A week on from the US midterms, markets are still trying to digest a Democratic sweep that very few saw coming on this scale, as well as a market rout over data centre rollout concerns, and an equally quick return of the dip-buyers.

As investors try to work out where we go from here, a useful starting point may be the economic reality that drove the outcome of the election, underscored this week when US inflation came in hotter than expected at 0.4% on the month.

High inflation works in your favour if you own stocks and property bought with borrowed money. Nearly two-thirds of the US population doesn’t, and lives paycheque to paycheque. And without strong wage growth, it’s hard to keep up. But it’s not hard to see why voters may have grown tired of an administration that refused to acknowledge that affordability is even an issue.

Figure 1: While the top 1% hold over half their wealth in equities, the bottom 90% are heavily tied to real estate

US household assets by wealth percentile group (Q2 2026, % of total)

Source:  Federal Reserve Distributional Financial Accounts, as of  30 June 2026. 

Problems loading this infographic? - Please click here

The data and a Fed dilemma

Beneath the surface, the accumulated pressure of inflation and a frozen residential property market is steadily squeezing the US consumer.

Just crunching some basic numbers shows that if you bought a US$400,000 home during the pandemic with a 3% mortgage, your monthly payment is US$1,349 in principal and interest alone. On top of that, sit property taxes, homeowner association fees, maintenance, and home insurance premiums that have grown more than 50% over the past five years.

If a household can no longer afford that total monthly bill, today’s higher interest rates block the normal escape route of downsizing. Just to keep that same US$1,349 monthly payment at current mortgage rates, you would have to sell your US$400,000 home and buy one for US$247,000 or less. A homeowner would need to trade down by 38.25% simply to break even on their monthly mortgage outlay and go lower still to save a single dollar. Few homeowners would willingly sign up for that deal. Instead, people are staying put, even if finances are stretched.  

Sooner or later, we think that this financial strain will show up in weaker consumer spending and softer employment data. Why have we not seen this in the official numbers yet? Because official data is aggregated and half of all US consumer spending comes from the top 10% of earners. And since consumer spending makes up two-thirds of GDP, the wealthiest households are propping up headline growth and diluting the economic pain felt by the other 50%. The election outcome seems to be a unique window into this reality.

For the Federal Reserve (Fed), persistent inflation paired with last Friday’s strong jobs report and resilient GDP growth would normally make a textbook case to raise interest rates further.  And normally the only reason to hold back would be visible stress in the jobs market, but neither the official data nor the current administration suggests that is happening.

That leaves the Fed at risk of tightening into an economy where higher rates would put more pressure on stretched households and also create an extra headache for the US Treasury where Scott Bessent is managing a debt load that has more than doubled in the last decade alongside rising interest expenses. All of this is made more uncomfortable by the war in Iran and the spike in energy costs it has catalysed.

For bond markets, it points toward a flatter yield curve driven by short-term rates moving up as the Fed hikes.

Hedge fund degrossing and the new maths for AI

The combination of sticky rates and political pushback against data centres is also changing the calculus for the AI trade, which saw hedge funds slash leveraged tech exposure at a near-record pace last week.

For two years, investors have rotated between market styles and sectors to ride the wave of exponential return promises from AI. As valuations have risen and investors look at capital expenditure and debt-service costs in a new way, we are seeing significant mid-cycle issues.

With a divided federal government headed for gridlock, AI and data-centre regulation will be written at the state level ahead of the 2028 presidential election. Pennsylvania Governor Josh Shapiro’s community-first framework is already being embraced by the incoming Democratic governor in Texas, just as we predicted last week, and we expect it to become the national model for the party.

For investors, we think this is both good and bad. Clear rules give companies a predictable path to plan for, yet they also mean projects take a little longer to execute and cost a little more to build. Debt costs will likely be a bit higher and equity will likely be worth a bit less.

If construction delays and higher borrowing costs lead to more underperformance and defaults, that could reshuffle leadership in the narrow, top-heavy rally of the past two years. Until now, the wide gap between winners and losers showed up mainly in individual share prices. Now that dispersion is hitting hedge fund performance directly. When crowded positions unwind at once, you can easily get the fundamental call right and still lose money.

Washington’s tug-of-war and where markets go from here

Can the new Democratic Congress fix the affordability problem they were elected on? In our view, they need to pull three levers at once: a cohesive plan on healthcare, energy and data-centre costs; a foreign policy push to re-engage allies like NATO while pushing disengagement from the Iran war; and constitutional oversight.

We’re also realistic enough to know that none of these will quickly relieve the pressure on households and potentially markets. Even if the US gets out of Iran, energy prices are unlikely to come down as rapidly as many may hope. The war appears to have permanently shifted Middle East dynamics and cost structures. Also, AI power demand is not falling anytime soon.< /p>

Meanwhile, the issue of oversight is setting up a battle between Democrats and a White House wielding veto power supported by the Justice Department. This was highlighted on Sunday when Attorney General Todd Blanche suggested on CNN that lawmakers could themselves be investigated for signalling oversight. Democrats will also need to be careful not to let investigations crowd out a broader economic plan.

For portfolios, we see all this pointing to weaker and more volatile equity and credit markets, sticky energy prices, and a flatter yield curve driven by higher front-end rates.

Even so, our call from last week that the US should benefit on a relative basis still holds.
The political battles in Washington are likely to cause headaches, but the economic and fiscal challenges are global. We believe that forcing checks, balances, and accountability back into the system should still favour the US relative to the rest of the world, at least in the near term.

All data Bloomberg, unless otherwise stated.

Author: Matt Rowe, Managing Director and Senior Portfolio Manager, Solutions at Man Group.