncertainty is the biggest enemy because it makes it difficult for companies to plan for the future and put production capacity in the most efficient areas. While reshoring to the U.S. sounds like an easy fix, this could backfire if the tariff rate suddenly changes or is removed entirely.
The U.S. fiscal situation is another problem. CNBC reports that the U.S. may be required to refund a whopping $175 billion in tariff revenue it has already collected. This obligation could even add to an already ballooning deficit, projected to hit $1.85 trillion this year.
While the U.S. deficit doesn't directly affect stocks, it can raise interest rates on government debt. U.S. Treasuries represent the risk-free rate in the economy. And when the risk-free rate rises, it tends to make stocks less attractive relative to bonds while also increasing the cost of capital throughout the economy. Companies have to pay more to borrow money, leading to higher interest expenses and lower earnings.
2. AI spending looks unsustainable
Trump's policy has introduced unprecedented uncertainty into the U.S. economy. But much of the arguably overdue fallout seems overshadowed by massive spending on artificial intelligence (AI). According to CNBC, the top four hyperscalers are expected to pour an eye-popping $700 billion into AI data center equipment. Much of this money is going to hardware producers like Nvidia, Micron, and Advanced Micro Devices, boosting their valuations.
However, capital expenditures can come with significant risks, even if they are funded with operational cash flow. First, the data center hardware being purchased will eventually age and become obsolete, which is recorded as a depreciation expense that could become a long-term drag on earnings. Furthermore, the market is beginning to punish AI spending, with the share prices of particularly big spenders like Amazon and Oracle down 7% and 24%, respectively, year to date, as investors get nervous.
The next shoe to drop could be the AI companies themselves, which are burning through alarming amounts of money training and running large language models (LLMs). OpenAI is expected to lose $14 billion this year. And if consumer-facing AI companies begin to fail, the demand the hyperscalers are betting on won't materialize, and the market will probably react extremely negatively to all the misallocated capital.
What should investors do?
While stock crashes can be very stressful when they happen, the safest strategy is to keep a long-term perspective. U.S. markets have historically always bounced back -- even from the worst drawdowns. And investors can reduce their risk of sustained losses by betting on profitable companies with reasonable valuations and strong economic moats.
