:max_bytes(150000):strip_icc()/GettyImages-2251627835-9dec2f367795466baaaf0a67e6e1c515.jpg "As Tech Stocks Faltered, These Sectors Picked Up the Slack")
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Key Takeaways
- Tech stocks have lagged value and small-cap stocks this quarter, a reversal of the trend that prevailed earlier this year.
- Investors are increasingly anxious about big tech’s AI investments, while interest rate cuts by the Federal Reserve have shifted sentiment toward small-caps and financials.
Tech investors are smiling today, but they’ve had a tough time lately. Many value-oriented assets, meanwhile, have been feeling the love.
The tech-heavy Nasdaq Composite, despite gains in the back half of this week, has underperformed the blue-chip Dow Jones Industrial Average and the small-cap Russell 2000 over the past several months. Heading into Friday, the Nasdaq had risen about 1.5% since the start of the fourth quarter, about half the return of the Russell or the Dow. While the benchmark S&P 500 is off its October highs, Deutsche Bank wrote this week, the average stock in the index is higher.
That marks a sharp reversal from the rest of the year: The Nasdaq rose more than 17% through the first three quarters, while the Dow and the Russell added about 9%.
Why This Is Important
The mega-cap tech stocks that powered stock market gains throughout the year have faltered in recent months as investors upped their scrutiny of the AI boom. Their underperformance has diminished the returns of capitalization-weighted stock indexes, while value stocks and small caps have risen.
Tech stocks have been pressured in recent months by increased scrutiny of the AI rally. Investors grew more worried this quarter that tech companies may not see a return on their massive AI investments anytime soon, if at all. Wall Street is increasingly demanding that tech companies justify their high stock valuations with evidence AI is sustainably increasing sales or expanding their margins. Anything short of a historic earnings report has lately failed to impress investors.
Healthcare stocks have been among the biggest beneficiaries, with the sector up more than 13% over the past three months. Financial stocks have also gained ground recently: The sector is up more than 6% over the past month. Adam Turnquist, Chief Technical Strategist at LPL Financial, in a note this week cited “rising demand for smaller-cap and value stocks.”
Some investors expect the rotation to continue into the new year. “I still think tech is going to remain the leader,” Mary Ann Bartels, chief investment strategist at Sanctuary Wealth, told CNBC on Friday. “I just think it needs a period of rest, consolidation.”
The Federal Reserve earlier this month cut interest rates for a third time this year, and after this week’s surprisingly tepid inflation report, Wall Street is expecting more cuts next year. That should benefit small caps, which tend to have more debt and thus are more sensitive to interest rates. It could also further boost the financial sector by stimulating borrowing and corporate mergers.
“Factors such as reduced regulation [and] lower capital requirements, an improving environment for deal-making, and a favorable macroeconomic backdrop for trading may provide further tailwinds for banks in the coming year,” LPL’s Turnquist wrote in a note last week.
