US stock market outlook: Where we see investing opportunities in February
Greatest fair value increases include late-cycle tech stocks.
Key takeaways
- US stock market trading at 5% discount to the composite of our valuations
- Growth stocks at a discount following fair value increases
- Small-cap stocks remain especially attractive
- Greatest fair value increases occurred in commodity-oriented, late-cycle technology stocks
As of Jan. 29, 2026, the US equity market was trading at a 5% discount to a composite of our fair value estimates of the over 700 stocks we cover that trade on US exchanges.
While the Morningstar US Market Index rose 1.50% during January, the composite of our fair values rose faster. This has the effect of increasing the market discount to 5% from 4% last month.
The two stocks, by market capitalization, we increased our intrinsic valuation the most in January were Tesla TSLA (up 33%) and Taiwan Semiconductor Manufacturing TSM (up 38%). The combined increase in valuation for these two stocks was $1 trillion. Mega-cap stocks in which we have a differentiated view from the market continue to skew our broad market valuation. For example, excluding Nvidia NVDA from our market valuation would increase our price/fair value estimate metric to 0.97. In addition, excluding Microsoft MSFT and Broadcom AVGO would yield a price/fair value metric of 1.
In our 2026 Market Outlook, we noted that we anticipated higher volatility this year and outlined risks for investors to monitor. In mid-January, one of these key risks came to fruition as yields on long-dated Japanese government bonds spiked. Considering Japan is the third largest sovereign issuer in the world, the combination of higher yields and losses prompted a global wave of risk-off sentiment, sending US stocks down 2%.
Yet, just as quickly, in an apparent intervention, prices on Japanese government bonds rose and yields subsided, calming investors’ fears, and stocks quickly recaptured those losses. We suspect that not only will the market test the Bank of Japan’s resolve to support its bond market, but that this taste of volatility is a harbinger of heightened volatility to play out over the course of 2026.
US stock market trading at a discount
Over the past few quarters, we have highlighted just how much the artificial intelligence buildout boom has led us to increase our fair values on those mega-cap stocks most closely tied to AI. The greatest valuation increases were for those companies at the forefront of AI technology and those building out their AI capabilities. Based on the sheer size of their market capitalization, these fair value changes have significantly skewed our broad market valuation.
As the AI buildout boom continues at full speed ahead, we have continued to make significant increases in stocks tied to the AI buildout boom. Yet, the types of companies where our valuations have increased the most have changed. Over the past month, the greatest valuation changes have occurred on late-cycle technology companies, many of whose products are considered to be commodity-oriented.
Among the semiconductor manufacturing equipment manufacturers, we increased our fair value on Lam Research LRCX by 74%, KLA KLAC by 40%, and ASML ASML by 19%. Among those considered to be commodity-oriented products, we increased our fair value on SanDisk SNDK by 396%, Western Digital WDC by 68%, and Corning GLW by 58%. In the rush to build new AI data centers and capacity, commodity-oriented products whose supply has been taken for granted are now in a severe shortage.
Small-cap stocks have outperformed the broad market over the past three months, yet at a 13% discount remains one of the most attractive categories. Mid-cap stocks remain closer to our fair value estimates, while large-cap stocks trade at a 5% discount.
By style, following significant increases in our fair values on a number of growth stocks, growth is now at a 12% discount, whereas both value and core stocks are trading closer to fair value.
Where we see value by sector
There were a substantial number of significant changes in our sector valuations since last month. The greatest valuation change by sector over the past month occurred in energy, bringing the sector to a 3% premium from a 10% discount. The communications sector became less undervalued, rising to only a 4% discount from a 9% discount, largely on surges in undervalued Meta Platforms META and Alphabet GOOGL.
The consumer defensive sector became further overvalued, rising to a 17% premium, and basic materials also became further overvalued, rising to a 10% premium.
The technology sector became further undervalued as a combination of fair value increases and stock declines led the sector to drop to a 16% discount from 11% discount last month. Similarly, a combination of fair value increases and stock declines led the financial-services sector to drop to a 2% premium from 8% premium.
Portfolio positioning for 2026
Over the course of 2026, we expect that there will be multiple bouts of volatility as there are a number of key risks that we suspect the market will have to contend with.
So, that begs the question, how can investors position themselves to take advantage of heightened volatility?
Based on our overall valuations, we think investors should market-weight equities within their portfolio at their targeted allocation. Within this allocation, investors can create a barbell-shaped portfolio to retain further upside potential we see in technology and AI stocks, yet balance these positions with high-quality, value stocks to hedge against potential for elevated volatility in 2026.
Within this portfolio, if the market runs too hot and too far above our fair values, investors can take profit in AI stocks to the upside, lock in gains, and reallocate the proceeds into undervalued value stocks.
If the market sells off, we’d expect value stocks to hold their value better and can be sold, and the proceeds used to increase positions in those technology and AI stocks that will have sold off too far into undervalued territory.
