Wobble Wobble

After a two-month rally in AI, some of the plates are starting to wobble.

Unsurprisingly, the Artificial Intelligence fever broke on Friday. With a sudden, sharp sell-off of 3-4% across many favourites, investors received a face slap after an unfettered run-up. Semiconductors and Hyperscalers sank amid concerns about a glut in capital raising by leading AI Megatechs. Much to the chagrin of underwriting brokers, the rush to market of AI-related private companies, OpenAI, Anthropic, and SpaceX, has been called into question. Is a failed IPO - one that falls below its issue price - in our future?

It seems unlikely, given that FOMO is still driving this bull market. Artificial mismatches between supply and demand orchestrated by Wall Street's savvy underwriters almost guarantee success. The SpaceX 'book' has $150B in buy orders for the $75B offering. And sell orders are virtually prohibited in the aftermarket, as underwriters monitor client activity closely. But the real key, given the recent tepid reaction to Alphabet's $80B secondary offering, is the 'tell'. The stock has softened despite Berkshire Hathaway's anointment, which shows a level of satiation; the market is getting tired!

This morning's rumour of OpenAI's intention to launch makes the rush to market even more critical to extending the AI bull market. Apple has taken a hard pass on joining the capital-raising party, but only because its strategy is to watch the data center buildout from the sidelines. But even that decision - demonstrating caution on AI adoption rates- could cause hesitation among the tech crowd, further dampening sentiment.

And that's even before we talk about valuation. In the ultimate example of 'old man, yelling at clouds,' I'm in the camp that SpaceX at $1.8T is overvalued relative to any future earnings it could possibly produce. Elon Musk's ketamine-fuelled hype of a $28T total addressable market (TAM) notwithstanding, the majority of AI watchers are skeptical of the adoption and penetration of AI-related applications that those estimates imply for his conglomerate. And rumours of a tuck-under of Tesla, a money-losing Company, are also circulating, further confusing the investment thesis for SpaceX as a pure-play on AI.

But only time will tell if one of these plates falls off the stick before the market magicians can give it a helpful spin to continue the show. Negatives are accumulating fast now. The bond market remains concerned about inflation, as the Iran impasse drags on despite Trump's insistence on an imminent resolution. Push-back from NIMBYs and environmentalists is slowing the data center build. Privacy and free speech concerns are generating political policy challenges that could add regulatory burden. And the income inequality implications of AI's creation of instant billionaires are generating backlash even from some GOP candidates in the run-up to the Midterms.

But all these worries should ultimately be shrugged off. Risk-seeking investors have always been boundlessly optimistic. Imagine not buying into Union Pacific, General Electric, Ford Motors, and Apple in their early stages. The transformative technologies that those companies benefited from were ultimately hugely profitable for each of them. In addition to all its perceived benefits, the starry-eyed AI narrative is also a powerful greed-producer for investors programmed for buying the dip - as they are doing this week.

The current speed bump notwithstanding, the bull market will end not on a surge in supply but on the collapse of demand. For that to dominate the conversation and truly end the cycle, we need the Fed to reverse its easing bias and actually posit a rate hike. A sharply lower oil price, which would reverse inflation in the short term, could forestall that discussion. But with that will come broader economic growth and a concomitant market breadth that is currently concerning many market bears. But if that growth spurt drives higher inflation, bonds will quickly give back their gains, forcing the Fed's hand once again.

And when that plate drops, the show will truly be over.

Risk Model: 4/5 - Risk On

Only the AAII Sentiment indicator is in negative territory, and should the IPO flurry go well and Trump's Iran deal actually be inked, they will join the party shortly. The VXV indicator backed off sharply yesterday after the Friday funk, and Copper is still besting Gold, reflecting AI capex demand growth.

As a measure of market breadth, the ratio of equal-weighted to cap-weighted indexes is still recovering from the damage caused by the energy shock and AI mania. The oil price situation represents a binary outcome for this ratio, as the ex-AI economy continues to struggle without some supply cost relief.