The S&P 500 Index returned 15.20% and the S&P Global Broad Market Index returned 14.93% in the quarter ended June 30, 2026.¹

Recently, we hosted a client webinar where we discussed the current market environment and how our strategy is positioned. Please check it out here: 2026 Client Conference: Why Quality Matters Now.

Because these topics are so important, we want to use the remainder of this letter to walk through the key points we covered in that presentation.

The Market Environment: Why Quality Matters Now

We titled the webinar “Why Quality Matters Now,” and that phrase captures our central message. Our goal in this letter is the same as it was that evening: to help you understand how the strategy is positioned and why we believe patience will be rewarded in the long term. In short, we want to explain why we think the high-quality businesses we own are even more compelling today than they have been historically.

The Market Is Expensive

It helps to begin with the temperature of the broader market. We are not cherry-picking a single unflattering statistic. Charles Schwab — a firm whose business depends on keeping clients invested — recently told its own clients that the market is expensive, with 12 of the 12 valuation metrics it tracks registering as “Expensive” or “Very Expensive” relative to history. That list includes the forward price-to-earnings ratio, the Shiller CAPE, price-to-book, price-to-cash-flow, Tobin’s Q, and market-capitalization-to-GDP. There is no flavor of valuation — earnings-based, book-based, cash-flow-based, or macro-based — left to hide behind.

The Shiller cyclically adjusted price-to-earnings ratio tells the same story. Its long-term median is roughly 17. Today’s reading is more than double that. The ratio has been higher only once in all recorded history, at the peak of the dot-com bubble in 2000. Not 1929, and not 2007. Just 2000. The CAPE is admittedly a poor tool for timing the market, which can remain expensive for years at a time, but it has historically been a reliable guide to returns over the following decade. From levels like today’s, that math has generally implied only low-single-digit annual returns for the S&P 500 over the subsequent ten years.

A Narrower Market Than Ever Before

The market is not only expensive; it is also the narrowest it has ever been. The combined weight of the traditional defensive sectors (consumer staples, health care, and utilities) has fallen below 15% of the S&P 500, a fresh all-time low. An index investor today holds roughly half the defensive ballast of a generation ago. Meanwhile, the ten largest holdings now make up about 41% of the index, and more than half of the entire index is tied to artificial intelligence.

When a friend says they own the S&P 500, what they really own is a concentrated AI bet with everything else sprinkled around it. The index is no longer the diversified proxy for the broad economy it once was; it increasingly behaves like a thematic fund. That is concentration risk, plainly stated. The parallels to 1999 are difficult to ignore. By one measure highlighted by BTIG’s Jonathan Krinsky, the ten best-performing Nasdaq-100 names have risen an average of roughly 784% over the past year — exceeding both the 559% gain into the 1999 peak and the 622% gain across the full dot-com run through March 2000. Similarly, the rapid relative decline in defensive stocks today is almost perfectly mirrored by the decline in 1999, except that it’s even more extreme this time around.

The Earnings “Growth” Is a Mirage

The AI concentration extends to earnings, as well. According to Goldman Sachs data, AI-infrastructure stocks account for more than 100% of the positive revisions experienced by the S&P 500 this year. In fact, excluding AI infrastructure, the S&P 500 has seen its estimates revised down by 1%. In other words, the headline “earnings growth” story is being carried by a handful of names, and we do not believe those earnings are sustainable. To understand why, it helps to look at what we call the capital cycle.

The Capital Cycle: History’s Most Reliable Pattern

The capital cycle describes what tends to happen when a transformative new technology arrives. It begins with a business earning exceptional returns while competitive supply is still limited. Those high returns attract new capital, and investment ramps up — often well past the point of rationality. The resulting excess capacity crushes pricing, returns collapse, and capital begins to flee. Eventually the weakest players exit, supply tightens, returns normalize, and the cycle resets. The crucial point is that there is usually no durable constraint on supply. As long as the technology can be replicated and the gold-rush enthusiasm persists, capital keeps pouring in until it has badly overshot.

History is remarkably consistent here. The telegraph, the railways, electricity, the automobile, radio, fiber optics, and most recently shale all followed the same arc. In nearly every case, the technology succeeded spectacularly and reshaped the economy. However, in nearly every case, the investors who funded the build-out lost money. Hundreds of telegraph and electric companies were consolidated away. UK railway investment reached 7% of GDP, and a third of the authorized lines were never built. More than 1,800 American automobile companies were founded, yet fewer than a dozen survived. RCA — the Nvidia of its day — rose more than 1,000% and then fell 98% between 1929 and 1932. Fiber-optic carriers built so much capacity that their networks ran at less than 5% utilization, bankrupting WorldCom and Global Crossing. Shale destroyed roughly $500 billion of investor capital even as it made the United States the world’s largest oil producer. History’s verdict on these capital-intensive technology booms is clear. Consumers win, while the investors who finance the build-out usually lose. We believe AI will very likely follow the same pattern, but on an even grander scale.

The Biggest Capital Rush in History

The size of today’s build-out is without precedent. In 2025 alone, the hyperscalers (Amazon, Microsoft, Meta, and their peers) spent roughly $388 billion chasing AI investments, equal to about 1.3% of U.S. GDP. That share is larger than what was reached during the technology and telecom bubble. Importantly, much of the cumulative spending on AI has been financed with debt. In fact, as of year-end 2025, AI- and data-center-related debt outstanding totaled a staggering $625 billion. And this is only a minority of the investment expected, with more than $3 trillion of cumulative AI investment predicted to occur in the years ahead. Despite this unprecedented global investment, the productivity gains and revenue attributable to AI for actual end customers are unclear and hotly disputed. In fact, some estimates suggest AI has generated less than $50 billion of end-customer revenue so far. In short, there is a very long way to go before this investment generates an acceptable return.

Three Signs the Turn May Be Near

The problem for investors trying to navigate through these cycles is that they are notoriously difficult to time. But, in studying history, we see three signs that suggest we may be closer to the end than to the beginning.

First, debt is increasingly funding the build-out. In the early innings, companies like Microsoft and Amazon could finance their investments entirely out of free cash flow. Now, many are spending so heavily that they are turning free-cash-flow negative and reaching for borrowed money. Debt converts an open-ended bet into a timed one. When it comes due, if the promised revenue has not materialized, the losses can be severe.

Second, the largest and most exciting private companies, such as SpaceX, OpenAI, Anthropic, and others, have already or are expected to go public soon, adding trillions of dollars of new market value backed by very little earnings. Large initial public offerings tend to cluster at the end of technology capital cycles, as they did in the late 1990s. Moreover, we think it’s important to ask why these companies’ management teams are choosing to go public now. No one understands these businesses better than their own insiders, and after years in which staying private has been easy, they are now choosing to sell shares. We think it’s because they believe over-eager investors are willing to give them more than fair value for their shares.

Third, societal pushback is accelerating. Rising employee and voter fury over AI-driven job displacement and datacenter resource consumption is beginning to translate into action — unionization efforts, proposals for punitive taxes on AI profits, broader regulatory pressure, and even booing at commencement ceremonies. Political friction of this kind has historically marked the late stage of transformative investment cycles. Given the current dominance of the AI theme among investors combined with the deep uncertainty inherent in the boom, we think it’s important to next discuss our strategy for navigating through this tricky period.

Our Response: We Own the Toll Roads, Not the Casino

Put simply, our strategy is to avoid the AI capital cycle entirely. We own what we think of as toll-takers rather than casinos. These are businesses whose competitive supply is almost permanently constrained (by network effects, regulatory barriers, and “not in my back yard” dynamics) and where the incentives to attack those barriers are low. Pair those high barriers with steady, near-certain demand, and you have businesses that can collect a reliable toll on economic activity and earn healthy returns on capital over long periods.

The contrast with the AI build-out is stark. We avoid industries where new capital can easily replicate the advantage, companies spending more on capital expenditures than they earn in revenue, and fast-growing businesses that burn investor capital in pursuit of an uncertain payoff. OpenAI, for example, reported roughly $13 billion of revenue against about $9 billion of operating losses in 2025, with both revenue and losses expected to nearly double this year and large losses projected for years beyond that. Hyper-growth is alluring, but far less so when it is deeply unprofitable and the eventual demand and pricing remain in question.

What we own instead are businesses with permanent supply constraints, highly recurring revenue from customers who have no real alternative, and a long history of raising prices year after year regardless of the macro environment: what we like to call “evergreen” revenue. Their demand grows steadily, but not so explosively that it invites a flood of competing capital. About half of the portfolio has near-zero direct exposure to AI disruption, and the other half should actually benefit from AI adoption. As capital rotates out of these quality businesses and into speculative AI themes, we increasingly find ourselves buying what others are selling. As a result of this dramatic dispersion in stock price performance, we believe this is one of the most compelling environments for our strategy that we have seen since the firm’s inception.

Reasons for Recent Underperformance

Clearly, we have underperformed over the last three years, and we are keenly aware of it, because our own capital is invested right alongside yours. We feel the same discomfort you do. We are also more convinced of the strategy than ever, and we want to explain why we are able to sleep well at night.

This is not a YCG story alone. High-quality, difficult-to-disrupt businesses have broadly lagged as capital has rotated away from quality and into concentrated AI themes. In most environments, investors value predictable, durable growth and will pay a premium for it. Right now, the market is doing the opposite, selling these businesses to chase the gold rush. We do not believe that can continue indefinitely. Our businesses are growing their earnings. Their stock prices simply have not yet followed. Historically, patient owners of quality have been rewarded after stretches like this one.

When Earnings and Price Decouple

One illustration we find clarifying is to imagine a hypothetical $1 million invested today in a static portfolio of the businesses we currently own, and then to look back at the earnings those businesses actually produced since 2015. On that basis, the portfolio’s earnings have compounded at about 13.9% per year. In dollar terms, that hypothetical portfolio would have earned roughly $37,000 last year, an estimated $41,000 this year, and approximately $46,000 next year.

Now imagine you had no stock-price quotes at all and only the businesses’ income statements. You would look at those figures and conclude that your businesses are thriving. Yet the market keeps offering to pay less and less for them. Historically, investors have paid roughly a 27% premium to own this collection of businesses relative to the S&P 500. Today that relationship has flipped to a discount of about 6%. Put differently, businesses we believe deserve a premium are being valued at a discount. Were the valuation simply to revert to its historical average premium, it would imply an uplift on the order of 35%. It is also worth noting that, unlike the broader index, whose earnings proved highly volatile and suffered a noticeable downturn during the pandemic, our businesses continued to generate steady, uninterrupted earnings growth. This historical performance is one reason we trust the durability of our businesses’ growth but remain skeptical of the market’s. When one also considers the massive cyclical upswing in earnings that many AI-related companies are currently experiencing, this contrast in confidence becomes even starker. The exhibit below tells this story at a glance.

Exhibit: YCG model portfolio — hypothetical $1MM. Source: YCG / Refinitiv / Shiller data.

Earnings and price can decouple in the short run, but over long periods price typically follows earnings. We could extend that comparison back for decades and see the same thing. We believe investors are mistakenly paying a premium for the index and a discount for our businesses and that this imbalance will eventually reverse as investors return to valuing the durability of slow, steady, predictable growth, as they consistently have over centuries. This patience is the price of admission for the strategy, and the opportunity it is creating is, in our view, the most compelling we have seen since the firm began. Our companies are doing the right things and their earnings keep compounding, but the market has simply not rewarded them yet. History says that narrative will shift, and, when it does, the recovery in quality businesses can be remarkably swift.

Concluding Thoughts

It is worth re-stating plainly what we own. We own a collection of global champions that serve their markets as dominant toll-takers. Operationally, these businesses are doing well. The market simply has not rewarded them yet, precisely because so much capital is being pulled into AI. History offers a useful reminder here. Nearly every technology boom has ended in a bust for the investors who funded it, even when the technology itself succeeded wildly. It is essential to distinguish between a technology winning for consumers and one that delivers returns for investors. No one can say how long the market will keep undervaluing quality. What we do know is that the broad market is expensive and heavily concentrated in an AI narrative whose economics are uncertain and whose earnings growth may not prove sustainable. By contrast, we do not question the durability of this portfolio. We think of it as a fortress of global champions. For that reason, we believe there has never been a more compelling setup for our portfolio to outperform the market than there is today. We are not alone in seeing it. Goldman Sachs recently observed that high-quality businesses have been left behind and characterized the moment as an attractive buying opportunity.

This brings us back to a question we return to often: what is the goal of investing? In our view, once you have earned your capital, the priority is to avoid catastrophic, permanent loss while compounding what you have at low risk. We cannot think of a better way to do that than to own a difficult-to-disrupt collection of global champions. These are businesses that can sustain their returns on capital and collect a toll on the steady rise of global wealth for many years to come. We are genuinely excited about what lies ahead.

Finally, one of the advantages of working with a boutique firm is direct access to its partners. If you have questions, please pick up the phone or email Will, Brian, or Elliott directly. We are always glad to talk. The more we can share about how we think and why we own the businesses we do, the better. This is precisely why we hold webinars and write these letters. We hope they help you understand the strategy and hold steady through difficult stretches like this one. Thank you for your trust and your loyalty. We are grateful to have you as clients.

Sincerely,

The YCG Team