Weekly market commentary

A market shift in the AI narrative
S&P sector performance, past 6 months

The market has been laser-focused on identifying companies exposed to AI disruption - and sorting out which ones it thinks will be able to evolve and adapt. The phenomenon is rippling through industry sectors, but software has been ground zero. New AI agents can take on software-linked tasks, for example, potentially eroding the competitive moat some software companies have enjoyed for decades. The change in the AI narrative has triggered indiscriminate selling of these firms, resulting in a marked performance divergence within tech sectors. Software providers have underperformed sharply in the past six months, as the chart’s red line shows. By contrast, sectors essential to the AI buildout – such as semiconductors and hardware – have advanced.

Indeed, we are still firmly in the AI buildout phase. The mega cap tech companies are spending heavily on chips, data centers and power infrastructure. This is a key reason why we still like infrastructure. What has changed is the market’s focus: it now asks how AI adoption will translate into revenues and profits. This sorting of winners and losers means it’s prime time for active investing, as we emphasized in our 2026 Global Outlook. The broad software selloff shows how markets can miss nuances in the near term. Case in point: Software companies with proprietary data, mission-critical workflows or strong customer relationships can leverage AI disruption and thrive, we believe. It’s key to apply such a granular lens beyond public markets. Software makes up a sizeable portion of many private equity funds, so AI disruption could be existential for some portfolio companies. Private credit is likely more shielded, in our view, as much of its software exposure is in short-term and senior-secured debt.

Leveraging up theme in action

As the sorting process accelerates, the AI builders are locking in long-term financing to fund capex. Alphabet recently raised $20 billion in the U.S. investment grade market and is reportedly preparing a 100-year sterling bond. The issuance bonanza reflects our Outlook’s leveraging up theme: Investment is occurring now, and revenues will follow later, with credit bridging the gap. The problem: Rising corporate borrowing adds supply to bond markets struggling to digest large public deficits. The AI mega force is so powerful that it drives the macro environment, compounding any upward pressure on interest rates.

Such pressures simmered in last week’s U.S. jobs report, which showed wage growth consistent with inflation settling above the Federal Reserve’s 2% target. The pressure could abate if AI productivity gains can break U.S. growth out of its longstanding 2% trend. We see a credible path for that to happen some day, but recent U.S. jobs data do not yet show that sectors exposed to AI are cutting hiring. We stay underweight long-term U.S. Treasuries as a result, and we’re selective in credit. The AI builders have largely tapped the U.S. investment grade market, so we prefer high yield and European bonds.

Our bottom line

We’re still in the AI buildout – but markets are now focused on a search for losers in the AI adoption phase. We favor U.S. equities, with selectivity crucial as dispersion widens. We prefer selected credit over long U.S. Treasuries.

Market backdrop

The S&P 500 fell on the week as the selloff of sectors seen as vulnerable to AI accelerated. U.S. 10-year Treasury yields hit a five-month low after U.S. January core CPI met expectations. This matched the picture from earlier in the week: an upside surprise of U.S. jobs data consistent with inflation settling closer to 3% than the Federal Reserve’s 2% target. That suggests monetary policy will remain restrictive, keeping markets highly sensitive to incoming inflation and growth data.

We’re watching U.S. core inflation this week for additional clues on the path of interest rates. Any changes would affect financial conditions for the ongoing AI buildout. We expect fourth-quarter GDP growth to moderate from the strong 4.4% annualized pace in the third quarter, while still reflecting strong underlying momentum.

Read our past weekly commentaries here.