The historic rotation of the US stock market has begun, and the booming technology stock market has once again encountered a Waterloo.
On Wednesday, July 24th local time, the seven tech giants in the US stock market, including Google, Apple, Microsoft, and Meta, experienced a "darkest moment", with a daily market value evaporation of $768 billion, the largest daily decline since October 2022, and also the biggest setback for tech stocks since ChatGPT ignited the AI market. The Nasdaq Composite Index, dominated by technology stocks, also plummeted by over 3.6%, marking its largest single day decline since the end of 2022.
From the weekly performance, the "Big Seven" have all fallen this week, with a total market value shrinking by about $2 trillion since July 10th. In fact, before the current round of selling, the analysis of AI's "foam theory" has heated up in the market, and many investment banks have thrown out empty talk, questioning whether large-scale investment in AI can bring corresponding returns in the future.
The second quarter financial report released by Alphabet, the parent company of Google, further confirms Wall Street's concerns. After sorting out the revenue of Google's cloud and search businesses, reporters from the Daily Economic News found that the revenue growth of these two AI related businesses has not shown a steady upward trend in the past year, and the growth rate cannot match Google's investment in research and development. Therefore, despite better than expected performance, Google closed down over 5% on the 24th, its worst performance in six months, and fell nearly 3% the next day.
The rare setback of the "Big Seven" may become a witness to a new turning point in the AI wave. Next week, tech giants such as Microsoft, Apple, and Meta will release their financial reports, and the market may face greater challenges.
Insight into Google's financial report: AI business growth difficult to match huge expenses
For Wall Street investors, July 24th local time is the most thrilling trading day since the beginning of the year: driven by the trend of Tesla's deep decline due to poor performance in the second quarter of this year, the "Big Seven" of the US stock market, which has been booming in the past two years, suffered the largest single day decline since October 2022, officially falling into the 10% correction zone, and the market value evaporated by the US stock market for the whole day exceeded $1.1 trillion. Among them, Tesla closed down more than 12%, while Apple had the smallest decline, about 2.9%.
On that day, the S&P 500 index fell more than 2%, and the Nasdaq Composite index fell more than 3.6%, both of which recorded their largest daily declines since the end of 2022.
The reason why technology stocks have suddenly suffered this "disaster" is that the market has realized that despite the high cost and investment associated with this vigorous AI narrative, which has lasted for nearly two years, it seems that a path has not yet been found to achieve returns that match the investment.
After the stock market closed on July 23rd, Google's parent company Alphabet released its Q2 financial report, showing good growth in its search and cloud businesses, but lower than expected advertising revenue on its YouTube video platform. In addition, Google expects further growth in expenses in the third quarter, leading investors to worry about its future profit margins. More importantly, the earnings of the AI department have once again disappointed Wall Street. As of the close of the US stock market that day, Google had fallen sharply by more than 5%.
Alphabet Financial Report
Every journalist noticed that Google's main business is divided into Google Search, Youtube Advertising, Google Services, Google Cloud, etc. The search business and cloud business are closely related to AI.
After carefully breaking down the revenue of recent quarters and comparing it with the R&D expenses of the current quarter, the reporter found that the revenue growth of Google's cloud and search businesses has not shown a steady upward trend in the past year, and the growth rate is far from matching the increase in Google's investment in R&D.
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According to foreign media reports, Alphabet invested $2.2 billion in DeepMind and Google Search in the second quarter of this year to build AI models, which is higher than the $1.1 billion in the same period last year. However, it is still unknown when AI will start generating revenue for cloud and even advertising businesses.
Although Alphabet did not disclose the specific proportion of its total AI R&D investment in its financial report, a recent environmental report released by Google revealed the scale of its AI investment. In 2023, to expand its AI data centers, the company's carbon dioxide emissions will increase by 13% compared to 2022.
Moreover, Alphabet plans to invest at least $12 billion per quarter by the end of 2025, even though this may affect profit margins. Google CEO Sundar Pichai emphasized during the earnings conference call that the risk of underinvestment far outweighs the risk of overinvestment.
Besides Google, OpenAI has also been exposed by foreign media that it may lose $5 billion this year. The company's estimated annual revenue is between $3.5 billion and $4.5 billion, but the total cost could be as high as $8.5 billion.
Goldman Sachs analyzed in a report on June 27th the significant investments made by tech giants in AI infrastructure, including investments in data centers, chips, and other artificial intelligence infrastructure, as well as power grids. However, so far, these investments have hardly shown significant results.
David Cahn, a partner at Sequoia Capital, also pointed out that the technology industry needs to generate approximately $600 billion in annual revenue to offset all current investments in AI, but this number is far from being reached.
"AI foam" accelerates to burst? Wall Street Debate
As giants leading the wave of generative AI, Google and OpenAI's challenges in AI revenue have also intensified Wall Street's concerns about whether AI can become a growth driver.
Every reporter noticed that the "AI foam theory" had existed for some time before the sharp adjustment of the market. Some people believe that the rapid development of AI has given birth to a foam, which has brought a 9 trillion dollar appreciation to the S&P 500 index in the past year.
At the beginning of this year, Morgan Stanley issued a warning that the strong performance of the stock market by the end of 2023 had pushed stock valuations to levels that may not be sustainable. The current expectation of price to earnings ratio and low equity risk premium indicate that investors face limited upward space and increased risk.
According to data from the London Stock Exchange, the P/E ratio of the S&P 500 index is close to 22 times expected earnings, the highest level in over two years and much higher than the average level of the past 10 years (18 times). Although the sharp fall of the "seven giants" of technology on Wednesday may not be the beginning of the foam burst, the huge decline is increasing investors' concerns.
According to Morgan Stanley and Goldman Sachs, hedge funds have been reducing their exposure to US stocks over the past two weeks due to concerns about a change in sentiment surrounding technology stocks that could erase gains from earlier this year. Morgan Stanley announced on July 25th that its computer driven macro hedge fund strategy sold $20 billion worth of stocks on Wednesday and expects to sell at least $25 billion in the coming week, making it one of the largest risk liquidation events in a decade.
Under the acceleration of the rotation of technology stocks, the change in market sentiment is also one of the possible factors exacerbating the recent market downturn. Last week, demand for Nvidia put options exceeded call options, reaching a five month high. In addition, some analysts believe that the recent headwinds for technology stocks are also due to the rapid rise in expectations of the Federal Reserve's interest rate cuts, accelerating the outflow of funds from the US stock market.
However, in the eyes of some other analysts, the market's reaction this time is excessive and more of a short-term fluctuation. They believe that in the upcoming US earnings season, Wall Street will better digest the performance of tech giants and broader trends in AI technology development.
Although investors may be concerned about the massive spending wave and feel frustrated about the profit growth rate or difficulty in achieving profit margins that these massive investments will bring... we strongly oppose this pessimistic view, as this spending wave further confirms the existence of the AI revolution, "wrote a Wedbush analyst team led by Dan Ives in an investor report.
Wedbush also reiterated its optimistic bullish stance on US technology stocks and once again expects the tech focused Nasdaq Composite Index to rise another 15% to 20% by the end of this year.
The Chief Investment Officer of Truist also expressed a similar view, writing in the report: "Although technology stocks are experiencing a pullback after their strongest two months of performance since 2022, the long-term bull market is expected to remain intact
Dan Coatsworth, an investment analyst at AJ Bell, an investment platform enterprise, believes that next week, Microsoft, Meta, Apple and Amazon will release their results one after another, and Nvidia will release its financial report at the end of August. When the data is released, we may know whether this is the necessary adjustment to eliminate the foam.
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