Guest Insight for Modern American Advisor
Fully credited to Vanguard
Based on “Vanguard Economic and Market Outlook for 2026” (December 2025)
AI Exuberance: Economic Upside, Market Discipline
Artificial intelligence has moved from laboratory breakthrough to boardroom strategy in record time. What began as experimentation in 2023 became adoption in 2024 and capital deployment in 2025. As we move through 2026, the question is no longer whether AI matters. It is how far, how fast, and at what cost.
In its December 2025 Economic and Market Outlook for 2026, Vanguard lays out a view that is both optimistic and cautious. AI has the potential to lift productivity and push U.S. growth higher than most forecasters expect. Yet the same forces driving economic enthusiasm may limit stock market returns, especially in the most celebrated corners of the market.
The message is nuanced. The economy may benefit more than equity investors do. And portfolios built for broad participation—not narrow concentration—may prove best positioned from March 2026 onward.
Higher Growth on the Horizon
Vanguard’s baseline forecast sees the U.S. economy growing by 2.25% in 2026, with a meaningful chance that growth accelerates toward 3% in coming years if AI diffusion continues to deepen . Inflation is expected to remain somewhat sticky, ending 2026 around 2.6%, while unemployment holds near 4.2%.
The implication is important. Growth is firm, but not explosive. Inflation is cooling, but not defeated. This combination leaves the Federal Reserve with limited room to cut rates far below its estimated neutral rate of roughly 3.5% .
In other words, the “free money” era is over. The next phase of expansion will occur in a world of structurally higher interest rates than the decade after the global financial crisis.
Yet the real wildcard is productivity. Vanguard argues that AI stands out among megatrends because it can alter the supply side of the economy. Unlike fiscal stimulus or consumer credit cycles, AI investment can permanently raise output per worker.
The comparison is historical. Railroads in the 19th century. Automobiles after World War II. Telecommunications in the 1990s. Each required years of heavy capital investment before productivity gains appeared clearly in official data.
AI appears to be following a similar path.
The Capital Deepening Phase
Since late 2022, AI investment has added roughly $250 billion to U.S. GDP . That figure may sound large, but Vanguard’s historical comparisons show we are still early in the cycle. On page 6 of the report, a chart comparing past capital buildouts suggests the current AI cycle may be only 30–40% of the way toward historic peaks .
Unlike the late-1990s telecom boom, however, this cycle has been broad-based. As shown in the concentration data on page 7, today’s investment footprint is less dominated by a single sector than past buildouts . Information and data processing account for about 7% of nonresidential investment—well below peak levels seen in earlier eras.
That breadth suggests further legs to the investment cycle.
But the next phase will likely narrow. Vanguard identifies a group of “AI scalers”—large technology, semiconductor, hardware, and utility firms—that are committing roughly $2.1 trillion in capital expenditures between 2025 and 2027 . Consensus forecasts suggest these companies can fund this investment with retained cash flow and balance sheet strength.
The economic effect is straightforward. Massive capital spending creates jobs, supports suppliers, and builds the infrastructure for future productivity gains.
The market effect is more complicated.
Productivity: Real but Uneven
Vanguard’s task-based analysis suggests AI’s productivity potential is surprisingly universal . Even industries seen as physical—such as logistics or health care—spend meaningful time on cognitive, rules-based tasks that AI can accelerate.
Yet adoption is uneven. As illustrated on page 11, information and professional services lead in AI use, while leisure and hospitality lag . Over time, Vanguard expects adoption to become more uniform, but 2026 remains a year of assessment as much as acceleration.
Labor market fears, for now, appear overstated. Data on page 12 show that occupations with high AI exposure have not suffered widespread job losses; in fact, they have seen stronger real wage growth than many others . AI is augmenting more than replacing.
If AI diffuses broadly and augments roughly 30% of working hours by 2035, Vanguard estimates that real GDP growth could average 3% between 2028 and 2035—well above the post-2008 trend . But that outcome is far from guaranteed.
The probability-weighted assessment reflects that uncertainty.
Equity Markets: Exuberance Meets Math
Vanguard’s equity outlook is perhaps the most striking part of the report.
In the near term, strong earnings and continued AI capital spending could support further gains in U.S. equities. The risk may even skew to the upside in 2026 if growth surprises positively .
But over a 10-year horizon, Vanguard projects 4%–5% annualized returns for U.S. equities .
That forecast is not rooted in pessimism about AI’s economic impact. It is rooted in valuation discipline.
The cyclically adjusted price/earnings (CAPE) ratio for U.S. equities sits near the top decile of historical experience . When valuations are elevated, future returns tend to moderate—even if earnings growth remains solid.
Vanguard outlines three AI scenarios (page 17):
- If AI’s transformation is stronger than expected (10% probability), 10-year returns could reach 8%–10%.
- If AI becomes a general-purpose technology lifting trend growth to 3% (60% probability), returns may fall to 5%–7%.
- If AI disappoints (30% probability), returns could range from –2% to 2% .
Probability-weighted, the result lands near 4%–5%.
In short, a booming economy does not automatically translate into booming stock returns.
Creative Destruction: History’s Reminder
Technology cycles rarely reward incumbents indefinitely.
The dot-com era saw dozens of leaders fade after 2000. Vanguard reminds readers that many of today’s dominant AI companies were small or nonexistent during the 1990s boom .
The report highlights the power of “creative destruction.” As AI diffuses beyond infrastructure into applications, bottleneck solutions, and industry-specific tools, new firms may capture value from the ecosystem built by today’s giants.
The chart on page 14 underscores this dynamic: private AI start-ups in the U.S. outnumber publicly traded companies . That suggests tomorrow’s winners may not yet be household names.
This uncertainty adds risk to concentrated equity exposure.
Bonds: Back With Purpose
If U.S. equity returns are likely to moderate, where does Vanguard see stronger risk-adjusted opportunity?
The answer is clear: high-quality fixed income.
Projected returns on high-quality U.S. bonds approach 4% over the coming decade . With inflation expected to settle closer to 2%–2.5%, that implies compelling real returns.
Bonds also provide diversification if AI enthusiasm falters. As Vanguard stresses on page 15, fixed income benefits from the higher neutral rate environment and offers protection in downside scenarios .
Importantly, Vanguard emphasizes credit quality. With spreads tight and capital-intensive AI projects proliferating, lower-rated credit could face asymmetric downside.
The phrase “bonds are back” is not a slogan. It reflects structural math.
Value and International: The Underappreciated Beneficiaries
Vanguard’s capital markets projections rank the strongest risk-return profiles over five to ten years as:
- High-quality U.S. fixed income
- U.S. value equities
- Non-U.S. developed market equities
Why value?
If AI raises productivity across the economy, sectors such as industrials, financials, and consumer segments may capture efficiency gains without carrying the valuation premium of growth stocks.
Why international?
Valuations abroad are lower. Developed markets outside the U.S. have not priced in as much AI optimism. If productivity broadens beyond tech infrastructure, international equities may benefit.
Vanguard projects roughly 7% 10-year returns for U.S. value and about 6% for developed ex-U.S. equities .
These segments may serve as both offense and defense—participating in AI’s benefits while offering valuation support if enthusiasm cools.
Regional Divergence
The AI story is not evenly distributed.
- United States: Capital expenditure growth around 7% in 2026, driven by AI buildout .
- Euro area: More modest 1.2% growth, with fiscal easing offsetting tariff drag .
- United Kingdom: Growth near 1%, inflation easing toward 2.2% .
- China: 4.5% growth in 2026, but longer-term structural headwinds remain .
- Japan: Steady normalization, with policy rates rising toward 1% .
China and the U.S. lead in AI adoption, but demographic pressures may cap China’s long-term gains. Europe risks lagging without faster innovation reform.
For global portfolios, geographic diversification matters.
Portfolio Construction: Discipline Over Drama
Vanguard concludes with a portfolio stance that balances momentum and risk.
The recommended time-varying allocation leans toward:
- Meaningful fixed income exposure
- Tilt toward U.S. value
- Allocation to developed ex-U.S. equities
- Reduced emphasis on U.S. growth concentration
This approach accepts that AI may drive economic expansion while acknowledging that markets often overprice future perfection.
The discipline is clear: stay invested, diversify broadly, emphasize quality, and avoid assuming that today’s leaders will own tomorrow.
The Bottom Line for Advisors
From March 2026 onward, the investment landscape is defined by paradox:
- AI may lift growth.
- AI may compress equity risk premiums.
- Productivity may rise.
- Valuations may limit returns.
Vanguard’s outlook does not reject optimism. It reframes it.
The economy could accelerate. Earnings could remain strong. But forward returns depend on what investors pay today.
For advisors, the implication is simple: build portfolios that participate in AI’s upside without relying solely on AI scalers to deliver it.
The winners of the next decade may not look like the winners of the last three years.
And that is exactly what history would suggest.
Source: Vanguard, Vanguard Economic and Market Outlook for 2026 (December 2025).
