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Four of the so-called “Magnificent Seven” technology stocks that have driven the U.S. market rally over the past nine months ended the week in a correction, down more than 10% from recent highs.
Microsoft and Amazon are both nearing double-digit declines that would signal a correction, and investors are focused on more tech earnings reports next week amid worries about lofty valuations and the risk that revenue from big spending on artificial intelligence may not live up to initial expectations.
Nvidia and Tesla are each down 17% from their recent peaks, while Meta and Google-parent Alphabet are down 14% and 12%, respectively. Apple was the best performing of the group, dropping just 7%, while Microsoft and Amazon are down about 9% each.
On Wednesday, Alphabet Inc.'s shares fell more than 5%, triggering a market-wide sell-off, on concerns about its AI investments, despite reporting strong quarterly operating figures. Its capital expenditures for the quarter were $13 billion, nearly double the level a year ago.
“For a long time, investors have been lulled into the assumption that investing in AI — spending money — is a good thing in itself,” says Max Gokhman, senior vice president at Franklin Templeton Investment Solutions. “Now investors are saying, 'Hold on a second, how much of a productivity gain do you think we're going to see and when?'”
Alphabet's decline helped the tech-heavy Nasdaq Composite Index suffer its worst one-day drop in 18 months, 3.6% on Wednesday. The index ended the week down 2.1%.
Earnings due next week from Microsoft, Meta, Apple and Amazon could provide a new test of investor confidence in the AI story that has been a key driver of the market rally.
“Expectations are high for Mag Seven, the valuation isn't cheap and we're approaching a time when revenues across the group of companies that benefit from AI are going to slow,” said Josh Nelson, head of U.S. equities at T. Rowe Price.
Investors also showed this week they are willing to punish companies that don't live up to expectations. Tesla fell 12% on Wednesday after sales slowed and its AI investments hurt profits more than expected. Ford shares also fell 18% on Thursday after the company's profits fell short of expectations due to unexpectedly high warranty costs.
According to FactSet data, shares of companies that missed expectations fell an average of 3.3% around the time of their earnings announcements, beating the 2.3% average over the past five years.
On average, shares of companies that beat expectations did not rise, according to a FactSet report.
“We're seeing a slightly more pronounced trend of greater rewards for missing expectations than for beating expectations,” said Liz Ann Sonders, chief investment strategist at Charles Schwab & Co. “There's a sense of uncertainty and unease about how fast the market will move, driven by these stocks, without a commensurate improvement in future earnings prospects.”
Saunders also noted that the ongoing earnings season coincides with a “rotation” of investors prioritizing exposure to smaller companies that are likely to stand to gain big if the Federal Reserve starts cutting interest rates in September.
The Russell 2000 small-cap index rose 3.5% this week, while the S&P 500 blue-chip index fell 0.8%.
