AI gains and increased adoption driving productivity: Orton

Key Concepts

• Small-Cap Investing: Focusing on companies with smaller market capitalization, presenting potential for higher growth but also increased risk.
• Reflationary Cycle: An economic phase characterized by rising prices and increased economic activity, often driven by fiscal stimulus.
• Steepening Yield Curve: An increase in the difference between long-term and short-term interest rates, often indicating economic recovery and positive for regional banks.
• M&A Activity: Mergers and Acquisitions – the consolidation of companies through various transactions.
• Geopolitical Landscape: The political relations and power dynamics between countries, influencing investment strategies.
• AI Adoption: The integration of Artificial Intelligence technologies into various industries to improve efficiency and productivity.
• Productivity Growth: The rate at which goods and services are produced per unit of input, a key indicator of economic health.

Market Outlook for 2026: A Focus on Small Caps, Defence Robotics, and AI Adoption

I. Small-Cap Opportunities & Shift in Quality

Matt Orton, Chief Market Strategist at Raymond James Investment Management, identifies significant opportunities within the small-cap market for 2026. He notes a shift from speculative, high-short-interest companies dominating the latter half of the previous year to a focus on higher-quality small-cap investments. This change is driven by the expectation that small-cap earnings and top-line growth will finally match, and potentially exceed, those of large-cap companies. He emphasizes the importance of selectivity, stating, “The key is owning the higher quality names that have those growth characteristics within them.”

The underperformance of small caps over the past five years has been attributed to lagging earnings growth compared to large-cap counterparts, particularly the mega-cap tech sector. Orton believes this dynamic is changing, creating a favorable environment for smaller companies given their current undervalued status. Specific sectors poised to benefit include regional banks (due to a steepening yield curve positively impacting net interest margins), biotech (driven by increased M&A activity), and companies benefiting from a “reflationary cyclical” environment fueled by fiscal tailwinds.

II. Defence Sector: Robotics as a Key Investment Theme

Orton advocates for an “offence or defence” strategy, highlighting the defence sector as particularly attractive. He specifically points to robotics within defence as a compelling investment opportunity, spurred by advancements in Artificial Intelligence (AI) and increased global geopolitical instability. He notes the cost imbalance between expensive traditional weaponry and “cheap, low scale drones,” as seen in conflicts like Ukraine and with Iran, emphasizing the need for investment in unmanned systems.

“We’re seeing that there’s a cost imbalance with respect to cheap, low scale drones being used that all fits within the robotic segment,” Orton stated. He anticipates a significant investment cycle in the US, Europe, and Asia to prioritize soldier safety through the deployment of drones for reconnaissance, combat, and counter-drone operations. The investment opportunity extends beyond the manufacturers of robots to encompass the entire ecosystem, including optics, robotics components, and the diverse global supply chain. He stresses the global nature of this theme, citing developments in Europe, Australia, Japan, and Korea.

III. Artificial Intelligence: From the Play to the Adoption Phase

Orton suggests a shift in focus from investing directly in AI companies to identifying firms successfully adopting AI technologies. He highlights the financial sector as a leading investor in AI integration, particularly for security purposes related to Personal Identifiable Information (PII). Other sectors expected to benefit include transportation, consultancy services (ripe for disruption), and any industry reliant on data analysis.

He anticipates a growing emphasis on AI integration from management teams across various sectors over the next 12-24 months, aiming to boost overall productivity. This trend is already reflected in strong US GDP numbers, supported by continued productivity growth. Orton expects to see more concrete examples of AI-driven efficiency gains reported during the current earnings season, with a growing clarity on which companies are winning contracts to provide AI applications.

IV. Earnings Season Expectations & Future Outlook

While some initial evidence of AI-driven efficiency gains was observed in the previous earnings quarter from financial companies, Orton believes the full impact will become more apparent later in the year as systems are upgraded. He also anticipates gaining a clearer understanding of which companies are securing significant contracts within the AI application space.

V. Logical Connections & Synthesis

The discussion demonstrates a connected view of the market. Orton links the potential for small-cap growth to broader economic trends like reflation and a steepening yield curve. He connects geopolitical instability to the demand for defence robotics, and ties AI adoption to increased productivity and GDP growth. The overarching theme is identifying areas where structural shifts and emerging technologies are creating investment opportunities.

VI. Data & Statistics

• The transcript references the underperformance of small caps over the past five years due to lagging earnings growth.
• It highlights the impact of strong productivity growth on US GDP.
• The discussion implicitly references the cost-effectiveness of drones compared to traditional military hardware, as demonstrated in recent conflicts.

Conclusion:

Matt Orton presents a bullish outlook for 2026, emphasizing opportunities in small-cap stocks (with a focus on quality), defence robotics (driven by AI and geopolitical factors), and companies successfully adopting AI technologies. His analysis highlights the importance of identifying structural shifts and emerging trends to capitalize on potential growth areas within the market. The key takeaway is a need for selective investment, focusing on companies with strong earnings potential, innovative technologies, and exposure to favorable macroeconomic conditions.