In a week marked by a lack of significant news, the equity markets continued their upward trajectory, with tech stocks leading the charge. The S&P 600 and NASDAQ reached new highs, but the gains were primarily driven by a select few stocks in the technology sector. Among them, Nvidia emerged as the star performer, boasting a staggering valuation of over $3.35 trillion and becoming the most valuable company in the S&P 500 Index.
Investors, seemingly undeterred by the stock’s recent 10-for-one split, continued to pour into Nvidia and other tech giants such as Microsoft, Apple, Netflix, Broadcom, Google, and Meta. These companies now hold such substantial weight in the NASDAQ 100 and S&P 500 Indexes that their performance dictates the overall market sentiment. Meanwhile, the performance of other stocks pales in comparison.
The allure of artificial intelligence (AI) plays a significant role in the attraction towards these tech stocks. Wall Street justifies sky-high valuations for AI-focused companies, as the future potential of AI is believed to be limitless. This phenomenon is reminiscent of the dot-com era, where companies could boost their share prices merely by adding “dot com” to their names. Analysts worldwide are continuously revising their estimates on AI spending, surpassing the internet boom in terms of projected growth.
On Friday, Nvidia’s weighting in the Technology Select Sector SPDR Exchange Traded Fund (symbol XLK) was expected to increase significantly through a rebalancing, further fueling the stock’s rise. As a result, the rest of the stock market appears lackluster in comparison, prompting many investors to concentrate their investments in tech stocks like Nvidia.
However, this concentrated focus on a handful of stocks carries inherent risks. Relying on the greater fool theory, which assumes that someone else will always be willing to buy at a higher price, is increasingly precarious. While the overall market remains supported by traders who anticipate multiple interest rate cuts by the Federal Reserve, the central bank has repeatedly stated that such cuts are not imminent. Nonetheless, bullish sentiment persists, driven by the belief that inflation is declining, unemployment is rising, and economic growth is moderating.
Despite the absence of concrete evidence supporting these assumptions, market participants often prioritize price momentum over factual data. Should the Fed fail to categorically state that there will be no rate cuts this year, the markets are likely to interpret their statements favorably. In the meantime, the prevailing notion that a rate cut is on the horizon will continue to drive bullish sentiment until circumstances change.
While the market remains stretched, investors are aware of this fact but choose to disregard it. Seasonally, this period favors bullish market conditions. However, caution is advised, as a pullback is expected in the near future. Although it may only amount to a 3-5 percent decline, it is likely to feel more significant. Following this anticipated pullback, a bounce is expected before a potential steeper decline in July.