In September 2025, we developed a forecast of investor sentiment for 2026. The forecast identified three periods of investor euphoria that are shown as columns in the figures below. We call each period an Anxiety-Free Period, or AFP. The first AFP has now ended, so we can begin evaluating how the forecast is performing and what it implies for the remaining two AFPs in 2026.
The AFP forecasts are based on
physics-based drivers of investment sentiment that are described in this paper,
which I published September of 2025:
https://papers.ssrn.com/sol3/papers.cfm?abstract_id=5482086
The AFPs are based on expected solar energy variation and were developed
without any stock market or economic information. Yet, they are correlated to important
inflection points in our Market Resilience Indexes, as discussed in the paper
linked above. AFPs are rare events. There
have been 13 clusters of AFPs since 1935.
The last one occurred in 2017/8. The next one is expected to take place
in 2033. In addition, they are abrupt.
An understanding of these AFPs is relevant to Focused 15 Investing. Because
the AFPs are rare and abrupt, when they have occurred, the F15 algorithms have
not navigated all of them well. The
clearest example of the impact of a cluster of AFPs is the Crash of 1987. The
crash was preceded by three AFPs. The market crash – a loss of 23% in one day -
occurred just after the end of the final AFP in the cluster. The three AFPs prior to the 1987 Crash
coincided with a 44% price gain for the DJIA 12 months prior to the crash. After the peak in price, the DJIA lost 30%
over the next month. The NASDAQ
Composite gained 25% in the year prior to its peak in 1987. It lost 25% over the subsequent month. For both indexes, much of the prior year’s
gain was lost within a month of the peak.
The 1987 AFPs were the most intense AFPs over the last 90 years. Several smaller AFPs have occurred at other
times during that period, and our algorithms have navigated successfully the
medium and small AFPs. However, our analysis suggests that the 2026 AFP cluster
is unusually strong, with an estimated intensity of about 80% of the 1987 AFP
cluster.
As of July 6, 2026, the one-year gains for the DJIA are about 20% and the
gains for the NASDAQ 100 are about 31%. These gains are as not strong as those
of the 1987 period. However, stock valuations are far higher now than they were
in 1987 (as discussed in a prior blog post: https://marketresilience.blogspot.com/),
which suggests less tolerance for disappointment and a greater risk of a price
adjustment. Thus, caution is appropriate.
Investor Euphoria During the 2026 AFPs
Based on our research conducted over the last several years, we created the forecast
of this year’s cluster of AFPs and published the forecast in September
2025. The first AFP of this cluster ended
recently. Thus, we can begin to evaluate
the forecast objectively. A complete analysis will need to wait until after the
final AFP of this cluster ends in December of 2026. Thus, this analysis is preliminary.
During an AFP, investor anxiety is expected to be unusually low, making
markets more susceptible to euphoria-driven advances and later market losses.
The three AFPs of the 2026 cluster are shown in Figure 1. The height of each
AFP column reflects the expected relative intensity of the sentiment effect.
The first AFP of the 2026 cluster is expected to be the most intense of the
three.
Figure 1
In prior AFP clusters, the stock market has often reached a major price peak
sometime between the beginning of the first AFP and the end of the last AFP.
The price peaks tend to occur close to the peaks of the AFP cluster. In the 2026 cluster, the overall peak was
forecast to be in late May, as indicated by the highest point across the three
columns shown above.
We track sentiment using Market Resilience Indexes, or MRI. These metrics
measure stock index price acceleration, which we use as an indicator of whether
investors are becoming more optimistic or more pessimistic in responding to prevailing
economic and market news. Figure 2 shows
short-term price acceleration, as indicated by the Micro MRI, for non-levered ETFs
tracking major US stock market indexes from the beginning of 2026 through July
3, 2026.
Figure 2
The vertical red line marks the beginning of the Iran conflict, on February
27, 2026. Falling Micro MRI readings indicate weakening short-term price
acceleration and greater vulnerability to declines in response to negative news.
Rising readings indicate strengthening short-term price acceleration.
Many MRI readings were already moving lower before the start of the Iran
conflict, indicating that investors were becoming more likely to react
aggressively to any negative news. All
the major index MRI readings reached extremely low levels in March.
Consistent with the September forecast, the market entered a period of
unusually high investor optimism in April. The most apparent driver was the AI
theme, best represented by QQQ (tracking the NASDAQ 100). However, Micro MRI
readings rose sharply across all major index ETFs, suggesting the rapid shift
to optimism was broader than AI alone.
The strongest AI-related price gains ended shortly after the first AFP
peaked, as shown by the decline in the QQQ Micro MRI and the subsequent
weakening in QQQ price performance. That pattern is consistent with the
September forecast.
The Micro MRI positions in their cycles are:
DJIA: Downleg at the 65th
percentile of levels since 1918
S&P500: Downleg at the 50th
percentile since 1931
NASDAQ 100: 44th
percentile since 1972
Russell 2000: 78th
percentile since 1983
Most readings are no longer at extremely high levels, although the Russell
2000 remains relatively elevated. If the
current pace of declines continues, the Micro MRI will reach lower extremes in
the next few weeks. An inflection point
at which the Micro MRI moves higher would indicate more resilience for the
market. Stock market prices would then
likely move higher. This pattern would be consistent with the forecast we made
9 months ago.
The current period between the first two AFPs, with Micro MRI readings
trending lower, is a period in which the market is more vulnerable to declines in
response to negative economic, earnings, or geopolitical news. If economic
conditions require a price adjustment, this is the type of period in which that
adjustment is likely to begin. That pattern would be consistent with our view
that economic conditions heavily affect the magnitude of price moves, while
physics affects the timing.
Figure 3 shows ETF performance over the same period. QQQ/NASDAQ moved lower
after the peak of the first AFP, while the DIA/DJIA has continued to move
higher.
Figure 3
The DJIA, which has relatively little exposure to the AI theme, has
continued to move higher during this period. The S&P 500, with greater
exposure to AI and technology stocks, has weakened since the price peak that
occurred shortly after the first AFP.
The DJIA’s continued advance, despite a declining Micro MRI, suggests that a
positive medium-term trend may be developing. As of last Friday, neither the
Macro MRI nor the Exceptional Macro MRI had confirmed that trend, although the
Exceptional Macro was close to being triggered.
Possible explanations for the lack of stronger Macro
confirmation are: 1) the Iran conflict in March and early April may have
depressed the MRI readings, and 2) the DJIA’s limited participation in the
AI-driven advance may mean that investors do not yet perceive its price level
as excessive.
The upcoming naturally vulnerable periods that are
candidates for price declines are:
-
Now to the end of July, before the second AFP
begins. This period of vulnerability is
consistent with Micro MRI readings having recently been elevated and now
trending lower.
-
October and early November, which is between the
second and third AFPs of the current cluster.
Since this period lasts just a month, it may not result in sustained
declines.
-
The end of December, after the third and final
AFP.
During these periods, investors may react more aggressively to negative
news. Negative news may result from Iran
negotiations, a more hawkish Federal Reserve policy to fight inflation,
geopolitical tension, and concerns about the economics of AI investments.
Market behavior so far in 2026 has been consistent with the forecast made in September of last year. Investor optimism increased sharply into the first AFP, the strongest AI-related gains faded soon after that AFP peaked, and the current decline in Micro MRI readings indicates that the market has entered a more vulnerable period before the second AFP begins. The window for a major July decline is narrowing, but the market remains in a vulnerable period before the second AFP begins. The next major candidates for meaningful declines occur later in the year.
