Fiscal-driven optimism has faded

Germany unveiled an ambitious fiscal package last year. It included a special €500 billion infrastructure and climate fund to be deployed over 12 years, alongside changes to the debt brake that effectively removed constraints on defense spending. Defense spending planned for 2025–30 totals €650 billion, roughly double the level of the prior five years. If fully implemented, federal debt could rise by €850 billion by 2029, or about 19% of 2025 GDP. That would exceed the €613 billion increase recorded over 2020–24, a period that included the COVID-19 pandemic.

In many advanced economies, a package of this scale would raise concerns about debt sustainability. In Germany, the response was more constructive, in part because the country starts from a stronger fiscal position. Gross debt-to-GDP stood at ‘only’ 63%, compared with many advanced economies where the ratio is closer to, or above, 100%.

Years of conservative fiscal policy have led to significant underinvestment in key strategic sectors – including digitalisation – a diminished competitive advantage in manufacturing and eroded infrastructure (Figure 2). Substantial bureaucratic and regulatory burdens, together with elevated energy prices following the Ukraine conflict, added further headwinds. At the same time, China shifted from a consumer of German exports to a direct manufacturing competitor. The automotive industry is particularly exposed to this structural shift, as German manufacturers were slow to adapt to rising electric vehicle (EV) demand, while sectors such as chemicals and machinery also lost ground.

As a result, growth in the euro area’s largest economy stagnated (GDP growth averaged 0.1% over the last four years), while industrial production contracted by 4.4% in 2024 and a further 1.1% in 2025. The hope was that aggressive public spending would revive growth, modernise infrastructure, and restore Germany’s leadership in manufacturing and innovation.

That initial optimism faded in the second half of 2025, and German equities underperformed global peers. Although German and euro area activity showed tentative signs of improvement – including composite PMIs moving back into expansionary territory – there was limited evidence that fiscal announcements had yet lifted industrial activity. Investor attention instead shifted to the euro area’s weaker growth outlook and limited exposure to AI-driven enthusiasm relative to the United States, as well as ongoing labour market softness, including job cuts in key sectors such as automotive and chemicals.

Data also revealed central government investment spending, including infrastructure, rose slower than initially planned in 2025, rising by only 0.2% of GDP. Just 65% of the Infrastructure and Climate Fund allocated for 2025 was actually disbursed. Some delay between policy announcement and project execution was always likely. But Chancellor Friedrich Merz’s coalition, despite holding a workable majority, also faces internal tension over the balance between social spending and investment, particularly ahead of state elections in 2026. German GDP growth expectations have subsequently fell, from 1.3% to 0.9% for 2026.

Recent events in the Middle East have increased near-term risks to the outlook. Europe, along with many Asian countries, is particularly vulnerable as events unfold, as a meaningful share of their energy consumption depends on imported oil and liquefied natural gas (LNG). A prolonged conflict and persistently high energy prices expose European countries to an upwards inflationary and downwards growth shock, increasing pressure on Chancellor Merz to redirect federal spending towards cost-of-living initiatives. ¹ Beyond the direct impact on consumer wallets, higher energy prices intensify balance sheet pressures on key manufacturing industries, complicating any recovery in activity.

The EU is nonetheless better positioned than it was at the onset of the Russia-Ukraine conflict in 2022 (Figure 3). The energy import base is more diversified: Russia accounted for more than 25% of EU petroleum oil and natural gas imports in fourth quarter 2021, compared with roughly 10% from Persian Gulf countries in 2025. As a result, the current shock is more likely to affect Europe through higher global energy prices than through a direct disruption to physical supply. The region also enters this period with inflation closer to target, which should help cushion some of the economic fallout as the conflict unfolds.

Despite recent developments, we see reasons to be constructive over the medium term

We expect sentiment to improve over the medium term as fiscal stimulus begins to feed through more clearly. Recent data suggest that process is already under way: total federal spending in January and February was approximately 19% higher than in the same period of 2025. This increased spending is beginning to show up in economic activity. Although monthly figures are volatile, the increase in defense spending was particularly visible in December (in part due to the passage of the 2025 budget), contributing to a material upside surprise in new industrial orders – a 7.8% increase compared to consensus expectations of -2.2%. A sustained rebound in sentiment, however, likely requires a reduction in uncertainty around the economic effects of the Iran War.

The conflict, which adds to a year of rising geopolitical tensions, should also strengthen resolve to follow through on spending plans. A marked change in the United States’ relationship with other NATO member states – including reduced coordination between the United States and NATO allies on Venezuela and Iran, as well as the United States’ attempts to annex Greenland, which is a territory of Denmark – has heightened public and political calls for increased defense spending across NATO countries. Combined with the growing share of military procurement by European countries sourced from intra-European suppliers, this should benefit German defense manufacturers on a relative basis. Crises in recent years (e.g., the COVID-19 pandemic and the onset of the Russia-Ukraine war) have also been met with renewed coordination across the EU and within its member states on infrastructure investment and energy self-sufficiency. While calls to redirect infrastructure investment towards cost-of-living initiatives have grown louder, Germany’s fiscal headroom should help protect investment spending relative to other European countries.

That fiscal spending should add momentum to a euro area economy that, prior to the onset of the war, had stabilised and shown early signs of recovery following years of restrictive monetary policy and above-target inflation. The front-loading of planned German federal spending in 2026 and 2027 should support that momentum shift. According to the IMF Fiscal Monitor, the German fiscal thrust is estimated at 1% of GDP for 2026 and 0.95% for 2027 – a significant departure from nearly two decades of fiscal drag. Goldman Sachs estimates that around half of 2026 growth will be driven by fiscal stimulus, underscoring the importance of government spending in the turnaround (the economy grew 0.2% in 2025, while consensus expectations prior to the Iran War were for 1.0% growth in 2026).

A common critique of defense and infrastructure spending is that it generates a smaller long-term growth dividend compared to technology or education. But with Germany operating below potential output after years of sluggish growth, underinvestment, and labour market weakness, every euro of public spending acts as a catalyst for dormant private capital. As the government de-risks large-scale projects, we expect a ‘crowding-in’ effect, where private firms invest alongside the state. Planned reforms – including the euro area–wide ‘Draghi report’ aimed at reducing red tape, regulatory harmonisation, and capital markets integration (via the Savings and Investment Union) – should further incentivise this public-private capex recovery.

A complication for the broader euro area outlook is that other EU nations are experiencing fiscal drag. Even so, strong growth in peripheral countries such as Spain – now increasingly important buyers of German exports – should complement Germany’s fiscal impulse. Recent industrial orders data also suggest a tentative demand pickup from euro area countries alongside stronger domestic demand (Figure 4).

While large orders consistent with increased government military investment – particularly machinery, equipment, and defense goods – led the recent strong manufacturing prints, growth in new orders was also broad based. This provides encouragement for a wider economic recovery. Upside surprises in euro area economic data and German ZEW survey results to start the year suggest that growth expectations may have been turning more positive prior to the onset of the Iran War. The dissipation of US tariff-related disruption should also reduce headwinds for the region’s recovery, while the tariffs themselves have incentivised European countries to strengthen trade partnerships elsewhere, providing growth opportunities.

A more structural challenge is China’s shift from a consumer of German exports to a manufacturing competitor. We expect this trend to persist. Nevertheless, German infrastructure investment will largely focus on modernising existing infrastructure, particularly in transport. Renewed EU-wide efforts to protect businesses from increased Chinese competition and oversupply should provide relative upside potential for German business prospects if the fiscal package is fulfilled. Small- and medium-sized firms with less global presence may be better insulated from these pressures, as well as from any euro appreciation that accompanies stronger German and euro area growth.

Market impact and investment takeaways

Dampened expectations in the euro area’s largest economy create the potential for positive surprises and act as a tailwind for a recovering German and euro area growth outlooks. The flow of fiscal spending through the economy is another tailwind for sentiment. These factors support our tactical preference for global equities excluding the United States, relative to US equities. Despite strong 2025 performance, Europe ex UK equities still trade near historically discounted valuations relative to US equities (Figure 5). Potential pension reforms, recently passed in parliament and commencing from January 2027, could provide additional capital injection into European equity and infrastructure investment in the medium term. ²

Developments in the Middle East are a clear risk to this outlook in the near term. However, if the Strait of Hormuz opens and Europe’s relative growth and inflation outlooks do not show further material deterioration, the trade will become even more compelling. While the situation remains fluid and uncertainty heightened, a sustained closure of the Strait of Hormuz would become increasingly economically and politically costly for all parties, intensifying pressures to restore the passage of ships in coming weeks. In that scenario, any equity market rebound is likely to be strongest in regions where valuations have been hit hardest, pointing to potential outperformance by global equities outside the United States versus US equities.

Heightened geopolitical tensions should also continue to support our view that the US dollar will remain in a downtrend over a multi-year horizon. Despite recent outperformance since the onset of the Iran War, due in part to the US status as a net oil exporter, the US dollar is down notably from its January 2025 level. US-centric geopolitical volatility adds to domestic economic policy uncertainty, overvalued assets, and concerns about fiscal sustainability, all of which dampen the attractiveness of US assets relative to elsewhere and, therefore, lower demand for the US dollar. This is an important aspect of our preference for global equities excluding the United States, relative to US equities.

Drew Boyer also contributed to this publication.

Footnotes

1. OECD forecasts for the 2026 German economic outlook show an inflation forecast change of +0.8 percentage points (to 2.9%) and GDP growth forecast change of -0.2 percentage points (to 0.8%).
2. Under the plan, private pensions will become increasingly important to supplement state pensions in retirement and allow improved flexibility to investors to allocate funds to higher yielding assets. An investor could theoretically allocate 100% of their funds to equities, for example.

The post Germany’s Fiscal Boost Remains a Tailwind Despite Near-Term Risks appeared first on Cambridge Associates.

Their conversation explores Europe’s “electrotech revolution,” highlighting both the region’s competitive strengths and one of its central challenges: persistently high electricity prices. They examine the drivers behind elevated power costs and discuss several of the investment themes raised during the event, including system efficiency, small modular technologies, and the resilience and independence of energy systems.

The discussion also turns to energy policy, where Antonella notes that the panel saw Europe as having made meaningful progress in establishing a strategic framework for electrification. Electrification was identified as a critical pathway for decarbonisation, energy security, and industrial competitiveness. At the same time, they consider potential solutions to high electricity prices, including shifting more of the tax burden away from electricity and onto gas.

Looking ahead, Simon and Antonella point to significant untapped potential across Europe’s existing grid infrastructure, as well as emerging innovations such as software modularity, which could lower costs, reduce risk, and improve the speed of deployment for technologies including electric vehicles and EV charging systems. While Europe continues to rely heavily on imports for solar panels and batteries, it retains important advantages in other parts of the electrification value chain, particularly grid infrastructure and consumer energy technologies such as heat pumps. They also note the longer-term potential of battery recycling to strengthen Europe’s internal energy ecosystem over time.

Watch the video below to hear Simon and Antonella’s insights on Europe’s energy transition and the investment implications of electrification.

Sustainable and impact investing at Cambridge Associates focuses on helping clients invest in ways that support positive social and environmental outcomes alongside financial returns. Sustainable Investing in Focus is designed to make these topics accessible to everyone by explaining key concepts in a clear and simple way. By sharing practical examples and expert insights, the series helps viewers understand how sustainable investing works, why it matters and how it’s changing.

Footnotes

1. OECD forecasts for the 2026 German economic outlook show an inflation forecast change of +0.8 percentage points (to 2.9%) and GDP growth forecast change of -0.2 percentage points (to 0.8%).
2. Under the plan, private pensions will become increasingly important to supplement state pensions in retirement and allow improved flexibility to investors to allocate funds to higher yielding assets. An investor could theoretically allocate 100% of their funds to equities, for example.

The post Sustainable Investing in Focus: Green Horizons or Gridlocked appeared first on Cambridge Associates.

As discussed in our 2026 Outlook, we expected the US dollar to stage a rebound at some point this year due to oversold conditions and its historical tendency to strengthen during risk-off episodes. While conflict with Iran was not the catalyst we anticipated, the recent move is consistent with that view. Even after appreciating roughly 4% since the conflict began, the dollar’s rally still appears modest rather than overextended. If hostilities intensify further and oil prices continue to rise, the near-term bias for the US dollar may remain to the upside, particularly given the United States’ position as a net oil exporter and the dollar’s longstanding role as a defensive asset during periods of market stress.

That said, we do not view the current oil shock as the start of a lasting regime shift for currencies. Higher oil prices should weigh on the currencies of net oil-importing economies through a negative terms-of-trade shock, but our base case is that this pressure proves temporary rather than permanent. Even if the conflict persists, a sustained closure of the Strait of Hormuz appears unlikely, as the economic costs would rise quickly for all parties and intensify pressure to restore safe passage. Recent US messaging, including President Donald Trump’s acknowledgment on Monday that peace talks with Iran are underway, reinforces our view that the United States does not want a prolonged conflict. In our assessment, that reluctance reflects not only geopolitical and economic considerations, but also the domestic political costs associated with higher oil prices and a prolonged foreign conflict ahead of the November US congressional elections.

If the conflict were to broaden into a more prolonged energy crisis, the dollar could also become a victim of its own success. A sufficiently large oil shock would eventually undermine global growth, weaken aggregate demand, and help bring energy prices back down, particularly if even modest additional supply also comes online. A much stronger dollar in a recessionary backdrop would likewise tighten financial conditions and increase pressure on the Federal Reserve to cut rates more aggressively or reintroduce balance-sheet support. History suggests that once the Fed shifts decisively toward easing in response to growth stress, earlier USD strength can give way to renewed weakness, as seen in 2001, 2008, and, to a lesser extent, 2020.

Stepping back, the more lasting consequence of the current crisis may be a further strengthening of policy priorities in many countries around energy security, grid resilience, renewables, nuclear power, and defense spending. These investment needs were already becoming more apparent and have been reinforced by electrification trends and the global artificial intelligence (AI) data center buildout, both of which are increasing demand for generation, transmission, and power equipment. While the United States has been the main beneficiary of AI- and semiconductor-related capital spending to date, a broader capex cycle centered on grids, power systems, energy security, and defense is likely to be more geographically dispersed and could provide greater support to non-US markets, which generally have deeper exposure to industrials, utilities, and related cyclicals. The conflict may also reinforce concerns among some non-US investors about the prudence of maintaining large exposures to US assets, potentially reducing the marginal flow of foreign capital into US markets relative to recent years.

Taken together, these dynamics reinforce our broader view that the US dollar remains vulnerable over the next few years, even if it strengthens further in the near term. The dollar remains overvalued in our view and continues to be supported by concentrated flows into US equities, particularly large-cap technology stocks. If market leadership broadens from US tech toward cyclicals and non-US equities, downside risks to the dollar could become more pronounced. Rather than chasing short-term USD strength, we think investors are better served by focusing on diversification and using periods of dollar appreciation as opportunities to initiate or add to USD underweights across portfolios.

Footnotes

1. OECD forecasts for the 2026 German economic outlook show an inflation forecast change of +0.8 percentage points (to 2.9%) and GDP growth forecast change of -0.2 percentage points (to 0.8%).
2. Under the plan, private pensions will become increasingly important to supplement state pensions in retirement and allow improved flexibility to investors to allocate funds to higher yielding assets. An investor could theoretically allocate 100% of their funds to equities, for example.

The post Does the Iran War Change Our View on the US Dollar? appeared first on Cambridge Associates.

The coordinated attacks on Iran by the United States and Israel, which began on Saturday, February 28, have jolted markets, with the clearest effects showing up first in energy. Tanker traffic through the Strait of Hormuz, a critical passage for about 20% of global oil and liquefied natural gas (LNG) supply, has dropped sharply. At the same time, production across the region, including in Iran, Kuwait, Iraq, Saudi Arabia, the United Arab Emirates, and Qatar, has also been disrupted. Because oil demand is relatively insensitive to price in the short run, even modest supply losses can push crude prices meaningfully higher. That dynamic helped drive front-month ICE Brent futures up 46% from when the conflict began to $106 per barrel in trading today, prompting G7 countries to consider releasing petroleum from their strategic reserves and renewing concerns about inflation.

Many economists estimate that a $10 per barrel increase in oil prices would add roughly 15 to 30 basis points to US headline inflation. On that basis, a sustained 50% rise in oil prices could add about 0.5 to 1.0 percentage point (ppt) over the following year. The incremental inflation pass-through from further oil price increases may also diminish at higher price levels and over time as demand weakens. The impact on core inflation, which excludes food and energy prices and matters more for monetary policy and asset prices, would likely be much smaller. This is because energy is often only a modest input into the cost of goods and services relative to labor and other expenses, and firms may absorb part of the increase in margins rather than pass it through fully to consumers. The broader impact is also likely to be more limited than in the 1970s, when economies were far more energy intensive. In fact, in many advanced economies, energy use per unit of output has fallen by more than half since then as efficiency has improved.

Still, the inflationary impact will not be uniform across countries and regions. Economies that are net importers of oil, LNG, and other affected goods such as fertilizer are more exposed. In Europe, for example, prices for a key natural gas benchmark rose 67% last week, compared with an 11% increase in the United States, even though supplies from the Middle East account for only about 5% of the EU’s combined LNG and pipeline gas imports. Similar dynamics have played out in parts of Asia. For many non-US energy importers, the challenge could be compounded by the tendency of the dollar to strengthen during periods of market stress, which raises the local currency cost of dollar-priced commodities such as oil and LNG. Taken together, the hit to headline inflation in some non-US economies could be meaningfully larger, perhaps twice that of the United States. But, as in the United States, the effect on core inflation would likely be more limited for the same reasons.

Of course, the impact of the conflict on inflation will depend largely on its duration and scope. President Trump has sent mixed signals on how long it could last, at times suggesting it may end within weeks and at others that it will continue as long as necessary, likely as part of a pressure campaign aimed at securing a deal. Even so, he appears to prefer a short conflict. He has long criticized the protracted wars in Iraq and Afghanistan, and a prolonged campaign would raise the risk of greater US casualties, backlash from some Middle East allies, and higher inflation, all of which could weigh on political support at home ahead of the November congressional elections. That helps explain the administration’s move to support the war risk insurance market, which could limit further disruption to shipping flows if the conflict remains contained. Longer-dated oil & gas prices in both the United States and Europe likewise suggest investors expect the conflict to subside rather than become prolonged.

Even if the conflict were to last longer than most expect, the inflation backdrop would still differ markedly from the one that produced the pandemic-era surge. That episode reflected an extraordinary combination of fiscal and monetary stimulus and severe supply constraints, especially labor shortages. In the United States, annual inflation rose by 8.8 ppts, from 0.2% in May 2020 to 9.0% in June 2022, an increase comparable in scale to the major inflation episodes that peaked in 1974 and 1980. By contrast, today’s inflation risk is more concentrated, with higher energy prices rather than a broad-based demand and supply shock serving as the main transmission channel.

The conflict is likely to reinforce this year’s existing rotation within equity markets. Energy and industrial equities could benefit further as investors place a higher premium on sectors tied to commodity supply, defense, and industrial capacity, while the risk of firmer inflation may limit central banks’ willingness to cut rates, creating a less supportive backdrop for rate-sensitive growth sectors such as technology. We expect this dynamic to continue supporting our July 2025 recommendation to tactically overweight Latin American equities within emerging market portfolios, given the region’s significant valuation discount and more moderate, though still present, exposure to geopolitical risk. Across geographies, US equities may continue to benefit in the near term from safe-haven demand. Over time, however, the broader aftermath of the conflict could support greater marginal flows to ex US assets, consistent with the trend evident earlier this year, as some investors reconsider the risks of concentrated exposure to US assets and the dollar amid greater policy uncertainty and elevated valuations.

More broadly, periods of heightened geopolitical risk are a reminder of the value of diversification and discipline. As we noted in our 2026 Outlook, investors that have allowed their equity allocations to drift higher over the last decade or two should evaluate increasing their policy exposure to diversifying strategies such as hedge funds, given the broader shift in the risk-reward profile across asset classes. While markets often recover quickly from geopolitical shocks, the case for diversifying strategies is particularly compelling today relative to broad equities, which remain expensive, unusually concentrated in a small number of names, and less geographically diversified than is typical. Put differently, today’s environment calls for portfolios built to withstand a wide range of outcomes.

Footnotes

1. OECD forecasts for the 2026 German economic outlook show an inflation forecast change of +0.8 percentage points (to 2.9%) and GDP growth forecast change of -0.2 percentage points (to 0.8%).
2. Under the plan, private pensions will become increasingly important to supplement state pensions in retirement and allow improved flexibility to investors to allocate funds to higher yielding assets. An investor could theoretically allocate 100% of their funds to equities, for example.

The post Will the Iran Conflict Trigger a Pandemic-Style Inflation Spike? appeared first on Cambridge Associates.

Tight credit spreads are attracting issuers but offer little protection to investors if AI optimism fades or geopolitical risks, such as recent events in Iran, trigger a “risk-off” environment. US high-yield bond spreads of 289 basis points (bps) sit in the bottom decile of observed values. Similarly, although US investment-grade corporate spreads have risen slightly since reaching post-GFC lows in January, they remain in the lowest quartile on record. Spreads in adjacent markets also reflect stretched valuations: for example, commercial mortgage-backed security (CMBS) spreads have dramatically tightened over the last two years despite rising delinquencies.

Accelerating AI-driven capex could boost supply and put pressure on spreads. According to Morgan Stanley, gross US investment-grade supply will rise approximately 25% to a record $2.25 trillion in 2026, driven in part by hyperscaler and related infrastructure issuance rising to $400 billion—roughly 10x what they raised in 2024. Structured credit markets will also see surging supply, with data center securitizations expected to rise nearly 50% to more than $30 billion. Issuance is already well underway; Alphabet and Oracle together issued nearly $60 billion of new debt in February alone.

The financing of this AI-driven buildout will span the capital structure. Senior unsecured bonds will be the primary vehicle for large, investment-grade issuers. However, asset-backed securities (ABS) and project finance debt are increasingly being used, especially for data centers. The ABS market is seeing innovation as data center cash flows are securitized to tap new pools of capital. As financing structures evolve, investors need to ensure they have a clear picture of leverage and risk. In some data center deals, for example, tenants effectively backstop the project, yet the transaction nonetheless sits off balance sheet, obscuring its risk profile.

The potential mismatch between the useful life of AI-related assets and the maturity of the debt used to finance them also warrants close attention. While demand for data center computing resources is currently robust—for example, waitlists for AI chips and capacity are common—future data center demand is uncertain. If AI models become more efficient or if a technological leap reduces the need for processing power, chips and the buildings that house them could become obsolete before their debt is repaid. This would threaten a variety of different debt instruments, including asset-backed deals that finance chip purchases, securitizations backed by data center revenue, and unsecured debt. The fiber optic buildout of the early 2000s offers a cautionary parallel: overbuilding led to years of excess capacity and financial distress for some issuers, though the long-term utility of fiber ultimately proved out.

Strong fundamentals help offset some of these risks. Many hyperscalers have high (AA or AAA) credit ratings, reflecting low leverage, strong free cash flow, and ample liquidity, making them well-positioned to absorb additional debt. However, not all players in the AI ecosystem generate such healthy operating cash flows, and even those that do will see capex demanding a growing share of this over the next several years. Utilities and REITs that own and operate data centers are taking on significant leverage to fund expansion but often start with different fundamentals. Utilities, for example, often carry BBB ratings, and some data center operators have “junk ratings,” a sticking point in recent financing deals.

Historically low credit spreads, in our view, do not sufficiently compensate investors for current risks, which include obsolescence and rising structural complexity. Given these challenges, credit exposure should remain within policy targets, and higher-quality structured credit, such as agency-backed mortgage securities, should be considered as a substitute for corporate bonds that offer only marginally higher yields but greater vulnerability to cyclical and technological risks. Investors in AI-related credits should focus on high-quality issuers with strong balance sheets and stable revenue streams. Complexity should be accepted only when compensated by a meaningful premium.

Footnotes

1. OECD forecasts for the 2026 German economic outlook show an inflation forecast change of +0.8 percentage points (to 2.9%) and GDP growth forecast change of -0.2 percentage points (to 0.8%).
2. Under the plan, private pensions will become increasingly important to supplement state pensions in retirement and allow improved flexibility to investors to allocate funds to higher yielding assets. An investor could theoretically allocate 100% of their funds to equities, for example.

The post Should Credit Investors Be Concerned About Rising AI-Related Debt Issuance? appeared first on Cambridge Associates.

Not long after the Federal Reserve began increasing interest rates in March 2022, ChatGPT was publicly launched and became the fastest-growing consumer application in history. Alongside rising interest rates, beginning in late 2022, software revenue growth rates and valuations quickly receded, creating long-term challenges for general partners who overinvested based on growth and valuation assumptions that turned out to be short-lived. By December 2022, median valuations for publicly traded software companies—which are used in valuing private software companies—had tumbled from a pandemic high of 19.0x revenue to 5.6x revenue.

More recently, median software revenue multiples have further compressed to 3.4x, reflecting investor concern that AI is going to eat software. Advancements in AI and their impact on the thousands of privately held software companies and valuations will not be as universal or immediate as what we have seen recently in the public markets. Some business models are immediately vulnerable, while others may exhibit more resilience due to having well-established moats across a range of attributes, such as solutions leveraging longstanding proprietary data or deeply embedded in customer workflows. AI represents both a risk and an opportunity in the private markets; thoughtful management of existing exposure and careful allocation toward this development could be long-term value drivers for today’s private investment portfolios.

Most private investment portfolios have long had material exposure to technology, and not just through their venture capital allocations. Technology, and really enterprise software, has held the top spot in private equity for more than ten years with a commanding lead. From a private markets perspective, current investment outcomes for this sector may ultimately sort themselves into two cohorts: pre-mid-2022 investments and post-mid-2022 investments. The first cohort is arguably most at risk, deployed at entry values, growth rates, and leverage assumptions reflecting a bygone era; it is not surprising that returns have come down and distributions have slowed for these vintages overall. While the second cohort was deployed in an environment that had begun to reset, it still must grapple with the implications of AI for its business models and investment success.

Managers and management teams have been assessing AI’s risk to business models while also integrating AI as a means to enhance, expand, or protect those models. At present, private equity managers are busy communicating with investors about their firms’ AI capabilities and portfolio company initiatives because sustained operating performance proof is yet to come. It will take varying amounts of time for these ongoing efforts to show up in the financials, which will ultimately determine investment value. In the meantime, we expect to see a slowdown in overall enterprise software transaction activity as managers and companies re-tool for this paradigm shift, alongside an increase in investment activity involving AI-native companies, either as platforms or as add-ons.

The paradigm shift isn’t down, it’s forward. AI will further expand the technology sector and will drive more investment; it already has, having largely taken over venture capital activity. Appreciating that it is a tumultuous period for enterprise software, technology as a whole is not going to stop being a dominant sector for investment. In fact, it’s likely to continue to expand. Limited partners are actively monitoring existing software investment developments in their portfolios for indications of progress or regress, which in turn will inform portfolio management decisions and also forward investment. In addition, as managers adjust to current developments, forward investing activity should reflect and express their views on how to earn their target return in this new paradigm. As performance unfolds, there will be a separation between those who find their way successfully through this market and those who do not; investor capital will move accordingly.

Footnotes

1. OECD forecasts for the 2026 German economic outlook show an inflation forecast change of +0.8 percentage points (to 2.9%) and GDP growth forecast change of -0.2 percentage points (to 0.8%).
2. Under the plan, private pensions will become increasingly important to supplement state pensions in retirement and allow improved flexibility to investors to allocate funds to higher yielding assets. An investor could theoretically allocate 100% of their funds to equities, for example.

The post Has Private Equity Hit Peak Software? appeared first on Cambridge Associates.

Their conversation explores how established business models are being repurposed to address sustainability challenges. David and Liqian highlight the growing trend of applying Software-as-a-Service (SaaS) frameworks to sustainability, enabling scalable solutions for environmental and social issues. The discussion delves into the transformative role of biotechnology in agri-food technology, emphasizing innovations that are reshaping food production to be more resilient in the face of climate change. The episode also addresses the broader societal implications of these shifts, particularly the intersection of climate risks with persistent issues such as inequality and how economic resilience depends on tackling these interconnected challenges.

They discuss practical solutions, including workforce development programs, affordable housing initiatives, and efforts to promote health equity. These strategies are presented as essential for building communities that can adapt to and withstand the risks posed by climate change. The conversation highlights the importance of integrating sustainability into core business and investment strategies, not only to mitigate risks but also to unlock new opportunities for growth and positive impact. Watch the second episode in our video series below.

Sustainable and impact investing at Cambridge Associates focuses on helping clients invest in ways that support positive social and environmental outcomes alongside financial returns. Sustainable Investing in Focus is designed to make these topics accessible to everyone by explaining key concepts in a clear and simple way. By sharing practical examples and expert insights, the series helps viewers understand how sustainable investing works, why it matters and how it’s changing.

Footnotes

1. OECD forecasts for the 2026 German economic outlook show an inflation forecast change of +0.8 percentage points (to 2.9%) and GDP growth forecast change of -0.2 percentage points (to 0.8%).
2. Under the plan, private pensions will become increasingly important to supplement state pensions in retirement and allow improved flexibility to investors to allocate funds to higher yielding assets. An investor could theoretically allocate 100% of their funds to equities, for example.

The post Sustainable Investing in Focus: Innovating for Resilience appeared first on Cambridge Associates.

The US residential real estate sector remains a weak spot in an otherwise resilient economy, with residential investment contracting at a 4.4% annualized rate through the first three quarters of 2025. Affordability has worsened due to high home prices, elevated mortgage rates, and tight credit, all of which have dampened activity. Recent Federal Reserve easing has helped stabilize the market, lowering the 30-year mortgage rate by about 170 basis points since late 2023. However, a sustained recovery is likely to require a sharper decline in rates or a significant increase in supply, both of which are unlikely. Supply-side reforms are difficult to implement, and a substantial drop in rates does not appear likely, given the current macro environment. Mortgage rates are closely tied to long-term Treasury yields, which have limited room to fall unless the Fed eases more than expected or growth expectations weaken. Additionally, the spread between mortgage rates and Treasury yields has moved back near their historical average, leaving little room for further compression.

In response, the Trump administration has proposed measures with the goal of improving housing affordability, such as restricting institutional ownership of single-family homes and directing Fannie Mae and Freddie Mac to acquire $200 billion in mortgages. Several other potential ideas were floated as well. However, these policy interventions are unlikely to overcome the sector’s headwinds in the near term. For example, a ban on institutional investors would face legal challenges and have little immediate effect on supply, as they own less than 1% of single-family homes. The planned $200 billion in mortgage purchases may exert some downward pressure on rates, but the scale is modest compared to the Fed’s $2.3 trillion in mortgage-backed securities (MBS) purchases across the three previous quantitative easing programs. With the Fed still unwinding its MBS holdings and mortgage spreads near their historical average, these factors may further limit the impact of government-sponsored enterprise (GSE) purchases.

For investors, the proposed policies are unlikely to materially change the outlook for most asset classes tied to US residential real estate. Homebuilder and home improvement stocks, after trailing the broader market by more than 18% in 2025, have recently rebounded, with the S&P Homebuilders Select Industry Index up 15.8% year-to-date versus -0.1% for the S&P 500 Index. Still, the outlook remains challenged. These stocks are highly sensitive to mortgage rates, and with affordability still stretched, sales volumes are flat, and price appreciation is fading. Revenue growth is under pressure, with 12-month forward earnings per share for homebuilders at -1.6% versus 15.1% for the S&P 500. Elevated input costs, driven by tariffs and labor shortages, have further compressed margins. Despite these headwinds, valuations are not particularly cheap, suggesting limited scope for sustained outperformance.

Within credit, residential agency MBS remain among the most attractive segments in the investment-grade universe. In 2025, agency MBS returned 8.6% versus 7.3% for the Bloomberg Aggregate Index, benefiting from tightening spreads and lower volatility. While upside is now more limited, newly issued agency MBS still offer both competitive yields and superior risk-adjusted returns compared to corporates, given their higher credit quality. Although the ultimate impact of new policies remains uncertain, the administration’s affordability push and planned GSE mortgage purchases may provide a modest backstop for spreads and help reduce downside risk. With corporate bond spreads historically tight, agency MBS stand out as a high-quality alternative should credit spreads widen.

Among other segments, REITs and private funds focused on single-family rentals face the most direct policy risk, but most have already shifted to build-to-rent strategies, reducing their exposure to restrictions on institutional buying. The affordable and apartment sectors are two areas we continue to favor, given limited policy risk and supportive structural tailwinds, including persistent demand for affordable housing and the elevated cost of owning versus renting.

In sum, we do not expect the Trump administration’s affordability push to meaningfully improve conditions in the US residential real estate market. Given this view, we believe the best tactical opportunity is in current-coupon agency MBS, while private residential real estate segments like affordable and apartment properties will continue to benefit from strong structural supports.

Footnotes

1. OECD forecasts for the 2026 German economic outlook show an inflation forecast change of +0.8 percentage points (to 2.9%) and GDP growth forecast change of -0.2 percentage points (to 0.8%).
2. Under the plan, private pensions will become increasingly important to supplement state pensions in retirement and allow improved flexibility to investors to allocate funds to higher yielding assets. An investor could theoretically allocate 100% of their funds to equities, for example.

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