In an exclusive interview with Benzinga, John Canavan, lead analyst at Oxford Economics, struck a cautiously optimistic tone on the U.S. economy heading into 2026, but warned that the market's growing obsession with aggressive rate cuts and tech stock dominance may be ignoring some inconvenient truths.
One More Fed Cut in 2025 — Not Two
While markets are pricing in two additional rate cuts by the Federal Reserve this year, Canavan believes only one is likely to come, possibly at the December FOMC meeting. He expects the Fed funds rate to fall to 3.00%–3.25% by mid-2026, followed by a pause.
"Markets have almost fully priced in a rate cut for October in addition to one for December, but we think that's too aggressive," Canavan said. "We still expect inflation to gradually cool, but not enough to justify the pace markets are betting on."
Speculators now see an 80% chance of back-to-back 25-basis-point rate cuts at the Fed's October and December meetings, as per CME FedWatch.
Labor Market Holding Better Than Expected
Despite signs of labor market softening, Canavan said the economy is not heading for a hiring freeze. Instead, he described a "no hiring, no firing" environment where firms are cautious, not collapsing.
"We're not seeing large layoffs," he said. "The employment situation is steadier than some Fed projections and recent market sentiment suggest."
That's partly due to the lagged effects of tighter financial conditions earlier in the year — and partly due to corporate hesitation tied to tariffs, AI disruption and macro uncertainty.
Inflation: Not Structural, But Sticky
Oxford Economics doesn't view current inflation pressures as structural, but contends that the full impact of tariffs has yet to be fully realized.
"We think this is a one-off level shift in prices," Canavan said. "But companies can't absorb all the tariff costs forever — some will be passed on."
The outlook predicts that inflation will begin to decline again in 2026, aided by lower interest rates and the stimulative effects of the One Big Beautiful Bill Act, which includes corporate-friendly tax reforms and consumer rebates expected in early 2026.
Tech Stocks: Not A Bubble — But Watch The Valuations
Asked whether the $21 trillion market cap of the Magnificent Seven signals a bubble, Canavan struck a nuanced tone.
"We don't think this is 1999 all over again," he said. "But valuations are stretched, and we may be ripe for a near-term technical correction."
Still, Oxford Economics remains bullish on the tech sector's long-term outlook, citing continued AI adoption and the U.S. equity market’s global leadership.
"Even if we see a correction within the next 3-to-6 months, we expect tech to lead the market through 2026," Canavan added.
Among key risks, Canavan highlighted a stronger-than-expected rebound in the labor market, which could prompt the Fed to pause its cuts, inflation remaining above target for longer, and a potential market reassessment of AI’s profitability, though he sees that as unlikely.
S&P 500 Forecast: More Modest Than The Bulls
Oxford Economics forecasts the S&P 500 – as tracked by the Vanguard S&P 500 ETF (NYSE:VOO) – will end 2025 around 6,750, far below some of Wall Street's more optimistic calls for 7,100 or even higher.
Beyond tech, Canavan sees opportunity in high-quality, profitable companies that can pass on tariff costs — a crucial differentiator in a world of shifting supply chains and policy-driven price shocks.
He was less enthusiastic about rate-sensitive plays, such as regional banks or real estate, saying that relative outperformance will depend more on pricing power than rate exposure.
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