AI return doubts expose the US stock market's vulnerability

Summary

After the US midterm results and a heavy tech sell-off, investors are asking one question: will the enormous spending on artificial intelligence deliver the returns it needs? That doubt could force a rethink of corporate earnings forecasts.

Liquidity and financial conditions

• Friday's rebound failed to offset the tech rout; the Nasdaq 100 posted its biggest daily drop since the pandemic on Thursday.
• The Bloomberg US Financial Conditions Index has tightened toward levels last seen in the first days of the Iran war in March.
• Analysts see a fast, powerful rebound as unlikely in the short term.

Inflation and the Fed

• US October CPI (Tuesday 10 November) is the key data point of the week; core inflation beat expectations in August and September.
• Traders have trimmed the odds of a December rate hike.
• Lower yields and a less hawkish Fed could support equity valuations.

The AI investment risk

• Huge capital spending, crowded AI trades and uncertain future returns have raised the sector's risk.
• Barclays estimates that about 80% of potential 2027 data-center projects will sit in states with Democratic governors, up from under 30% this year.
• Tougher permitting, grid constraints and higher connection costs could delay data-center construction and pressure chip-supply-chain revenue.

Semiconductors and earnings

• The Philadelphia Semiconductor Index (SOX) is near the bottom of its 10-year valuation range and has lost its premium to the S&P 500.
• Current earnings-growth forecasts: 29% for 2026, 19% for 2027 and 16% for 2028; these could be cut.
• Dario Perkins sees three drags on 2027 earnings: a fading boost from higher energy prices, slower AI investment and a shift in US growth from productivity to employment.

Two scenarios

Scenario	Likely outcome
AI spending slows	Lower inflation and yields, support for equity valuations
Tariffs return or Iran tensions escalate	Weaker growth with higher inflation, oil and yields

Bottom line

The main risk is no longer just expensive tech stocks but doubt about the real return on AI investment and the chance of slower earnings growth. Even so, big tech is still spending heavily on data centers and chips, and some fund managers see valuations as more attractive after the correction, provided end demand for AI does not collapse.

Market impact: continued risk-off usually favors the yen, the franc and gold and weighs on the Nasdaq; Tuesday's CPI will set the dollar's direction.

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Sources: Bloomberg, Barclays