In this year’s first analysis, I laid out the bull case for stocks in 2026, setting out the factors that could support a strong equity market (link). I then explored the bear case, analysing the risks that abound (link). But which of these two scenarios will prevail? I judge that the risk of a serious drawdown is higher this year than in an average year. However, I also know that timing the bursting of a bubble is notoriously difficult, and if the high spirits of recent years persist, it could still prove to be a good year for markets. On balance, this more positive scenario probably still carries the higher probability.
Many things could go right in 2026 and push stock prices higher. Huge AI investments, massive fiscal stimulus, and monetary easing are among the most frequently cited factors. I described these here (link).
At the same time, risks abound—and perhaps more so than usual as we head into 2026. Inflation in the US is still too high, and if the economy accelerates further, inflationary pressures will intensify. The US stock market is also highly concentrated and trading at elevated valuations, while geopolitical risks seem to increase by the hour. The materialisation of some of these risks would drag markets down materially. My analysis of these risks is here (link).
After laying out these two opposing cases in my last two posts, several readers asked what I ultimately make of it all. Let me therefore offer my own reading of the situation.
Good and bad markets are equally likely—historically
As a starting point, I need to stress once again that predicting stock market returns over a one-year horizon—such as when we talk about stocks in 2026—is very difficult. I say this both as an academic who spent the first two decades or so of my career researching stock return predictability, and as someone who has worked with many different types of investors on these issues over the years.
While we can say something meaningful about expected returns over longer horizons, such as a decade—current valuation ratios, such as for instance price-earnings ratios, are quite informative about long-term expected returns—annual returns are notoriously hard to forecast.
Figure 1 shows a histogram of annual US stock returns since 1870.
Figure 1. Histogram of annual US stock returns, 1870-2025. Frequency of annual returns by interval. Source: Source: Shiller data and J.Rangvid.
Most observations are clustered around the mean, which is about 11% per year. Of the 155 years from 1870 to 2025, 67 fall into the 0% to 20% return buckets. Slightly fewer years—25 and 27, respectively—fall into the adjacent ten-percentage-point bins: −10% to 0% on the downside and 20% to 30% on the upside. As we move further away from the mean in either direction, the number of observations steadily declines.
Most importantly for this post, the number of years with very high returns—such as annual returns above 30%—is nearly equal to the number of years with very low returns—say, below −10%: 19 years versus 17 years.
The key takeaway, thus, is that annual returns close to the long-run average have historically been the most likely outcome. The further returns stray from the mean, the less likely they become. Importantly, a serious bear market—one delivering returns much below the long-run average—has been almost as likely as a strong bull market, with returns well above the mean.
Conditional expectations for 2026
When we talk about 2026, we are not starting from scratch. We begin with the unconditional distribution of returns shown in Figure 1 and then condition on the information discussed in my previous two posts (link and link). In other words, we move from “anything can happen” to a conditional forecast that incorporates what we currently know about the economic and market environment. Where does that leave us?
Many factors point towards a good year. Fiscal and monetary stimulus, continued AI-related investment, and other growth drivers are all supportive of equity markets. There is a reasonably high likelihood that these forces will dominate in 2026, and I therefore assign a fairly high probability to a positive year.
At the same time, I believe the conditions are in place for a serious contraction. Markets look frothy, valuations are high, inflation could flare up again, and Trump continues to test investor nerves with political—and sometimes military—attacks on people, institutions, and nations he dislikes. The risk of a meaningful blow-up is real and, in my view, higher than it has been for quite some time.
Conclusion
To sum up, I think there is a good chance—probably even a better-than-50% chance—that markets will deliver solid returns in 2026.
However, I am concerned that if things go wrong, they could go very wrong. Many of the ingredients for a serious downturn are already on the stove.
The main challenge—at least for me—is that I know that it is notoriously difficult to time a stock market crash. However, should such a crash occur, markets could fall sharply, and I do believe that the likelihood of such a large decline is meaningfully higher this year than in most others.
In short, I see a greater-than-50% probability of a good market this year, but also a larger-than-usual—though still less than 50%—chance of a meaningful crash.
From a scientific perspective, it is a fascinating experiment unfolding before us. We have a highly elevated and concentrated U.S. equity market, priced to perfection and vulnerable to a correction. At the same time, the U.S. economy remains strong, despite a shrinking workforce and persistently elevated inflation. Now additional fuel is being added through fiscal stimulus and other measures, alongside policy chaos and growing instability. How long this combination can persist is a compelling question to observe—at least for someone like me.
Whether you choose to go all in and hope that the crash does not materialise, or adopt a more defensive approach to protect your investment should it do so, is not something I can advise on. That decision depends mainly on your own risk aversion—and only you know where that lies.
