Bonds Base As AI Bliss Fades

With weak earnings sinking AI stocks, the narrative of perpetual capEx creating perpetual revenue growth came under immense pressure. And with the developments unfolding exactly as expected, I warned on October 10 that a Minsky Moment was approaching. I wrote:

“Since the cyclical stress is obvious, and the AI trade is the only thing holding up risk assets, its downfall is a major catalyst for bonds. And with long Mag 7 just as crowded as short bonds, fast-money traders are playing with fire. Hedge funds’ net exposure to the Mag 7 is at or near a record high. Thus, any surprises during earnings season could cause a major shift in the narrative, sentiment, and then, positioning….

[Also], the Mag 7’s relationship with bond volatility is flashing a major warning sign.

To explain, the blue line above tracks the MAGS/SPY ratio, and when it rises, it means the Mag 7 are outperforming the S&P 500. The black line tracks the inverted (down means up) MOVE Index — which tracks interest rate volatility.

If you analyze the relationship, you can see that rates vol has surged (falling black line), and the Mag 7 typically underperform when this occurs. So, while hiding in Big Tech remains the game plan for hedge funds, the rubber band could snap at any moment and ignite a short-covering rally for bonds.”

Well, with the rubber band snapping and the bad news compounding, the Mag 7, S&P 500, and semiconductors are now feeling the pain rippling through the rest of the market.

To explain, the blue line above tracks the Mag 7 ETF, while the black line above tracks the MAGS/SPY ratio. As you can see, the Big Tech giants have fallen sharply since October 10 and have underperformed the S&P 500 along the way. Thus, the outlook remains highly ominous, and bonds are poised to benefit as the AI trade unwinds.

The risks of a credit crisis are rising, and subscribers are fully informed on how to manage volatility and think like a professional investor.

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As always, I appreciate your questions and feedback, so please comment below if anything is on your mind.

See you next week,

Alex Demolitor, CFA