Its Over, page-23006

Markets are being shaken by big tech and Trump. It could get ugly

For two years, FOMO has built around artificial intelligence, the promise of a soft landing and belief in rate cuts. All of a sudden, different fears are driving stocks.
Jul 25, 2024 – 9.25am



Well, Elon Musk was right.

After delivering Tesla’s fourth underwhelming quarterly profit result in a row, Musk told investors to ignore their short-term concerns about falling margins, delayed products and unhelpful geopolitics and focus on the promise of Tesla’s grand artificial intelligence plans. If they didn’t believe in this AI vision, they should sell.

And they did.
Tesla shares plunged 12.3 per cent, while Alphabet, which also released underwhelming numbers on Tuesday night, fell 5 per cent. That set off a wave of selling among big tech: Nvidia was down 6.8 per cent, Meta fell 5.6 per cent, Microsoft lost 3.6 per cent, Amazon 3 per cent and Apple crumbled 2.9 per cent.

Now, most of these stocks have run hard in the past 12 months and can give back plenty of gains before investors will be remotely worried.


But Tesla and Alphabet provided two perfect examples of the growing scepticism around the big AI beneficiaries, which, as Chanticleer warned earlier this week, could sow the seeds of the next correction.

Both companies are spending big on AI. Both companies believe this investment will eventually transform their business. But both companies are not quite sure when the earnings from those investments will arrive.

And that’s making investors start to question whether these companies deserve the big re-ratings they’ve enjoyed.
On its own, the sell-off we saw on Wednesday night was nasty; the S&P 500 fell 2.2 per cent and the Nasdaq Composite was 3.6 per cent lower.

But this sell-off also highlights just how powerful the belief in the rally has been over the past two years. The fall in the S&P broke a 356-day streak during which the world’s most important equity market index had not fallen more than 2 per cent. The Nasdaq had its worst single day in two years.

Complacency has gradually built up around a consensus belief that stocks could keep rallying as the AI revolution gathered momentum, a soft landing delivered interest rate cuts, but the economy remained resilient enough to support earnings.

All of those still might be true, but the fact that the market has become so concentrated on mega cap tech stocks – which now account for about 30 per cent of the S&P 500 – means that doubts about the AI part will be magnified.
A tech bubble

As Societe Generale strategist Albert Edwards has said, it won’t necessarily take a major blow-up to prick this tech bubble – a simple change in the confidence in the magnificent seven’s earnings outlook may do the trick.

There’s a hell of a lot now riding on the quarterly profits of Amazon, Microsoft, Apple, Meta and Nvidia over the coming weeks.
Regular readers will know that Nick Ferres, chief investment officer at Singapore-based Vantage Asset Management, is one market watcher who has been consistent in his warnings on market complacency. In the first two weeks of July, he put his money where his mouth is, cutting his firm’s equity exposure by 60 per cent, from 100 per cent.

“From our perch, the risk-reward on equities have deteriorated for the second half of 2024. For us, the key concern is elevated valuation, narrow equity risk premium and low implied volatility. Stated differently, compensation for risk is poor,” he says.

Ferres says it’s important to remember that equities have jumped in the past 18 months not because earnings forecasts have been raised, but because we got a series of positive macroeconomic surprises and disinflation that raised hopes of rate cuts.

But whether there is enough disinflation to bring long-term bond yields down remains an important question. Highly respected economist and strategist Gerard Minack has recently argued that unless the Fed can cut rates by 1 per cent – which looks unlikely given the stickiness of inflation – it’s hard to see how long-end bond yields can decline materially from current levels.

“If long-dated Treasury yields do not fall, any normalisation in risk premia will require a de-rating in risk markets like credit and equities,” Ferres says.

Politics is providing more concerns around disinflation.

While Kamala Harris has changed the dynamics of the US presidential race, Donald Trump still remains the firm favourite to take the White House. That will likely mean a slew of inflationary policies – tariffs, limits on immigration and tax cuts financed by even higher budget deficits – are on the way.

Ferres says “the potential inflation risk of a second Trump administration might lead to a wider bond term, equity, credit risk premium and an increase in cross asset implied volatility”.

He notes it’s important to recognise that Trump’s first victory in 2016 came against a backdrop of low growth, low inflation, and a relatively better US budget position. His second coming will look very different.

It’s important to remember that investors are sitting on serious gains: since this bull market got going in October 2022, the S&P 500 is up 51 per cent and the ASX 200 has gained about 18 per cent.

A consolidation or pullback – even a correction of 10 per cent – wouldn’t necessarily be unhealthy.

But as veteran local market watcher Richard Coppleson asks: after two years where markets have been dominated by FOMO, are we about to move to a scenario where FOLM – fear of losing money – takes hold?