The past few weeks have been marked by sharp swings in investor sentiment, driven largely by the Iran war and mixed signals from the U.S. labor market. Stepping back from the headlines and looking at companies’ earnings reports, however, shows that markets entered this period from a position of fundamental strength.
Earnings and revenue strength
Corporate profitability in 2025 was robust. As of this past week, all 500 companies in the S&P 500 have reported their earnings for last year. Earnings across U.S. companies grew over 14%, and importantly, this growth was broad based: 10 of 11 major sectors posted profit gains. Revenue growth also accelerated, finishing the year up about 8%.
This combination of widespread revenue expansion and strong earnings reflects a healthy U.S. corporate backdrop heading into 2026. This foundation provides an important buffer as investors assess the potential economic implications of elevated oil prices and broader geopolitical risks.
Today’s valuations in context
A key question for investors is how today’s elevated valuations in U.S. equities will resolve. Valuations, typically measured by the price‑to‑earnings (P/E) ratio, reflect how much investors are willing to pay for each dollar of current and expected earnings. Higher P/E ratios may indicate higher expectations.
Entering 2026, S&P 500 valuations were near historic highs. Historically, elevated valuations have not persisted indefinitely, meaning some degree of reversion to the average is expected over time.
Valuation ratios can normalize in two ways:
- Through price declines, as seen during the dot‑com bust; or
- Through rising earnings, which may contribute to meeting high expectations..
The strong earnings performance at the end of 2025 suggests the latter dynamic. If the economic expansion stays intact, earnings growth may continue to outpace prices in 2026, which could allow valuations to adjust without a decline in market levels.
Of course, geopolitical developments and commodity‑price shocks could influence the pace of this adjustment, but the underlying earnings trajectory remains a key stabilizing force.
How much might valuations normalize?
Consensus expectations call for over 15% earnings growth in 2026. If companies achieve this growth while equity prices remain flat, the S&P 500 forward P/E would decline from over 24x earnings to around 21x earnings — moving closer to its long-term average.
Historical norms could potentially be influenced by earnings strength, but market pullbacks can also play a role in valuation adjustments.
Global comparison on valuations
As explored in a recent Mercer Advisors commentary, international equities outperformed the S&P 500 in 2025, returning 32% versus 18% for U.S. stocks, even though U.S. companies delivered stronger earnings growth.
That relative strength continued into early 2026, before geopolitical tensions in Iran began influencing markets. International equities still trade at roughly a 30% discount to U.S. stocks on an absolute basis.
The long-run view: from voting machine to weighing machine
Warren Buffett popularized a framework (which traces back to Benjamin Graham and David Dodd) that the market can be considered a “voting machine” in the short run and a “weighing machine” in the long run. While short‑term swings often reflect shifts in sentiment, long‑term returns ultimately follow intrinsic value, driven primarily by earnings.
At Mercer Advisors, our investment philosophy aligns with the weighing‑machine perspective. We do not believe in chasing short-term sentiment-driven swings, rather, we focus on long‑term intrinsic value through low‑cost, broadly diversified portfolios that systematically incorporate proven factors such as value and quality — both associated with durable long‑term outperformance. (See this commentary on factor investing for more information.)
Main takeaways
- U.S. corporate fundamentals were strong heading into the current turmoil, and continued earnings growth in 2026 could help elevated valuations normalize even amid geopolitical risks and higher energy prices. Fundamentals provide an important cushion against near-term volatility.
- International equities remain meaningfully cheaper than U.S. stocks, offering a valuation advantage despite recent outperformance.
- Long‑term investing success is supported by low‑cost, diversified portfolios that systematically incorporate factors grounded in fundamentals such as earnings, valuations, and balance‑sheet quality.
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