RFO Capital CIO Quarterly Letter – Q3 2026

Third Quarter 2026 | Global Markets & Macroeconomic Review 

The third quarter of 2026 tested the durability of the market recovery that had taken hold in the spring. Equity indexes remained resilient, but the character of the advance changed materially. The S&P 500 gained approximately 2%, supported by strong corporate earnings and continued enthusiasm around artificial intelligence, while the Russell 2000 fell more than 7% and the equal-weight S&P 500 declined by 2.2%.  

At the same time, the macro backdrop became more demanding. Oil prices rose sharply as ceasefire negotiations between Iran and the United States lost momentum and disruption risk returned to the Strait of Hormuz. Inflation remained above target, the Federal Reserve raised rates in September, and the 10-year Treasury yield ended the quarter near 5.3%, a level not seen in a very long time. Q3 was not a risk-off quarter in the conventional sense. It was a quarter in which investors continued to reward earnings delivery while demanding a higher price for duration, weaker balance sheets, and unproven growth narratives. 

Q3 2026 MARKET PERFORMANCE AT A GLANCE  

The third quarter highlighted a growing divergence across asset classes and market segments. Large-cap earnings supported headline equity indexes, while higher interest rates, rising energy prices, and weaker market breadth created a more demanding environment beneath the surface. 

THREE THEMES THAT DEFINED THE QUARTER

1) Resilient indexes, narrower leadership

The most important equity market development was not the modest quarterly performance of the S&P 500, but the divergence beneath it. The Nasdaq Composite gained approximately 2.5% and mega-cap technology remained well supported, yet the Russell 2000 declined roughly 7.5% and the equal-weight S&P 500 fell about 2.3%. Energy was the strongest-performing US sector, while only a limited number of sectors finished the quarter in positive territory. Market breadth, which had improved meaningfully in Q2, deteriorated again. 

This narrowing does not invalidate the equity rally, but it changes its risk profile. Strong earnings allowed the S&P 500 forward valuation to compress toward 19x even as prices rose. However, the growing gap between the capitalization-weighted index and the average company suggests that investors are placing an increasingly high premium on scale, free cash flow, pricing power, and access to capital. In a 5% yield environment, companies with distant cash flows or refinancing needs face a much higher hurdle. 

The quarter also reinforced that the AI trade is no longer a single, uniform basket. Results and share-price performance diverged across semiconductors, cloud platforms, software vendors, and data-centre beneficiaries. The market is moving from enthusiasm about AI capacity toward scrutiny of monetization, returns on invested capital, power availability, and financing structure. This evolution is healthy, even if it comes with greater volatility. 

2) Oil rebuilds the inflation risk premium

Energy markets reversed much of their second-quarter decline. Crude oil rose approximately 29% during Q3, while Brent traded back above US$100 per barrel as negotiations between the United States and Iran lost momentum and concerns about Middle Eastern supply routes resurfaced. The energy sector gained approximately 16.5% and was a material contributor to keeping the broader S&P 500 in positive territory. 

The implications extend well beyond the energy sector. Higher oil and freight costs can feed into goods prices, transportation, airfares, and corporate margins. They also complicate the policy trade-off facing central banks by sustaining headline inflation even when parts of core inflation are moderating. The third quarter therefore demonstrated that energy security remains a portfolio issue, not simply a geopolitical headline. 

For investors, the lesson is not to forecast the next move in oil with false precision. It is to recognize that portfolios built around a smooth return to 2% inflation remain vulnerable to recurring supply shocks. Real assets, infrastructure, energy exposure, and businesses with contractual pass-through mechanisms can provide useful diversification in that environment. 

3) The Bond Market Reprices the Cost of Capital

The bond market was the clearest source of stress during the quarter. The 10-year Treasury yield rose by approximately 88 basis points to 5.29%, while the Bloomberg US Aggregate Bond Index declined about 3.5%. Investment-grade corporate bonds fell approximately 3.9%, Treasuries declined roughly 3.0%, and high-yield bonds were down approximately 1.8%. The sell-off reflected persistent inflation, resilient growth, heavy sovereign issuance, and the financing demands of the AI capital-expenditure cycle. 

In September, the Federal Reserve raised its policy rate by 25 basis points. Its updated projections showed median expectations for 2026 real GDP growth of 2.3%, unemployment of 4.1%, headline PCE inflation of 3.7%, core PCE inflation of 3.4%, and a year-end federal-funds rate of 4.1%. The message was straightforward: the economy is stronger than feared, but inflation progress is insufficient to justify near-term easing. 

Higher yields improve prospective returns for new fixed-income allocations, but they also increase refinancing pressure across the economy. The distinction between owning yield and owning duration is more important than it has been in a long time. We believe investors should be selective, ladder maturities, and avoid treating long-duration exposure as a simple hedge against equity risk. 

THE MACROECONOMIC BACKDROP 

1) Growth

The US economy remained the principal engine of developed-market growth. Business investment, AI-related capital expenditure, and a firm labor market supported activity, while September purchasing-manager surveys indicated continued expansion. The Federal Reserve revised its 2026 real GDP growth projection to 2.3%. The Philadelphia Fed Survey of Professional Forecasters similarly projected 2.5% annualized growth for Q3 and 2.3% for Q4. 

This resilience is positive for corporate revenues and credit fundamentals, but it comes with a cost. Strong demand limits the speed at which inflation can normalize and keeps real interest rates restrictive. Outside the United States, growth remained more uneven. Europe and several Asian economies faced a more difficult combination of energy sensitivity, higher rates, and softer external demand. The result is a global expansion that is intact but increasingly differentiated by energy exposure and capital intensity. 

2) Inflation & monetary policy

Inflation moved in the wrong direction during much of the quarter. More than half of the components in the US consumer-price basket were running above 3%, and higher energy and freight costs broadened the pipeline of price pressure. August PCE inflation rose 0.3% month over month and 3.4% year over year, below consensus expectations but still far from the Fed’s 2% objective. 

The September Summary of Economic Projections raised the median 2026 headline PCE forecast to 3.7% and the core PCE forecast to 3.4%. It also raised the projected year-end policy rate to 4.1%. The path from here is unlikely to be linear. A moderation in energy prices could quickly improve the headline data, but services inflation, tariffs, labor scarcity, and the scale of AI-related investment all argue against assuming a rapid return to the pre-pandemic inflation regime. 

3) Currency markets & the Japanese yen

Currency markets were another important transmission channel during the quarter. The US dollar remained supported by comparatively high US yields and renewed expectations of Fed tightening, while the Japanese yen stayed volatile as investors balanced a still-wide interest-rate differential against a more active policy response from Japan. Coordinated intervention since late July helped contain yen weakness, but fiscal concerns, Japan’s trade deficit, and the continuing appeal of yen-funded carry trades limited the currency’s recovery. 

The yen deserves particular attention because its importance extends beyond Japanese assets. Yen-denominated cross-border borrowing remains elevated, making the currency a key funding source for global carry trades. Rising Japanese government bond yields, additional BoJ tightening, or further intervention could encourage repatriation and a reduction of leveraged positions abroad.  

Such an adjustment would not necessarily repeat the sharp dislocation of August 2024, but it could amplify volatility across global equities, credit, and other higher-yielding assets. For international investors, the episode is a reminder that Japanese equity returns, and yen exposure should be evaluated separately, and that currency hedging decisions can materially affect realized portfolio outcomes. 

4) Labor markets & consumer health

The labor market improved during the summer. The unemployment rate fell from 4.3% to 4.1%, layoffs remained low, and September private payrolls increased by 90,000 following a softer August. Employment growth is not especially rapid by historical standards, but it remains meaningful relative to a lower break-even rate of job creation caused by slower labor-force growth. 

Consumer conditions remain bifurcated. Higher-income households continue to benefit from asset values and wage income, while lower-income households face elevated borrowing costs, higher energy bills, and limited savings buffers. The durability of consumption therefore depends increasingly on continued employment and access to credit. Indicators that deserve attention include delinquency trendsdelinquency trends, revolving-credit balances, and the impact of higher yields on housing and autos. 

Housing affordability became an even more visible channel of monetary restraint during the quarter. The average US 30-year fixed mortgage rate reached 7.03% in the week of September 24 and was quoted near 7.34% at quarter-end, its highest level in more than a year. While this remains well below the historical peak above 18% recorded in 1981, the present burden is unusually severe because borrowing costs are being applied to home prices that remain elevated. The combination is suppressing purchase affordability and refinancing activity, limiting residential mobility, and reinforcing the divide between existing homeowners with low-rate mortgages and households attempting to enter the market. Housing may therefore transmit higher-for-longer rates to the real economy with a lag, through weaker transaction volumes, slower housing-related consumption, and continued pressure on lower- and middle-income households. 

5) Fixed income, credit & private markets

Corporate spreads remained relatively contained despite the rise in government yields. This reflects solid earnings and an economy that is still expanding, but it also means that valuations offer limited protection if growth weakens. High-yield rose to approximately 8.4% by quarter-end, creating attractive income potential, yet the underlying risk-free-rate move accounted for much of that increase. 

Private credit is entering a more selective phase. Recent data show rising non-accruals, greater use of payment-in-kind interest, and increased dispersion between larger senior-secured borrowers and weaker lower-middle-market companies. Software credits remain a particular area of scrutiny because AI can alter competitive positioning before debt maturities come due.  

6) Capital allocation & AI infrastructure

The financing requirements of AI are becoming an important macro variable in their own right. Estimates for 2026 AI capital expenditure have continued to rise, and external capital is playing a larger role in funding data centres, power infrastructure, and compute assets. This creates opportunities across infrastructure, private credit, real estate, and industrial supply chains, but also introduces new risks related to technological obsolescence, residual values, power constraints, and asset-liability duration mismatch. 

The next phase of the AI cycle will be determined less by announced spending and more by the quality of the financing and the economic return generated by that spending. We remain constructive on the theme, while distinguishing carefully between long-lived infrastructure backed by high-quality tenants and shorter-lived compute assets whose collateral values can fall rapidly as technology evolves. 

PORTFOLIO POSITIONING & OUR CURRENT THINKING

The third quarter reinforced several RFO Capital’s investment convictions as we enter the last quarter of the year: 

• Equity exposure should remain diversified, but quality matters more. The economy and earnings backdrop remain constructive, yet narrow index leadership and weak small-cap performance argue against complacency.  
• AI remains a structural opportunity, not a blanket allocation. The build-out is broadening into power, grid equipment, cooling, networking, data centres, and financing. The opportunity is real, but valuation and underwriting discipline are becoming more important as the market shifts from capacity expansion to proof of monetization. 
• Higher yields improve forward returns, but duration should be earned. Current fixed-income yields are increasingly attractive for long-term portfolios. We prefer a measured extension of duration, with an emphasis on quality and staggered maturities rather than a single large directional bet on falling rates. 
• Credit selection will drive outcomes. Tight spreads and higher base rates create an appealing headline yield, but they leave limited room for weaker borrowers. In public and private credit, covenant quality, seniority, cash interest coverage, and refinancing risk deserve greater weight than index-level spread measures. 
• Liquidity is an asset in a high-dispersion market. Volatility in rates, small caps, software, and private credit is likely to create selective entry points. Maintaining liquidity allows portfolios to act when compensation improves rather than forcing decisions when markets are calm and valuations are full. 
• International diversification remains valuable, but energy sensitivity matters. Valuation discounts outside the United States are attractive in selected markets. However, the quarter demonstrated that energy-importing regions can face a materially different macro outcome when oil and gas prices rise. Geographic diversification should therefore be paired with an understanding of each market’s sector and commodity exposure. 

CLOSING REMARKS

The third quarter did not deliver a dramatic reversal of Q2. Instead, it offered a more useful test. Risk assets held their ground while the cost of capital rose, oil prices surged, and monetary policy tightened. Strong earnings and economic resilience were sufficient to support large-cap equities, but not sufficient to lift all assets together. 

This is an environment that rewards selectivity. The dispersion between large and small companies, between public and private borrowers, and between durable AI infrastructure and more speculative beneficiaries is likely to remain wide. The easy narrative that lower inflation would lead quickly to lower rates and uniformly higher asset prices has been replaced by a more complex reality: growth can remain firm, inflation can remain sticky, and capital can remain expensive at the same time. 

As always, we remain available to discuss your portfolio positioning and outlook in detail. 

Yours sincerely, 

Anik Lanthier
Chief Investment Officer, RFO Capital
October 2026

Data sources: Federal Reserve, Freddie Mac, Bankrate, Federal Reserve Bank of Philadelphia, J.P. Morgan Asset Management, Bloomberg data as reported by First Citizens Wealth, Reuters, MUFG Research, Jefferies, FactSet data as reported by Axios, and publicly available market data through September 30, 2026. 

This letter is provided for informational purposes only and does not constitute investment advice. Past performance is not indicative of future results. All market data referenced reflects publicly available information through September 30, 2026. This document is intended for institutional and professional investors only.