Bond yields, AI spending threaten US stocks

Markets face a busy end of 2026, with the start of corporate earnings season and a pivotal Federal Reserve meeting in coming weeks, along with the looming November 3 mid-term elections that will decide control of the US Congress.

"It does tend to be a seasonally strong period, however I think this year investors are facing some headwinds as we go into the fourth quarter," said Tracie Mc. Million, Head of Global Asset Allocation Strategy at the Wells Fargo Investment Institute.

Since 1945, the S&P 500 averaged an increase of 4.2% in the fourth quarter, with the index posting gains 85% of the time,. That average percentage rise is more than twice that of the other three quarters.

Fourth quarters of mid-term years have generally been even stronger, with an average gain of 6.4%, as stocks "benefit from the lifting of election uncertainty," Sam Stovall, Chief Investment Strategist at CFRA, said in a note. While fourth quarters tend to shine, mid-term years overall historically have been subpar, a trend stocks have defied so far in 2026.

The S&P 500 has averaged a 15% dip in mid-term years historically, while the deepest drop so far this year has only been 9%, Fargo institute.

The firm is on "high alert" for a pullback between now and election day, she said, for example, if it looks like the Democrats can wrest full control of Congress from President Donald Trump's Republican party.

"If we were to see a change in the leadership in the House and the Senate combined, then we think that could have some policy ramifications that could impact the markets," she said, while adding that a pullback could be a buying opportunity. The most immediate issue for stock investors is the jump in bond yields.

The benchmark 10-year Treasury yield on Thursday hit 5.34%, its highest level in 24 years. Yields, which rise when bond prices fall, have soared amid expectations for strong economic growth, surging energy costs that are driving up inflation, and increased competition for capital as companies issue debt to fund AI expansions.

Higher yields likely already are impeding the market's advance, investors said. They can create more investment competition for equities and pressure stock valuations, while translating into more expensive borrowing costs throughout the economy. "The interest rate story is the biggest headwind," said Chuck Carlson, Chief Executive Officer at Horizon Investment Services.

"You're going to need some relief on that front. I don't necessarily think the market will tank per se, but to get a meaningful rally in the face of that, I think is going to be a struggle for the market.

"