Buzz Lightyear’s iconic catchphrase has been with us for more than 30 years, dating from the original film in Disney Pixar’s Toy Story franchise, with the fourth sequel now in release. The phrase is a metaphor for “limitless possibilities, boundless ambition, and dreaming bigger than imaginable.” Buzz’s catchphrase seemed an apt description of the growth of artificial intelligence (AI) in general, and the semiconductor space specifically, in the second quarter. The thirst for “compute,” the symphony of data centers, servers, chips, and networking equipment that power AI today, appears unquenchable.

AI is driving a supply-constrained boom across the semiconductor industry, and the spending behind it keeps getting larger. Hyperscalers, the largest cloud and technology companies, are now expected to spend roughly $710 billion on data centers in 2026 and about $910 billion in 2027, both figures revised sharply higher this year. That money is no longer flowing only to Nvidia’s graphics chips. It is spreading across custom chips, networking gear, processors, and memory, which is lifting the revenue outlook for a wider group of suppliers, including Broadcom, AMD, Marvell, Arm, and Qualcomm. Nvidia remains the dominant player and is using its size to lock up more than $100 billion of manufacturing capacity years in advance, but growth is broadening beyond it.

Memory chips have moved from a normal recovery into an outright shortage, and this is the clearest example of AI reshaping an industry. Demand for high-bandwidth memory, the specialized memory that feeds AI accelerators, is so strong that it is consuming production capacity and squeezing the supply of ordinary memory used in everyday computers and servers. Contract prices for standard memory have more than doubled since December, and industry analysts expect the shortage to persist into 2028. Micron illustrates the scale of the shift: its quarterly revenue has nearly quadrupled over the past year, reaching $41.5 billion, driven by data center demand. Rather than racing to build new factories, producers are signing long-term, fixed-price contracts with customers, a meaningful change from past cycles that suggests pricing may stay firmer for longer.

The same forces are reviving the market for server processors, a segment that had been treated as mature and low-growth. As AI systems take on more complex tasks, they need processors to coordinate, manage memory, and move data, which is pulling this market from an estimated $60 billion today toward $200 billion by 2030. Tight supply has restored pricing power, with Intel and AMD raising prices 10% to 15% and 2026 capacity already sold out. Energy-efficient designs from Arm are gaining share, and Nvidia is entering the market directly.

Investors have gone along for the ride on the AI skyrocket. The Philadelphia Semiconductor Index, better known by its symbol “SOX,” rose 88% in the second quarter and was up nearly 102% year to date in 2026. Memory-chip maker Micron Technology’s (MU) share price soared 242% in the second quarter and has risen 839% over the past twelve months.

Key questions remain. Can spending on AI infrastructure keep accelerating, and will the supply of all the components that go into powering AI ever catch up with demand? While we do not foresee a material drop in demand for AI-related compute in the near to medium term, we also do not expect the laws of economics to fail. As AI infrastructure costs keep rising and drag the costs of using AI along for the ride, we believe innovation will drive more efficient use of the resources and components that power AI. AI customers are already moving to improve the efficiency of their use and control costs. The frontier AI model companies, and the cloud providers that deploy the models, are exploring ways to better utilize their soon-to-be trillion-dollar fleets of AI chips. New custom AI chips, tuned to the specific needs of individual models or use cases, are announced seemingly every few weeks. Infinity is a big number. The growth of AI taking us “beyond” seems a very low-probability bet.

U.S. Economy and Financial Markets: 2Q26 Recap

The quarter was defined by an energy shock that reversed on itself. Oil spiked toward $115 to $120 in early April when the Middle East conflict closed the Strait of Hormuz, then fell back to roughly $70 by June 30 after a U.S. and Iran memorandum of understanding signed June 17 began reopening the Strait. That was close to a 40% quarterly drop in crude, the largest since 2020. The round trip drove inflation to a three-year high before expectations collapsed. Headline CPI rose 4.2% year over year in May, the highest since April 2023, with roughly half the monthly gain from energy, while core CPI held at 2.9%, confirming the surge was an oil story rather than a broad one. The one-year inflation breakeven fell from about 5.5% to under 1.5%, and the 2-year TIPS breakeven collapsed 121 bps to just under 2.0%. The Fed added a third pivot. The FOMC held rates at 3.50% to 3.75% at both meetings, but the June 17 decision was Kevin Warsh’s first as chairman: the statement was sharply shortened, the bias toward cuts was removed, the dot plot erased the prior 2026 cut and signaled a possible hike, and Warsh declined to submit his own dot. The labor market stayed firm, with May payrolls up 172,000 against an 80,000 consensus and unemployment steady at 4.3%.

Equities staged one of the strongest quarters in a generation. The S&P 500 returned roughly 15% and closed at 7,499, the Nasdaq gained about 21%, and both posted their best quarter since 2020. The Dow reached a record 52,319, and the Russell 2000 returned 21.5%, its best first half for small caps since 1991. First-quarter earnings did the heavy lifting, growing roughly 29% on nearly 12% revenue growth, with 85% of companies beating. Semiconductors led a melt-up, with the Philadelphia Semiconductor Index up approximately 88%, the best quarter since its 1994 inception. The stocks of a handful of companies in the index that make chips for computer memory and storage more than doubled in the quarter. Beneath the surface, leadership broadened as the Magnificent 7 slid into negative territory year to date. Investors began pricing AI capital spending against evidence of returns rather than the scale of the commitment, rotating toward the picks-and-shovels suppliers in semis, power equipment, and data center construction, while small cap, mid cap, equal weight, and value benchmarks reached new highs.

Under the hood, the bond market tightened financial conditions without the Fed moving. Nominal yields rose across the Treasury curve, led by shorter maturities, with the 2-year up 37 basis points to 4.18% and the 10-year up 15 basis points to 4.47%, while inflation breakevens fell sharply. That combination pushed real (after-inflation) yields materially higher, with the 2-year real yield surging 158 basis points to 2.18% and the 10-year real yield rising to 2.23%. The Fed five-year market implied rate of inflation five years in the future barely moved, ending at 2.18%, a sign that markets read the current inflation episode as a near-term supply shock rather than a structural rise in inflationary pressures. This stability also suggests that Fed credibility under Chairman Warsh remains intact. Valuations for US large cap equities remain rich versus historical averages at approximately 21.0x forward earnings. High multiples often leave equities with a thin cushion against potential interest rate shocks or slowing earnings momentum.

What We Are Watching for the Second Half of 2026

• Whether the Iran peace process gets back on track. The reaction of energy markets to a resumption of hostilities has so far been muted. Should full-scale warfare return to the Middle East, the prices of energy and other affected commodities could soar and potentially crimp global economic growth.
• Whether the U.S. midterm elections alter the balance of power in Washington, D.C. Trump will be somewhat constrained if he faces a Congress where Democrats control both houses in 2027.
• How markets react as the Warsh Fed continues to develop. Less communication and the prospect of a less expansive Fed balance sheet could create angst among investors.
• Leverage, leverage, everywhere. Capital is in high demand as global governments continue their deficit-spending ways at the same time that corporations are plowing ever more capital into AI and its supporting infrastructure. Within equity markets, margin debt is soaring, and the use of levered ETFs and options to make levered bets on single stocks or small baskets of stocks has exploded. Both sides of the leverage spectrum make markets more vulnerable to shocks.

Kurt Funderburg
Chief Investment Officer
Byline Wealth Management