@theMarket: Handful of Stocks Key to the Markets' Direction

It was a slow week for news but that didn't stop the bulls from pushing the equity markets to new highs. But the number of stocks that are pushing stocks higher are fewer and fewer.

 

Day after day, and week after week. the S&P 600 and NASDAQ have made a series of new highs. Under the hood, however, just about all the gains have been led by ten stocks in the technology sector. Many investors saw no end to the gains and continued to pile into the Magnificent Seven and the AI Five. The stampede has been led by everyone's favorite stock, Nvidia.

 

This leading semiconductor stock now boasts more than a $3.35 trillion valuation. It is now the most valuable company in the S&P 500 Index. Some analysts are predicting the company's valuation will rise to $5 trillion over the next 12 months.

 

Traders were sure that the stock would take a breather after its 10-for-one stock split on May 22, but that was not to be. The shares continued to rise almost every day since then. The Bulls even have a new nickname, "Evergreen," for the semiconductor giant since it rarely has a red day.

 

Nivida and a couple of other stocks like Microsoft, Apple, Netflix, Broadcom, Google, and Meta now account for so much of the NASDAQ 100 and the S&P 500 Indexes, that where they go, so goes the market. The performance of just about everything else is dismal in comparison. Why just AI stocks and their counterparts?

 

Part of the attraction is that Wall Street can justify any price to buy into these stocks because the sky is the limit when it comes to the future of artificial intelligence. Every tech company can either claim to be in AI or will soon claim a higher valuation. It reminds me of the days when a company could lift its share price by adding dot com to its name. 

 

Around the globe, equity analysts keep upping their estimates on how much companies will spend on AI in the years ahead. To them, the internet boom was small potatoes to what unfolds in the AI universe. There is no way to prove (or disprove) these predictions.

 

On Friday, Nvidia's weighting in the $71 billion Technology Select Sector SPDR Exchange Traded Fund (symbol XLK) was expected to substantially increase via a rebalancing of that fund. This additional buying power from XLK had goosed the stock price this week in anticipation.

 

Compared to AI, therefore, the rest of the stock market is a humdrum place. Why buy anything else when all the action is in stocks like Nvidia? To me, however, that is an increasingly risky bet that relies on the greater fool theory that there will always be someone else to buy my stock at a higher price. 

 

In the meantime, the overall market remains supported by traders who are convinced that the Fed will have to cut interest rates multiple times before the end of the year. The Fed, of course, continues to say no way. Over the last two weeks, members of the Federal Open Market Committee have warned the financial markets that there are no immediate plans to cut interest rates.

 

Traders are not buying it. The bulls remain convinced that the central bank will soon see that inflation is trending lower, unemployment is rising, and growth is moderating. While the data still doesn't confirm any of these assumptions, animal spirits tend to ignore the facts sometimes in favor of price momentum. I suspect that if the Fed does not say categorically "There will be no cuts this year," the markets will hear what they want to hear. In the meantime, the idea that a rate cut is just around the corner will continue to drive bullish sentiment. Until it doesn't.

 

Markets are stretched but everyone knows and ignores it. Seasonally, it is a bullish period for the markets. I am riding the market higher but peeling off positions as stocks climb. I expect a pullback in the market anytime now, so be prepared. It won't be anything more than a 3-5 percent decline but it will feel far worse. I think we then bounce before a possible steeper decline in July.

 

Bill Schmick is the founding partner of Onota Partners, Inc., in the Berkshires. His forecasts and opinions are purely his own and do not necessarily represent the views of Onota Partners Inc. (OPI). None of his commentary is or should be considered investment advice. Direct your inquiries to Bill at 1-413-347-2401 or email him at bill@schmicksretiredinvestor.com.