Does the correction in chip stocks represent a new rotation for AI investors?
Can chip stocks resume their growth trend?
With memory stocks among the biggest losers in last week’s pullback, Learmonth acknowledges that the memory manufacturing industry’s historical cyclicality may be in the minds of some investors. However, he argues that the long-term supply and demand imbalances for memory are so extreme, that memory manufacturers may have broken out of their cyclicality and any real shift will take far longer to emerge than it might have in the past. The three companies that manufacture the vast majority of the memory chips needed by AI still have huge pricing power and the scale of production required to meet or exceed growing demand is years away.
Broadly speaking, Learmonth sees that fundamental picture holding across the semiconductor space as the AI data center buildout continues. He acknowledges that markets may trade on sentiment to some degree, but that the underlying strength of earnings in the hardware and semiconductor space should push it back into growth mode. He acknowledges, though, that the likely growth of this sector will not be as steep as it was before. He believes that a slightly slower growth rate should be healthier for the sector overall.
Moreover, within the technology sector Learmonth doesn’t see any reasonable replacements for leadership. Software, with the notable exception of Palantir, has shown itself to still struggle with risk from AI disruptions rather than strength from AI adoption.
Coping with volatility and AI’s ‘inevitability’
The correction in chip stocks may come with additional lessons for advisors and investors beyond market narratives. The power of FOMO and the tendency to chase returns was writ large once again on some of the later investors in this sector. FOMO that has only been exacerbated by the wider popular discussion of AI as ‘inevitable,’ its buildout as ‘generational,’ and its promise for investors as ‘transformational.’
Amid all those noisy forces telling clients to go all in on today’s big AI winners, Learmonth says this recent pullback is another object lesson in diversification. Leading momentum names, he says, can correct sharply while previous laggards rebound. Diversification and balance can help with that. He argues, as well, for more equal weight allocations if investors are using index funds for this sector. The market cap run-up in some leading names has been so significant that cap-weighted index funds can be far more concentrated than they appear. Equal weighted funds, he says, offer a truer diversification.
