AI Tide Doesn't Float All Boats

Schwab Network
31 May 202403:51

TLDRThis week's market narrative highlights the limitations of AI's impact, particularly in cloud and software sectors where companies failed to back AI hype with earnings. A competitive AI landscape suggests not all companies will benefit equally. The equal weight index showed relative strength, contrasting the market cap-weighted index's pressure. With mega-cap and AI euphoria fading, focus shifts to macroeconomic factors, including the dollar's support amid inflation and interest rates. The two-year yield's rejection signals potential macro problems if it rebounds strongly.

Takeaways

  • 🌐 The AI sector showed its limitations this week, particularly in cloud companies and software stocks that talked up AI but lacked tangible numbers to support their claims.
  • 📉 Companies that inflated their job outlook without corresponding earnings guidance faced market backlash, suggesting overvaluation.
  • 🚀 There's a competitive aspect within AI that implies large-cap companies will have to compete with each other, meaning not all will benefit equally from AI advancements.
  • 📊 The equal weight index for the S&P 500 showed relative strength, indicating a broader market performance rather than just a few AI-driven names.
  • 📈 Value trades and a broader market improvement were observed, contrasting the usual concentration on AI names that have driven the market cap-weighted index up.
  • 💡 The market cap-weighted index is under pressure, suggesting a potential shift in market dynamics without the support of mega-cap companies or AI euphoria.
  • 📉 The CHAT ETF from Round Hill experienced a significant drop, indicating a market rejection from its previous high and a potential shift in the AI trade sentiment.
  • 💰 The dollar received support, partly due to inflation data and the prospect of sustained interest rates, and also as a safe-haven asset when stocks are under pressure.
  • 📈 The focus for the coming week should be on interest rates and the dollar, especially considering the two-year yield's recent rejection and its implications for the macro environment.
  • 📊 If the two-year yield bounces back strongly, it could signal macroeconomic problems; if it remains subdued, it might lead to further market rotation and a better performance for the broader market.
  • 🤔 The Friday market ramp could have been a 'buy the dip' scenario, but without the big tech trade, the market's direction next week will likely be more dependent on macroeconomic factors.

Q & A

  • What is the key message from the week regarding AI's impact on the stock market?

    -The key message is that there are limits to AI's reach, particularly in cloud companies and software stocks that have been hyping AI but failing to show substantial earnings from it, leading to a hit on their stock prices.

  • Why did some companies get hit after their earnings reports despite talking up AI?

    -Companies got hit because they couldn't increase their guidance to match the hype around their AI initiatives, which led to a disconnect between expectations and actual performance.

  • What does the phrase 'a rising tide may not lift all boats the same' imply in the context of AI competition?

    -It suggests that not all companies, even within the same sector, will benefit equally from the growth of AI. Some may struggle to compete with larger, more established players.

  • What happened to the Mega cap trade this week?

    -There was a breakdown in the Mega cap trade as the market saw some relative strength from the equal weight index, indicating a shift away from the concentration on AI names.

  • How did the equal weight index perform compared to the market cap-weighted index?

    -The equal weight index showed relative strength, which is an inverse of the recent trend where the market cap-weighted index, driven by AI names, has been outperforming.

  • What does the performance of the equal weight index suggest about the broader market?

    -The performance of the equal weight index suggests that there is a broader market rotation happening, with value trades doing well and a more balanced improvement across different sectors.

  • How did the Round Hill chat ETF perform, and what does it indicate about the AI trade?

    -The Round Hill chat ETF was hit but is still up significantly since its debut. It indicates a clear rejection from its previous high, suggesting that the AI trade may be cooling off.

  • What is the significance of the dollar's performance in the context of the stock market and rates?

    -The dollar's performance is significant as it caught a bid even when inflation wasn't particularly high, indicating that stocks were under pressure. It also suggests that the dollar may continue to be supported in an environment with high interest rates and inflation concerns.

  • What does the 'green light on the dollar' mean, and why is it important for the upcoming week?

    -The 'green light on the dollar' means that there are strong reasons to expect the dollar to be supported, such as inflation data and interest rates. It's important for the upcoming week as it could influence market trends and investment strategies.

  • What could potentially shift the focus from the big tech trade to the macro environment?

    -If the big tech trade, particularly the Nvidia trade, fails to regain momentum and carry the market, the focus could shift to macro factors such as interest rates and the dollar's performance.

  • What does the two-year yield's rejection indicate about potential macro problems?

    -A hard rejection of the two-year yield suggests that if it bounces back with conviction, there could be macro problems due to the implications of sustained high interest rates. If it remains subdued, it could lead to market rotation and potentially better performance for the broader market.

Outlines

00:00

🤖 AI's Limits and Market Reactions

The script discusses the limitations of AI's impact on the market, particularly in cloud and software companies that have been promoting AI without substantial earnings to back it up. It highlights the consequences when companies fail to meet the market's expectations, leading to a correction in stock prices. The competitive nature of AI is also mentioned, suggesting that not all large-cap companies will benefit equally from AI advancements. The script notes a shift in market dynamics, with the equal-weight index showing relative strength compared to the market-cap-weighted index, indicating a broader market participation beyond just AI-focused stocks. The summary also touches on the potential macroeconomic implications for the dollar and interest rates, suggesting that if the mega-cap tech trade loses momentum, the market may turn more attention to macro factors.

Mindmap

Keywords

💡AI's reach

AI's reach refers to the extent of influence or impact that artificial intelligence technologies have on various sectors and industries. In the context of the video, it highlights the limitations of AI's current capabilities, especially when companies that have heavily promoted AI did not present substantial earnings to back up their claims. This concept is central to the theme as it sets the stage for discussing the realistic boundaries of AI in the market.

💡Cloud companies

Cloud companies are businesses that provide a variety of services over the internet, utilizing cloud computing technology. They allow individuals and other businesses to store and access their data and programs over the internet instead of on a local computer. In the script, the performance of these companies is tied to their AI initiatives, indicating that their success in the stock market is partly dependent on how well they can leverage AI technologies.

💡Earnings

Earnings in a financial context refer to the profit that a company makes from its business operations. The script mentions that some companies have been talking up their AI capabilities but failed to show corresponding earnings, suggesting a disconnect between their promises and actual financial results, which is a critical point in evaluating the effectiveness of AI in business.

💡Mega cap companies

Mega cap companies are large corporations with a market capitalization typically over $200 billion. They are often leaders in their respective industries. The script discusses how these companies may have to compete with each other in the AI space, implying that not all mega caps will benefit equally from AI advancements, which is a significant insight into the competitive landscape of the technology sector.

💡Market cap weighted index

A market cap weighted index is an index that reflects the performance of a group of companies weighted by their market capitalization. Larger companies have a greater influence on the index's performance. The script contrasts this with the equal weight index, indicating a shift in market dynamics where the influence of AI-heavy mega cap companies may be waning.

💡Equal weight index

An equal weight index assigns the same weight to each company in the index, regardless of its market capitalization. This type of index provides a more balanced view of market performance. The script notes that the equal weight index showed relative strength, suggesting a broader market recovery that is not solely reliant on AI-focused mega caps.

💡Macro

In the context of finance, 'macro' refers to the large-scale economic factors that affect the overall market or the entire economy, such as inflation, interest rates, and GDP growth. The script suggests that if the AI-driven market momentum fades, investors will need to pay more attention to macroeconomic indicators to gauge market direction.

💡Inflation data

Inflation data provides information on the rate at which the general level of prices for goods and services is rising, indicating the erosion of purchasing power. The script mentions that inflation data and its implications for the economy are still supportive of higher interest rates, which is a key factor influencing the strength of the dollar.

💡Interest rates

Interest rates are the cost of borrowing money and are determined by central banks. They have a significant impact on the economy and financial markets. The script suggests that current inflation data supports a 'higher for longer' interest rate regime, which is a critical consideration for investors.

💡Dollar support

Dollar support refers to factors that contribute to the strength of the US dollar in foreign exchange markets. The script indicates that the dollar is catching a bid, meaning it is becoming more attractive to investors, which is linked to the current economic conditions and the performance of stocks.

💡Yield

Yield in finance refers to the return on an investment, often used in the context of bonds. The script discusses the two-year yield, which is a measure of interest rates for short-term bonds. Its movement can be an indicator of market sentiment towards future interest rate expectations.

Highlights

The AI tide may not float all boats equally, indicating competition among mega-cap companies in the AI space.

Cloud companies and software stocks face challenges when they cannot back up their AI claims with earnings.

AI-related stocks experienced a hit when their guidance did not match the hype, suggesting an overdone reaction.

The equal weight index for the SNP showed relative strength, contrasting the usual market cap-weighted index performance.

Value trades and broad market improvements were observed, hinting at a shift from mega-cap dominance.

The market cap-weighted index is under pressure, with the exception of a late rally into the close.

Macro factors become more critical if the mega-cap and AI euphoria wanes, affecting the overall market direction.

The Round Hill chat ETF, despite being up since its debut, faced a significant rejection from its previous high.

A break in the AI Revolution trade could shift market pressure onto macroeconomic factors.

Dollar support is anticipated in an environment with persistent inflation data and interest rates.

The dollar tends to strengthen when stocks are under pressure, as seen in the recent trading week.

The focus for the upcoming week should be on interest rates and the dollar, with the two-year yield's rejection indicating potential macro problems.

If the two-year yield remains subdued, it could lead to a rotation similar to what was observed this week.

The broader market might perform better if mega-cap and AI-driven trades are not dominant.

Friday's late market rally could be a dip-buying opportunity, potentially reviving big tech and Nvidia trades.

Economic data will play a significant role in determining the market's direction in the absence of mega-cap tech trades.

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