Excess Returns Podcast – Episode Summary

Episode Title: The Base Case is Wrong | Paul Eitelman on AI, Reacceleration and the Pause No One Sees
Date: December 26, 2025
Guest: Paul Eitelman, Chief Investment Strategist at Russell Investments
Hosts: Jack Forehand, Justin Carbonneau, Matt Zeigler

Overview

This episode brings on Paul Eitelman to discuss Russell Investments’ 2026 outlook, dubbed "The Great Inflection Point." The conversation centers around accelerating AI adoption, a forecasted reacceleration of the U.S. economy, and the anticipated broadening of market leadership beyond the Mag 7 technology stocks. The hosts and Paul examine current macroeconomic trends, AI’s impact, labor and fiscal policy, and what these mean for portfolio construction as we head into a new year.

Key Discussion Points and Insights

1. The Russell Investments Framework: Cycle, Value, Sentiment (CVS)

• [03:43] Paul introduces the "cycle, value, and sentiment" (CVS) framework for investing:
  • Cycle: Focuses on fundamentals like economic/earnings growth and monetary policy.
  • Value: The price investors pay relative to fundamentals, especially relevant long-term.
  • Sentiment: Real-time market psychology metrics, using momentum & panic as opportunities.
• Quote: “Financial markets are pretty efficient, but not perfectly efficient…that cycle valuation sentiment process is important for two reasons. It gives us structure to help avoid making those same behavioral mistakes that some other investors are exposed to. And then second, we can kind of lean in and take advantage of those." — Paul [03:43]

2. The Outlook for 2026: From Headwinds to Tailwinds

• [06:24] Paul argues that growth prospects are improving thanks to policy tailwinds (e.g. fiscal stimulus, more favorable trade/immigration policies) and the fading of earlier headwinds.
• April 2025 saw notable risk aversion and a steep market drop, but the U.S. economy has been resilient.

3. Accelerating AI Adoption and Economic Impact

• [08:13] Paul places AI on par with the Industrial Revolution in terms of disruptive potential—this time, automating not just manual, but cognitive (service sector) labor.
  • Quote: “The Industrial Revolution disrupted human muscles…what we're seeing with AI…is the ability to disrupt the human mind and meaningfully impact…services.” — Paul [08:13]
• [10:55] Early ROI evidence: U.S. AI adoption at work is nearing 40% and rising; efficiency and productivity gains are visible, though still in early stages.
• [12:35] The "J-curve" effect: Productivity gains from new technologies often appear only after an initial period of investment and adjustment. Paul sees early movement “up the J-curve” for AI in 2026–27.
  • Quote: “You tend to have some growing pains where in the early innings, you often find no real productivity benefits...but as that technology progresses...the tailwinds build over time.” — Paul [12:35]
• [14:34] Mag 7 companies (Big Tech) have shifted from asset-light to heavy capital investment, lowering free cash flow margins and raising questions about future profitability, competition, and capital needs.

AI Risks and Downsides

• [17:09] Energy demand: Regional power grids under stress due to new data centers; potential to raise electricity prices.
• [18:26] Financing: Possible need for $1 trillion in new debt by Big Tech by decade end, putting stress on capital markets.
• [18:26] Labor market: AI affecting certain jobs (software, customer service) and early-career hiring, though mass layoffs from AI haven't materialized yet; disruption could grow over time.
  • Quote: “If the gains are profound…this could be enormously disruptive to the labor market over the next couple of years and potentially cause a downdraft in employment before we…reach some kind of new equilibrium.” — Paul [19:35]
• [20:38] Paul’s personal AI use: Dramatically sped up research and literature reviews, saving days of work as a researcher.

4. The Economic Case for Reacceleration into 2026

• [22:08] 2025 was marked by headwinds (tariffs, immigration restrictions), but 2026 features more tailwinds:
  • Tariffs: Absorbed well by U.S. private sector, now a fading headwind (~0.5% drag at peak).
  • Immigration Restrictions: Manageable drag (~0.3%), mostly lowering workforce growth and impacting labor markets.
  • Uncertainty: Was extreme in early 2025, but is subsiding as trade policy stabilizes and markets recover.
  • Financial Conditions: V-shaped recovery since April 2025; equities and home prices near all-time highs boost household net worth and spending.
  • Fiscal Stimulus: The "One Big Beautiful Bill" (July 2025) offers rebates for households and favorable corporate tax provisions, expected to directly boost CapEx.
  • Deregulation: Ambitious drive, especially in energy and financial sectors, could unlock more business investment.

5. Interpreting Economic Data: Hard vs. Soft

• [33:05] "Hard" data (actual consumer spending) vs. "soft" data (consumer sentiment/confidence): Currently a large disconnect—spending is solid, sentiment is abysmal due to partisanship and high prices.

• Fundamentals (hard data) regarded as more significant for forecasting than soft data.

  • Quote: “We’ve seen a pretty healthy labor market…where wage income’s been positive, because we’ve seen that record household wealth…we leaned into that positive insight as opposed to the confidence numbers being very weak.” — Paul [34:58]

6. Why the Recession Didn't Arrive—and the Outlook Ahead

• [36:56] Recession forecasts using yield curve inversions and other indicators failed to materialize; the economy and policy proved more dynamic.
• [39:44] Paul estimates 2026 recession risk at 25%—higher than history, but below the one-in-three consensus. Labor market remains the key downside risk: slowdown is due to policy (immigration, gov't hiring), not private sector distress.
  • Quote: "If that continues and extends into 2026, that could put more pressure on the consumer over time.” — Paul [40:44]

7. Inflation, the Fed, and the “Pause No One Sees”

• [43:02] Inflation above target but expected to cool as tariff, shelter effects fade; cyclical drivers may pressure inflation if growth accelerates.
• [44:44] Fed is now more focused on the labor market, having pre-emptively cut rates three times. Paul predicts a protracted pause and that "we may have even already seen the last rate cut for the Federal Reserve in this cycle." — Paul [46:05]

8. Market Leadership Broadening Beyond the Mag 7

• [46:23] Small-cap and international markets show earnings improvements; AI benefits are increasingly spreading from builders to users, supporting broader profits and returns.
• End of “lopsided market” with mega-cap tech dominating—opportunities arise in global diversification and cheaper asset classes.
  • Quote: “We see that as supporting those sort of global diversified exposures and leaning into those areas of opportunity in a measured way in our strategies.” — Paul [53:40]

9. The Role of Behavioral Finance and Sentiment

• [49:34] Tracking investor psychology (panic/euphoria): Defensive when investors are euphoric, opportunistic when in panic. April 2025 panic provided buying opportunities.

• [57:07] Paul cautions: While it’s prudent to “be greedy when others are fearful,” it’s much harder—and potentially damaging—to successfully sell when others are greedy.

  • Quote: “Missing out on the up days in markets can be just as damaging, if not more damaging than avoiding downturns.” — Paul [58:18]

10. Implications for Portfolio Construction

• [52:16] Russell Investments used spring 2025 panic to rebalance towards equities and high yield.

• [53:09] Global diversification is stressed (“lean into opportunities in small caps, international, EM”).

• [55:04] Real assets (infrastructure, real estate) are a core strategic allocation to counter inflation shocks and add portfolio resilience.

• Higher fixed income yields (above expected inflation) now help preserve purchasing power but further diversification is encouraged.

  • Quote: “Real assets…are a really important complement in addition to stocks and bonds for shaping a well-rounded portfolio for the environment that we see not only for the year ahead, but for the next decade.” — Paul [55:07]

Memorable Quotes & Moments

• On AI’s Transformational Power:
  “It’s probably closest…to the Industrial Revolution…where AI is disrupting the human mind and supercharging the services sector.” — Paul [08:13]

• On Labor Risks from AI:
  “If the gains are profound…this could be enormously disruptive to the labor market over the next couple of years and potentially cause a downdraft in employment…” — Paul [19:35]

• On Investing Through Uncertainty:
  “The stay invested principle is philosophy number one, helping to improve financial security for people…and then where we can trying to add value on top of that, exploiting sentiment overshoots.” — Paul [59:30]

Timestamps for Essential Segments

• Intro & Framework: Cycle, Value, Sentiment: [03:43]
• 2026 Economic Outlook: [06:24]
• AI Adoption & Economic Impact: [08:13], [10:55], [12:35]
• AI Downside Risks: [17:09], [18:26]
• AI & Personal Productivity: [20:38]
• Economic Headwinds to Tailwinds Discussion: [22:08], [23:14], [24:55]
• Hard vs Soft Economic Data: [33:17]
• Recession Forecasts and Labor Market: [36:56], [39:44], [40:01]
• Inflation and the Federal Reserve: [43:02], [44:44]
• Market Leadership Broadening: [46:23], [47:56]
• Behavioral Finance and Portfolio Strategy: [49:34], [52:16]
• Alternatives, Real Assets: [54:05], [55:04]
• Philosophy on Staying Invested: [57:07], [58:49]

Final Takeaways

• Russell Investments expects 2026 to bring growth acceleration due partly to AI, fiscal stimulus, and broader market fundamentals.
• Paul Eitelman recommends investors remain globally diversified, take calculated advantage of market panic, and embrace real assets for resilience.
• AI is at an inflection point—tangible benefits are already emerging, but risks around energy, capital, and labor require monitoring.
• Stay invested: Missing big market upswings can hurt long-term returns as much as weathering downturns.

For the full report, search "The Great Inflection Point Russell Investments" or visit the Russell Investments Insights page.