Wall Street really needs AI to live up to the hype.
Much has been said about the global change of new technologies. Ace LSAT and MCAT, complete memorization research tasks, with the ability to create amazingly realistic images and videos. You can claim that you are ready to enhance or replace your entry-level job.
These features make investors extremely excited on the streets. Solid supporters like Fundstrat's Tom Lee and Wedbush's Dan Ives say AI can revolutionize the human experience. Research desks from major banks such as Goldman Sachs and Bank of America have given subtle nods to AI outlooks as productivity and profit boosters.
In fact, analysts hope that AI enthusiasts will fuel the market, despite the White House's chaotic trade policy digging into the potential profitability of American companies. The S&P 500 companies are projected to grow 8% this year, and the average year is pretty average. What is noteworthy is how dependent its growth is on the tech sector. Silicon Valley companies are expected to increase revenue by 21%. In contrast, retailers' profits are projected to increase by just 2.5%.
Within the tech sector, semiconductor companies, one of the most globally exposed industries in the stock market, are expected to surpass profits that are expected to rise by 49% this year. The enthusiasm is that Wall Street bets that demand for AI use cases will replace tariff disruption or job market wobble.
The growth of AI is incredible, and its adoption is strong enough to leave fingerprints in economic datasets such as business investments and manufacturing spending. But no matter how fierce the world is about AI's potential, it feels myopic, especially in the face of an increasing amount of economic uncertainty – the amount of which investors rely on technology to promote market profits. Tech stocks helped the market recover from its mal lazy April, but revenue expectations and economic momentum are even weaker than the lowest point of the sale. This combination leaves the stock market in a volatile place. AI may need to live up to the hype, or investors may be watching the second half of the year.
One way to tell the story of human history is that our technology, light bulbs, calculators, tractors, computers all existed as markers of our social progress and helped to promote the level of efficiency and productivity that we enjoy.
High-tech has probably played a similarly prominent role in investment portfolios. The seven epic stocks of Apple, Amazon, Alphabet, Alphabet, Meta, Microsoft, Tesla and Nvidia collectively worth $18 trillion, or about 33% of the total market value of the S&P 500. Together, their share price has risen 330% over the past five years, compared to a 100% rise in the S&P 500.
That makes sense. Big Tech's products are deeply integrated into our everyday lives, and that level of ubiquity is also attracting Wall Street's attention. Venture Capital's funding reached record in the first quarter amid a huge appetite for AI investment, with the S&P 500 company mentioning AI above tariffs in the second quarter conference call.
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The $65 trillion US stock market may be particularly held by the recent ups and downs of Big Tech, but this is not always the case. Tech has accounted for an average of around 20% of the S&P 500's market value over the past decade, including 13% five years ago to Covid. The advantage is not set on stone, and the broader market assets are now tied to technology, but that is not always the case.
The stock market may seem like a big proxy for the explosive growth of the tech sector right now, but there is one deeper connection that should attract investors' attention. Over time, the S&P 500 comes with the hip joint to the fate of the broader US economy. Of the last 12 market crashes, eight (S&P drops over 20%) coincided with the recession. No matter how much the industry is flying, recessions tend to bring stock prices and business hopes back to the planet. The internet revolutionized the world in the late 1990s, and the social media explosion dominated the 2010s, but the information sector eliminated employees and stock prices fell in the past three recessions.
Given that setup, we set the stage for the Portfolio Macdown of the era. Economists are worried that a recession will come, but investors are surprisingly bright about the AI outlook. Sellside analysts assessing corporate-level trends are equally optimistic. But in the real economy, layoffs are growing and employment is halted. The sharply different views between economists and equity analysts mean that someone has to be wrong. The adoption of AI is freight trains – a three-year story of rapid innovation and advancement – could collide with a massive barrier from historic tariffs, high interest rates and low consumer confidence.
What's particularly rich about this is that tech companies are the sectors most exposed to global tariffs. They collect the highest percentage of revenue internationally, and have the largest number of suppliers and factories outside the US border. In fact, semiconductor companies, which chips for AI technology, are expected to reach the aforementioned 49% revenue growth rate despite generating 67% of revenue overseas and raising 70% of supply from overseas.
Some analysts believe that if AI wants to keep the stock market going down together, they can do the same for the economy. After all, companies invested $2.2 trillion in computers and other processing equipment last quarter, adjusted for inflation. Investing more in AI will ultimately boost the economy, but $2 trillion is peanuts compared to the actual engine of the US economy. Americans' spending accounts for around 70% of GDP (the biggest driver of production), with spending declining in each of the last nine recessions. If tariffs threaten consumers and lead to layoffs that destroy American revenue, the economy is probably tied to a crisis, whether robots pan out or not. And based on history, the economic crisis could defeat the stock market.
Mathematics shows that AI is not very matched with some of the effects of tariffs, and may not be logistically sufficient to save the economy from ruin. But the outcome of your portfolio may be a different story.
This is when we have to introduce one of the most frustrating sayings about investing. The stock market is not an economy.
The economy is the value we generate: hard assets, cash usage, and the salary we get. Inventory is an expression of its value, but it uses current reality to project future expectations. The economic impact of AI may not bearable through numbers. However, in your portfolio, the impact of AI will depend on how good we dream of the future, in terms of what AI can do and how much money AI-dominant companies can earn over the next few years. Dreams are already a big part of AI trading. The S&P 500 high-tech company's estimated revenues rose by around 50% in 2023 and 2024, while the stock price rose by 112%.
When it comes to the stock market, there's nothing cut and dry. This is the ultimate tangled web of logic, psychology and mixed incentives. The future of the stock market relies on the ability of investors to dream, and people want to dream when they are confident in the present moment.
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The problem is that investors are currently very confident about high-tech stocks. The S&P 500 high-tech companies accounted for around 23% of total index profits in the first quarter, while stocks accounted for 32% of the S&P 500's value. To fill that gap, tech profits need to increase by 40%. Alternatively, tech stocks should drop 29% from the end of June levels.
Stocks can thrive if expectations are higher than reality, but these conditions require a reason to maintain hope. The problem arises when investors are willing to dream. When they are too focused on the current issue, giving the persuasive story the benefits of doubt. Or with a massive market decline crushed by financial tensions.
Secondly, numbers are important. People collect concrete evidence of the value of AI. They demand evidence of profits, even as businesses spend their money on pivoting on the next big thing. Stock prices will be adjusted. Also, if you own a range of US stocks or index funds, you will likely be exposed to this reality check.
This is what happened in 2000. Investors dreamed of this brave new technology called the World Wide Web until interest rates were too high. Suddenly, the dreams die, and the tech stock prices have returned to reality. Lately, we all know that dreams aren't completely off the base. However, before the promise of new technology came to fruition, the stock took an 80% crash.
This is what I worry most about in the AI-economic conflict. We're somewhere between AI saving the world and being an exaggerated bust of technology that can be torn apart by other countries. I'm not stupid enough to call this a bubble. I think AI will ultimately benefit our economy.
But even if investors want to think so, we're not there yet. It takes years for a big technological trend to take hold, and productivity shines when workers are usually empowered and businesses feel expanding. That's far from what it is for now – business confidence is in the dump, so we're in the opposite scenario.
When the economy is weak, it's best to grasp the reality in your portfolio. And there is a noticeable gap between AI and reality.
Callie Cox is the best market strategist Ritholtz Wealth Management Author Something OptimisticWall Street Quality Research Newsletter for Everyday Investors. You can view Ritholtz's disclosures here.
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