Markets in 2026 will be forced to face the liquidity delusion

There is, ostensibly, much to cheer as 2026 begins. After a tepid 2025, the global economy is showing faint but welcome signs of growth. South Africa, long the sick man of emerging markets, has secured its first sovereign credit upgrade in 25 years.

Equity indices from New York to Johannesburg are hovering near record highs. Even bond markets, jittery for much of the past three years, appear tranquil. The party is in full swing. The question is who, or what, will end it.

Markets, in their simplest form, are merely a liquidity rebalancing device. During the pandemic, the US pumped $4-trillion of fiscal stimulus into its economy, and central banks worldwide injected about $22-trillion into the economy through asset purchases and emergency lending. These trillions seeped into every financial crevice and continue to slosh through the system, looking for a home.

And for now, they have found one. The S&P 500 rose nearly 20% in 2025, extending a post-2020 pattern interrupted only by the rout of 2022. Bond yields, though far from their pre-pandemic lows, are well below the alarming levels touched occasionally over the past three years. The 10-year treasury trades are just above 4%, down from nearly 5% in late 2023. Crypto, while hardly having enjoyed a stellar 2025, has not had a wipeout. Bitcoin ends the year roughly where it began, at about $90,000.

South African markets have had their best year in recent memory. The JSE Top 40 finished the year about 40% up, within touching distance of all-time highs. Government bond yields have tumbled from 12.5% in mid-2024 to about 8.5% at the end of the year, providing the National Treasury its first meaningful fiscal breathing space in years. For a country accustomed to grim economic news, the relief is palpable.

Looking good but...

Yet beneath the complacency lies an uncomfortable reality: valuations have rarely looked more detached from economic fundamentals. Liquidity is abundant, but real economic vigour is not.

The US offers the clearest example. Despite President Donald Trump’s triumphant rhetoric, 2025 was unremarkable, even mediocre. Growth will likely come in at about 2%, nearly a full percentage point lower than 2024. What growth there was came overwhelmingly from one source: a capex binge on artificial intelligence (AI) data centres. Strip out that feeding frenzy and America looks tired.

Official statistics have been patchy due to the government shutdown, but private indicators paint a consistent picture. The labour market is cooling as unemployment edges up and monthly job gains falter. New home sales have sunk to their lowest levels since the 2008 crisis. Consumer sentiment has slumped. Spending has not collapsed, but the exuberance of the post-pandemic boom is a distant memory.

If markets rest on foundations, these ones are wobbly. Apart from tech, their support is not earnings, productivity or Main Street activity. Instead it is liquidity: abundant, indiscriminate and impatient for returns. There is scant evidence that valuations reflect economic strength, unless one believes in an imminent AI-enabled economic miracle. Markets are not floating on growth or corporate earnings, but on excess money.

Which is why the question for 2026 is not so much what the economy will do, but what liquidity will do. Growth, particularly in the US, is likely to remain sluggish. The determinant of where markets will go is instead whether liquidity will stay ample or, for the first time since 2022, start to tighten.

The Federal Reserve, of course, is trapped. Wedged between economic caution and political pressure, it ended 2025 more divided than at any time since 2019. Policymakers have just delivered a grudging, hawkish cut of 25 basis points, warning that “inflation remains elevated” and far above the target level of 2%. Instead, it is edging ever closer to 3%. Trump’s tariffs, whose effects have thus far proved muted, could push it ever higher still – and even the most pliable lackey will then have trouble cutting rates.

Fed chairperson Jerome Powell will not be around for long. Possibly the most consequential appointment of 2026 will be his replacement. This will be a choice with implications far beyond monetary policy.

Trump, who faces perilous mid-terms later in 2026, knows that his electoral support base is unusually exposed to financial markets. Millions of his Maga supporters are heavily invested in tech stocks and crypto.

Retail trading activity is at all-time highs, and so is borrowing on the margin. By November, retail investors had allocated 71% of their portfolios to equities, far above the pre-pandemic average, according to JPMorgan. Household equity exposure, at 45% of total financial assets, is the highest on record, and margin debt costs have climbed to that typical of market peaks.

The politics of it all

Then there is crypto, the asset class Trump has embraced with evangelical fervour. Many of his voters hold it, and many of them are leveraged into it. Trump’s own personal wealth is itself increasingly tied to crypto. More than any president before him, he is financially and politically invested in speculative assets. His incentives are clear: he needs markets to keep rising, and to make this happen he needs rates to keep falling.

Hence the White House campaign to browbeat the Fed into further loosening. Trump’s unstated but obvious calculation is that liquidity, not economic fundamentals, will determine his political and personal fortunes. If rates fall, liquidity will continue to gush and markets – particularly tech and crypto – will continue their ascent. If rates are not cut, let alone hiked, valuations could crumble, taking with them a considerable slice of his voters’ savings.

This scenario would be both economically painful and politically explosive. One should expect pitchforks at the gates of Mar-a-Lago.

Markets fuelled by excess liquidity rarely drift gently back to Earth. They rise serenely until the moment they do not, then they collapse under the weight of their own illusions, lies and investor hubris.

Investors have been partying on borrowed money, political pressure and monetary accommodation. Eventually, someone presents the bill. DM

Natale Labia is chief economist of a global investment firm, and writes in his personal capacity.

This story first appeared in our weekly DM168 newspaper, available countrywide for R35.