John Campbell Q4 Recap and Q1 Outlook

John Campbell: Over the course of the fourth quarter of 2025, the S&P 500 was up about 2.6%, ending a very strong year of nearly 18% returns. Additionally, the market broadened out a bit and small- and mid-cap stocks were also up, with the Russell 2500 up just over 2%. Outside the U.S., developed markets are up about 5% and emerging markets are also up just under 5%. The factors that led to the strong market included a continuation of the strong corporate earnings. Additionally, the artificial intelligence theme remained in focus for investors and corporate spending was strong—especially capital expenditures. And, despite the record-long government shutdown, consumer spending held up as well. The Federal Reserve gave us another 25-basis-point (100 basis points equal 1.00%) rate cut, which was the third cut in a row, and this was largely a result of a little bit of weakening in the labor market.

Given the Systematic Core team’s focus on factor investing, especially alpha factors and risk factors, I'd like to just walk you through what happened over the course of the quarter from a factor perspective. In general, many of the themes that we saw over the course of the full year played out as well in the fourth quarter, and I would characterize it as somewhat of a risk-on environment. When looking at risk factors, we see that high beta stocks perform really well. High momentum continued its strong run. However, on the flip side, quality, which has been weak all year, saw the higher-quality stocks underperform—whether it's higher earnings quality or high profitability, that continued to be weak in the fourth quarter.

Value factors performed well in the quarter, which was a little bit in contrast to what we saw over the course of the year, with the AI theme dominating and valuations were not a major concern for investors. Overall, looking at the year, it was a year of elevated factor risk in general, and this period could even be compared with times like after the dot-com bust or after the financial crisis, or even the COVID era. So, elevated factor volatility was definitely apparent throughout the year and is likely to continue into 2026.

As we go into 2026, we really want to be on our front foot when it comes to risk management. The market environment right now is characterized by elevated valuations. There's a high concentration in the market—especially in the S&P 500, where the top 10 stocks make up almost 40% of the index. And it seems as if there's a overreliance on a continuation of the AI theme.

This leaves the market in a bit of a vulnerable position. So, if there were a geopolitical shock or a macroeconomic shock or even just a change in sentiment on the AI theme, you could find yourself really being wrong footed, especially with a passive approach to investing. So, as a result, we really encourage investors to diversify.

You can go down cap in the U.S. or you can look outside the U.S. where you can still find high-quality companies at reasonable valuations. And, we think it's really important to have a multidimensional approach to risk management, and we look at risk from multiple dimensions—whether it's quantitative or qualitative, from the bottom up or the top down. We're going to do that this year, and we really encourage you to take that multidimensional approach to risk as well.