The Transcript 3Q26 Letter
The 3rd quarter of 2026 is over. Here’s a recap of some of the themes that we’ve seen and are watching going forward at The Transcript. We have made this edition available to all subscribers. If you’re not a premium subscriber already, we hope that you will read this and subscribe. Share The Transcript Macro The US economy remains strong. Consumer spending and employment are steady. Business confidence is high. AI has come to dominate more than just the tech industry. It has increasingly become an economic force unto itself. AI capex spending now rivals the size of the US defense budget. Such significant spending is driving inflation in adjacent industries. Critically, it also appears to be a factor contributing to higher long-term interest rates, which are, of course, foundational to global capital markets. “And in terms of economic impact, the economic impact is significant, especially for the U.S. economy....AI contributes around 1.5% to 2% of the U.S. gross domestic product, as well as 50% of the growth in net imports, right?” - Expeditors International of Washington ( ), Onyx Sr. Geopolitical Analyst Suryo Nugroho [ 8th September – AI Bottlenecks ] In addition to these fundamental drivers, a shift in philosophy at the Fed has been an important change in the last quarter contributing to higher rates. Kevin Warsh took over as chair of the Fed, and markets have been acclimating to his leadership style and approach. Warsh has been clear that 1) he wants the Fed to say less, 2) he wants the markets to “play the ball, not the umpire,” and 3) his Fed will not tolerate above-trend inflation. As part of this approach, he seems content to let longer-term interest rates move independently of Fed policy targets. He appears to want the signal from yield curve shifts to inform Fed policy rather than the other way around. “Markets over time will come to understand how this Fed makes its decisions, what’s relevant and not, and I wouldn’t want to editorialize that for them beyond it.” - Federal Reserve Chairman Kevin Warsh [ 21st September – Keep Moving Fast ] This hands-off approach to interest rate markets is potentially a tectonic shift in the architecture of markets. We’ll only really know Warsh’s resolve with respect to his philosophy when markets test it. In recent weeks, markets certainly have been pushing to find the boundary of what the new Fed is willing to accept without intervention. In this way, capital markets have become somewhat of a tug of war between AI and interest rates. It remains to be seen which force will be the bigger driver of equity values. International Chinese industry represents a wild card within the global AI race. While US tech companies currently dominate the field, Chinese tech companies are also investing heavily in frontier models, infrastructure, and components. “Given that Chinese AI companies are doing as well as they are with a relatively small amount of compute, it seems that if they had a lot of compute, there’s a good chance they would be the leaders. At some point, they probably will have a lot of compute, so there’s a good chance they will become the leaders” - SpaceX ( ) CEO Elon Musk [ 27th July – Freely Flowing Cash ] The Chinese government seems to be particularly focused on developing a domestic semiconductor industry, which would enable independence from global semiconductor suppliers. China has a current disadvantage in this space. China has other advantages, though. In particular, it leads the world in electricity production, which is a core bottleneck for the industry. Additionally, its strategy focused on lower-cost open-source models has led to share gains among enterprise users for basic tasks. The balance of the rest of the global economy is stable if not spectacular. “China has far more electricity than the United States. In fact, China has more electricity than the United States, Europe, and India combined already, um, and is heading to... And my guess is China gets to four times the electricity production of the US, which is roughly proportionate to the population.” - SpaceX ( ) CEO Elon Musk [ 27th July – Freely Flowing Cash ] Financials The capital markets deal boom that was expected earlier this year has not fully materialized. But confidence is still high within the financial industry. Anthropic is expected to IPO this year and OpenAI potentially sometime in 2027. Broad stock market indexes are up significantly in 2026 with relatively limited volatility. “I actually think that, given everything happening with safety, right now would be an ill-advised moment to go public, and we don’t feel pressure on that,...I would say not 2026” - OpenAI CEO Sam Altman [ 14th September – Slow Down ] Within commercial banks, credit quality is high, and loan demand has rebounded. There are some questions about whether hyperscaler capex is stretching the limits of what even the deepest capital markets can support. “... our answer is very boring. There’s just nothing that’s really an area of issue right now. As I mentioned, credit metrics are likely going to be stable in the quarter.” - U.S. Bancorp ( ) CFO John Stern [ 28th September – Powering Forward ] Consumer Amazingly, the US consumer has gotten somewhat lost in the shuffle of the AI action. Consumer spending is still strong, and unemployment is low, but the consumer isn’t the marginal driver of capital markets and economic activity today. “... based on what we see across our businesses every day, the economy and the customers remain in very solid shape” - Urban Outfitters ( ) CEO Dick Hayne [ 31st August – Hall of Mirrors ] “Our consumer continues to be resilient…” - Levi Strauss ( ) CFO Harmit Singh [ 13th July – Stealing Alpha ] “Consumers and small businesses continue to show resilience despite elevated gas prices and inflation... - JPMorgan Chase ( ) CFO Jeremy Barnum [ 20th July – As Good As It Gets ] The consumer economy continues to exhibit signs of a K-shape. Affluent consumers are doing very well while lower-income consumers are increasingly under pressure from broad inflation. However, even the lower-income consumer is driving stable spending growth. “What we’ve seen so far is what we’ve seen all year long, and that is we’re operating in what we would describe as a K-shaped economy…” - Lowe’s Companies ( ) CEO Marvin Ellison [ 19th August – Memory Wars ] “...that bifurcating consumer is real” - La-Z-Boy ( ) CEO Melinda Whittington [ 24th August – Treasury Buybacks ] Travel and entertainment spending remains particularly strong. Meanwhile, the housing market has been in a multi-year malaise, which perhaps speaks to the underlying health of the “old” economy more than any other indicator. High interest rates weigh on this sector, but this too goes largely unnoticed by financial headlines. Technology The AI boom is cementing its place within the great economic booms of history. While there are many questions about whether the boom will eventually turn to bust, it’s clear that AI tools are having a profound impact on the way that people interact with the world. The tools continue to develop at unprecedented speed. While coding agents were the focus of capital markets just two quarters ago, attention has shifted to a broader adoption of agents encapsulated in part by the launch of Meta’s Muse. “This one just really clicked right out of the gate. So it’s been very exciting to see, and the fact that we’re like two weeks in and there’s millions of people using it is, I don’t know, this is pretty rare. Every few years we get something like this, but this is definitely the fun part of building a company.” - Meta ( ) CEO Mark Zuckerberg [ 28th September – Powering Forward ] Frontier models also continue to evolve. It’s not always perceptible how much they have progressed from week to week, but high-profile breakthroughs like solving century-old math proofs lend credibility to the idea that machine intelligence may soon exceed the capabilities of human intelligence. All of this supports the idea that there is insatiable demand for tokens and that the trillions of dollars in capital spending are just the beginning of the boom. “In just one year, monthly AI token processing jumped from about 0.7 quadrillion to 1.7 quadrillion. But that was before agents. Once AI starts working continuously, the curve changes dramatically. By 2030, estimates reach 120 quadrillion AI tokens processed every single month.” - AMD ( ) SVP & GM Jack Huynh [ 8th September – AI Bottlenecks ] Still, there are deep questions about whether the benefit of AI fully balances the economic equation. Businesses are now closely auditing token spend and moving workloads to cheaper open-source models. Still, OpenAI has disclosed that it is generating $50B in run rate revenue, a staggering sum for such a young company. “The other thing that you’ll notice is that this thing, once the subsidies stop for everybody... there’s marginal cost to tokens. And so one of the core business model realizations is that... this all has to be about the return that the user gets whether it’s in the consumer space or in the enterprise space..It is going to consume tokens and so there needs to be ultimately a business model” - Microsoft ( ) CEO Satya Nadella [ 28th September – Powering Forward ] “On the token-maxing, I think the -- we’ve gone up so like just in terms of costs, we’ve gone up maybe 3x or so since January, it’s certainly going to continue to go up by the end of the year.” - Roper Technologies ( ) CFO Jason Conley [ 19th August – Memory Wars ] The most bearish data point for the AI industry is one that we highlighted recently after Micron earnings. Despite multi-x increases in capital spending by hyperscalers, industry capacity is increasing at a far slower pace than the spending would suggest. Suppliers like Micron are seeing explosive growth in revenue, but datacenter capacity is only growing in the high teens to 20% range. Building a data center is just much more expensive than it used to be. Price inflation is driving most of the financial returns, and pricing power is likely slowing. “....with robust demand trends including new upside requests from customers, we do not have line of sight to when supply and demand will return to balance...it just takes a long time for these new clean rooms that the whole industry is working on to be able to build and then qualify and then equip” - Micron ( ) COO Manish Bhatia [ 5th October – High Rates? ] “Demand is still faster than supply, though, for traditional server and AI server. So those two buckets continue to have demand that was really robust. As we look into next year, we see the supply differential only getting worse, not getting better” - Dell Technologies ( ) CFO David Kennedy [ 14th September – Slow Down ] Importantly, the capacity bottleneck may increasingly be piling up at the energy infrastructure layer, where new capacity is the slowest to develop. There’s a bear argument that in the coming years there will be GW of “stranded” chips. Datacenters without power to operate. While this would certainly work itself out over time, the balance of financial commitments may be more precarious, especially for neo-clouds. Healthcare Capital markets seem to be more open within the biotech space recently. It’s not clear that this is directly tied to the AI boom, but it’s likely that biotech is peripherally benefiting as investors look for additional frontiers and diversification. There are also some signs that the big AI labs may be turning their focus to biology. What would happen if the labs do to the field of biology what they are doing to the field of mathematics? “As AI improves the ROI, customers will fuel their pipeline to capitalize on that. And you will see more indications going in parallel on clinical research...you’re seeing demand pick up in some of the early research spend because there’s new activity happening, which would not have happened in the past…” - Thermo Fisher Scientific ( ) CEO Marc Casper [ 28th September – Powering Forward ] Industrials The industrial economy appears healthy. Freight markets have emerged from their long doldrums. PMI surveys have been consistently in expansion territory. “We had a freight recession for 3 or 4 years. It’s been positive in the first half of this year. And so we hope that continues. It’s more of a supply-driven rally” Roper Technologies ( ) CEO Neil Hunn [ 14th September – Slow Down ] “...the industry is coming off of a cyclical low. The fundamentals are improving; I would describe it as cautious optimism.” - Cummins ( ) CEO Jennifer Rumsey [ 10th August – Steady as She Goes ] Aerospace and defense spending has been strong. The auto industry has been stable, and EV spending has been rebounding. “I think we would both argue that from an electric vehicle adoption perspective, we’re now at the point where we’re back to a more stabilized area, and we’re going to see growth from there. I think part of it is -- and look, I own all electric vehicles.” - Rivian Automotive ( ) VP of IR Chip Newcom [ 5th October – High Rates? ] The industrial economy is also being touched by inflation, though. The prices paid component of recent ISM surveys has been above 60 for 8 months, highlighting a persistent inflationary psychology. Energy While conflict with Iran is still ongoing, the situation in the Strait of Hormuz has faded from headlines. Oil prices are elevated, but production appears to be finding ways around and through the Strait. Markets seem to be comfortable with the status quo. “The other thing we’d tell you is the market fundamentals for the most part are working. And when you see a supply shock like we’ve seen in the oil markets, one of the things you’re going to witness is a rush to try to increase supply. And we’ve seen unprecedented levels of release of inventory, both strategic commercial reserves but also strategic petroleum reserves” - ExxonMobil ( ) CFO Neil Hansen [ 21st September – Keep Moving Fast ] With oil markets more stable, the focus of the energy industry returns to electrical capacity to support data center growth. “Demand far exceeds supply. The grid cannot keep up with the demand from hyperscalers and others, and we see that persisting for years.” - Chevron ( ) President of Chevron New Energies Jeff Gustavson [ 3rd August – Reaction Functions ] Elon Musk argues that space-based data centers are the best way around capacity constraints. He’s planning for an astronomical 200GW of new capacity per year from this source. “SpaceX is aiming together with Tesla to do 200 gigawatts of solar production per year” - Tesla ( ) and SpaceX ( ) CEO Elon Musk [ 5th October – High Rates? ] “And it’s pretty magical that orbital compute is clearly the solution here on the power and cooling and permitting side. But we wouldn’t give that range for next year unless we had line of sight to power specifically, but power and facilities and permitting needed.” - SpaceX ( ) CFO Bret Johnsen [ 14th September – Slow Down ] Closing Thoughts As written earlier, the story of capital markets is setting up to be a tug of war between rising interest rates and AI spending. Interest rates have historically been the dominant force over capital markets. When rates rise, economic activity tends to constrict, and economic booms turn into down cycles. But on the other hand, AI may just have enough wind at its back that it can overwhelm the rates side of the equation. Still, as AI spending reaches the limits of what capital markets can bear, growth rates will likely slow in 2027. Equity markets typically don’t love slowing growth rates.