The Asset Allocation Committee at Confluence Investment Management opens its third quarter 2026 outlook1 with a diagnosis that sets the tone for everything that follows: the US economy, in the Committee's words, "appears to be settling into a new equilibrium."
One quick note before the synthesis: because the report is copyrighted material, direct verbatim quotation is limited to the brief attributed excerpt above. The Committee's views below are rendered faithfully in close paraphrase, in present tense, with attribution throughout.
No Recession, But No Return to 2% Either
The Committee's base case calls for no recession over its three-year forecast period, with GDP growth near trend and business investment doing the heavy lifting, supported by secular themes including AI, infrastructure spending, and domestic manufacturing. Consumer spending remains positive, though the Committee is candid that lower-income cohorts are under pressure. That honesty about the two-speed consumer is characteristic of the report.
On inflation, the message is equally direct. The Committee expects inflation to stabilize in a range of roughly 2.5% to 3.5% over the next three years, held above the Fed's 2% target by persistent fiscal deficits, supply chain reconfiguration, and elevated geopolitical uncertainty. To be clear, the Committee does not forecast reacceleration. It does, however, concede that ongoing wars and tariff uncertainty could produce short-term inflation spikes.
The Fed discussion is where the report gets most interesting. The Committee is watching new leadership under Chair Warsh, noting that his use of task forces and preference for less transparent policy may increase rate and market volatility, but could ultimately yield a more adaptable, forward-looking framework. Market pricing has migrated toward a higher long-run policy rate, which the Committee reads as confirmation of its own higher-for-longer thesis.
The Broadening Trade Is the Central Call
The equity outlook pivots on concentration. The Committee argues the market has already capitalized much of AI's future value into a narrow group of mega-caps, leaving less room for valuation expansion, and expects leadership to widen as AI investment translates into earnings across the broader economy. The evidence is already visible: the equal-weighted S&P 500 has outperformed the cap-weighted index by more than 400 basis points year to date, 13.4% versus 9.3%.
Crucially, this is not an AI obituary. The Committee frames it as the next phase of the cycle, one with broader participation across sectors, capitalizations, and styles.
The portfolio actions follow the thesis. The Committee adds small and mid-cap equities where risk appropriate, tilts lower-risk portfolios toward value, favors energy and industrials on reshoring and capex themes, and swaps its Aerospace & Defense holding for an equal-weighted version to reduce mega-cap concentration risk. Abroad, international developed exposure remains, gold miners are exited on volatility grounds, and a small emerging markets allocation is initiated in the Aggressive Growth portfolio, resting on improving manufacturing, valuations, demographics, and potential dollar softness.
Bonds: Income Over Price Appreciation
In fixed income, the Committee's framing is refreshingly simple. Attractive starting yields mean a greater share of total return can come from income rather than falling rates. The Committee modestly increases shorter-maturity exposure, stays overweight Treasurys and agency MBS, and remains cautious on investment-grade corporates, where spreads near historic tights offer limited compensation, particularly as heavy AI-related issuance could pressure spreads over time.
Gold Stays, Platinum Goes
Gold is retained across all strategies, though modestly reduced, with foreign central bank reserve diversification expected to provide ongoing support. Platinum is exited entirely, with capital reallocated to equities where the risk-adjusted opportunity looks better. Discipline over sentiment.
Five Key Takeaways for Advisors and Investors
1 Plan for expansion, not perfection. No recession over three years, but growth near trend and inflation sticky at 2.5% to 3.5%.
2 The broadening trade is the actionable idea. Small and mid-caps, equal-weight structures, and value tilts are how the Committee is expressing it.
3 Reassess Fed assumptions. Higher for longer, with a less transparent Fed potentially adding rate volatility.
4 Let bonds be bonds. Prioritize income and quality; be skeptical of tight corporate spreads.
5 Diversifiers earn their keep selectively. Gold stays for its hedging role; higher-volatility proxies like gold miners and platinum do not.
The facts changed at the margin this quarter, and the positioning changed with them. The discipline did not.
Footnote:
Asset Allocation Committee. "Asset Allocation Quarterly (Third Quarter 2026)." Confluence Investment Management, 28 July 2026, www.confluenceinvestment.com/asset-allocation-quarterly-third-quarter-2026/.
