Weekly Market Overview

Now that calm (or is it the calm before the storm?) has returned to the bond markets, investors’ attention has once again shifted to the stock market—and more specifically, to earnings season, which is in full swing. And that earnings season, just like the stock market itself, is dominated by the debate surrounding AI. There are two sides to this debate. On the one hand, there is the question of how the growing investments in AI infrastructure will be financed. On the other hand, there is the question of which business models will benefit from the adoption of AI and which will come under pressure.

Alphabet’s earnings report brought this debate into sharp focus. First, it became clear that the expansion of AI infrastructure can no longer be funded from free cash flow. On the contrary, Alphabet raised a whopping 41 billion to plug the gap and scrapped its share buyback program. Second, the company confirmed that AI search queries generate less advertising revenue than traditional search queries. The latter have historically been Google’s main source of profit. The stock lost 13%, its largest single-day loss in history. Microsoft, by contrast, fared well: Azure grew 48%, capital expenditures came in 14% lower than expected, and free cash flow was more than double the estimates. And even the much-maligned Oracle reassured the market: it promised to limit its capital market borrowing to $20 billion through 2030 and was the first to specify the year in which its own investments would begin to decline again. Its stock jumped more than 10%.

The debate surrounding “AI losers” flared up again, with weak results from ServiceNow and Fortinet, both down 20%. Although all software companies now have an AI offering, it appears to be too small compared to their “old” business, which is coming under increasing pressure due to subscription revisions.

So the market values visibility, both in terms of cash flow and business models. This likely also explains why semiconductor stocks and the AI infrastructure theme have stabilized. So far, visibility in those areas remains strong. The real rotation, however, was toward non-tech-related sectors, with consumer stocks and healthcare standing out. And that makes sense: central banks, the Bank for International Settlements, prominent fund managers, and economists have been warning for some time that both the stock and bond markets rely heavily on a single scenario: the success of AI. Investors are aware of this and are actively seeking opportunities to diversify.

One diversification strategy that certainly didn’t work out last week was Brazil. Both stocks and bonds were popular among investors because of their exposure to commodities and in anticipation of Bolsonaro’s election, as he had promised tighter fiscal policy and deregulation. Lula unexpectedly won a fourth term on Sunday, and on Monday the Bovespa fell 13.9%, with trading halted after an intraday drop of 17%, while the real lost 12% against the dollar at its lowest point.

The week ends on a mixed note, with both the bulls and the bears finding support for their views. The bears point to a market that rewards caution in AI infrastructure investments and punishes vulnerability to AI adoption. The bulls emphasize that money isn’t leaving the stock market, but is shifting toward more defensive and previously underperforming market segments. Next week, the U.S. midterm elections will take place. They may provide more direction to a market that has been moving sideways for months.