Wall Street Forecasts Downside Inflation Surprise in 2026, Fueling Bullish Equity Outlook

Market participants are increasingly betting that inflation will fall more sharply than anticipated in 2026, with core PCE inflation projected to dip below 2.5% by year-end—well below current forecasts. This expectation is anchored in softening labor market data, declining services inflation, and a sustained decline in commodity prices, particularly energy and industrial inputs. The anticipated deflationary pressure is reshaping monetary policy expectations. The Federal Reserve is now seen as likely to deliver three rate cuts totaling 75 basis points by late 2026, accelerating the path toward a more accommodative stance. This shift is underpinning a bullish outlook for risk assets, with the S&P 500 (SPX) and Nasdaq Composite (NDX) both projected to gain 12% and 16%, respectively, in 2026. Bond markets are reacting accordingly, with the 10-year Treasury yield forecast to retreat to 3.4% by Q4 2026, and the iShares 20+ Year Treasury Bond ETF (TLT) expected to rise over 12% on the back of lower yields and rising demand for long-duration debt. Meanwhile, the U.S. Dollar Index (DXY) is expected to weaken to 100.5, reflecting reduced safe-haven demand amid stronger global growth signals. Sector performance is diverging: technology and consumer discretionary stocks are leading gains, supported by AI-driven productivity and resilient consumer spending. Utilities, traditionally defensive, are seeing modest outperformance due to rising bond yields in early 2025, but their momentum is expected to ease as real rates decline in 2026.