Trusted, Independent Investment Management

“The trend is your friend until the end when it bends”

–Ed Seykota

The second quarter of 2026 delivered a striking reversal from the difficult start to the year. After the S&P 500 fell roughly 5% in the first quarter — weighed down by tariff uncertainty, persistent inflation, and an unchanged Federal Reserve — markets found their footing and moved sharply higher. The index finished the first half of the year in positive territory, driven by one of the more unusual episodes of positive earnings estimate revisions that we have seen in recent memory. For the full year 2026, the consensus earnings growth estimate for the S&P 500 has risen from below 16% at January 1 to approximately 25% today — a revision of roughly nine percentage points in six months, which is rare outside of post-recession recovery periods. As we have written before, further gains in the market require earnings estimates to move higher, and in the second quarter they did exactly that.

It would be a mistake, however, to interpret this as broad-based strength across the economy. The earnings revision story is highly concentrated. Artificial intelligence remains the central force. The four largest contributors to S&P 500 earnings growth in the first quarter were Alphabet, Nvidia, Amazon, and Meta, and the AI infrastructure basket — semiconductors, data centers, and power infrastructure — has seen 2026 earnings estimates revised higher by approximately 55% since December 2024. Strip out those names, and the remaining roughly 470 companies in the index have seen their estimates move modestly lower. That divergence matters. The headline number flatters the underlying reality, and it tells us that the market’s advance continues to rest on a narrow foundation. We are also watching free cash flow carefully. While operating cash flow for the index is at record levels, the hyperscalers — Alphabet, Amazon, Microsoft, and Meta — are collectively guiding to nearly $725 billion in capital expenditures in 2026, up approximately 80% year-over-year. That spending is compressing their free cash flow to levels not seen since 2013, and several have turned to the investment-grade bond market to help fund the gap. Strong earnings and weakening free cash flow is a combination that deserves scrutiny.

Against that backdrop, we are pleased with how our portfolio is positioned. We have meaningful exposure to the AI investment cycle through Nvidia, Broadcom, Arista Networks, KLA Corporation, and our hyperscaler holdings in Alphabet, Amazon, and Microsoft, all of which have benefited from the upward earnings revision trend. At the same time, we believe our portfolio has better breadth than the index. Eli Lilly delivered an exceptional first quarter — revenue grew 56% year-over-year driven by Mounjaro and Zepbound, and management raised full-year earnings guidance. Intercontinental Exchange reported record first quarter results with adjusted earnings per share up 37% year-over-year, a direct reflection of the volatility-driven demand for its exchange and data platforms. Mastercard continued to compound reliably, with value-added services growing 18% organically and the company repurchasing $4 billion of its own shares in a single quarter. JPMorgan Chase delivered a 23% return on tangible common equity. Our consumer value holdings — Costco, TJX Companies, and Walmart — are benefiting from a flight to value among consumers navigating higher prices and economic uncertainty. During the quarter, we exited our position in GE HealthCare, where we felt the risk-reward had become less compelling relative to other opportunities. In May we initiated a position in Micron Technology, the leading manufacturer of high-bandwidth memory chips that are essential to the AI infrastructure buildout. Demand for Micron’s products is being driven directly by the explosive growth in Nvidia’s GPU deployments, and the company’s earnings estimates have moved sharply higher as a result. We view Micron as a way to participate in the AI capital spending cycle with a business that has strong pricing power and improving free cash flow as the memory market tightens.

Looking ahead, the investment environment remains one that rewards patience and discipline. Earnings are growing, but the pace of revision is unlikely to continue at the extraordinary rate of the first half. The forward price-to-earnings multiple on the S&P 500 sits near 20 times — above both the five- and ten-year historical averages — supported by earnings growth that is itself heavily dependent on continued AI capital spending. Any meaningful deceleration in hyperscaler investment plans would simultaneously impair the earnings of the companies supplying that infrastructure and expose the underlying softness in the rest of the market. We are not predicting that outcome, but we are managing for it. We continue to favor businesses that generate strong and growing free cash flow, maintain pricing power, return capital to shareholders in meaningful and consistent ways, and do not require a specific macro outcome to perform well. In an environment where trends can shift quickly, we believe that discipline around business quality is the most durable source of long-term returns.

Thank you for entrusting Ayrshire Capital Management LLC with the management of your money. We look forward to speaking with you in the coming weeks.

Sincerely,

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