After DeepSeek, a Chinese artificial intelligence company, appeared to shock investors’ perceptions of winners and losers in the stock market’s AI obsession, the technology sector of the S&P 500 just finished its worst week since early September.
Fears about DeepSeek abruptly surfaced in the U.S. equities market, dragging down damaged tech firms and causing the S&P 500 SPX and Nasdaq Composite COMP to conclude Friday with weekly losses. Nvidia Corp. (NVDA), a manufacturer of AI chips, saw a $552 billion decline in market value this week through Friday as its stock struggled to recover following a 17% drop on Monday.
Rob Arnott, the founder and chairman of Research Affiliates, stated over the phone on Friday that “nobody saw DeepSeek coming and doing the same thing” as OpenAI, but with what appeared to be less expensive, less potent processors.
Although he clarified that investors did not believe that company DeepSeek would “blow OpenAI and Microsoft and Google out of the water,” it raised concerns about “how big a moat” firms like Nvidia, OpenAI, and Microsoft Corp. (MSFT) have to defend against their rivals.
Investor hope that generative AI will boost corporate profits and productivity in the U.S. economy has helped big tech stocks. Over the past few years, Nvidia, a semiconductor business, has experienced a sharp increase in value due to the anticipation that wealthy Big Tech firms like Microsoft and Facebook parent Meta Platforms Inc. (META) will spend a significant amount of money on its AI chips.
“Bubbles are fueled by narratives,” cautioned Arnott. “Disrupters get disrupted shockingly fast.”
According to him, the winners and losers may not be the same as those who are currently viewed, even though the narrative that AI will be “huge” and “change the world” may be accurate. Similar to the dot-com boom of the late 1990s, when the internet was thought to be revolutionizing the world, the concern today is that stock prices are already reflecting such storylines, according to Arnott.
Research Affiliates stated in a research earlier this week that “the ‘picks and shovels’ segment of the AI stack – Nvidia, for example – has been the early winner thus far.” “But the true champions – the Googles and Apples of the AI boom – will be those firms that develop the yet-to-emerge ‘killer apps.'”
Due to the enormous market values of a select few Big Tech companies, the S&P 500, a capitalization-weighted index of large-cap stocks in the United States, has experienced a sharp increase in value in recent years. Since the current bull market started more than two years ago, the S&P 500 has risen thanks to megacap stocks like Apple Inc. (AAPL), Microsoft, Nvidia, Amazon.com Inc. (AMZN), Google parent Alphabet Inc. (GOOGL) (GOOG), Meta, and Tesla Inc. (TSLA).
“Big 4 capex plans remain solid despite lower-cost models like DeepSeek’s,” UBS Global Wealth Management’s chief investment officer for the Americas, Solita Marcelli, stated in a report on Friday. “With a robust AI view from both Microsoft and Meta, we still expect the combined capital investment by the Big 4 tech giants (Alphabet, Amazon, Meta, Microsoft) to climb 25% this year” to $280 billion,” she said. She considered this “a plus for the AI compute sector.”
In order to maintain sectoral stock diversification, Arnott advocates a value-investing strategy based on the Research Affiliates Fundamental Index. In contrast to the S&P 500, the index weights the largest U.S. companies—including well-known Big Tech stocks—based on fundamental indicators including cash flow, dividends, and book value rather than their market capitalizations.
According to Arnott, “if investors want a margin of safety,” they shouldn’t put all of their money in the S&P 500 because of the “Magnificent Seven,” or Big Tech stocks, which dominate the market. “The warning from the dot-com bubble is a sobering one,” he said, giving the example of how none of the top ten tech companies at the time did better over the following 15 years.
He remarked, “That’s a long time to wait,” Even if AI-related companies “perform brilliantly,” that could not be enough “to hold up the price” of their stocks, which is the “danger” for investors.
According to Research Affiliates, which cites data as of January 22 in the table below, the AI frenzy has driven up some tech-oriented equities, notably Nvidia, to high levels that are “richly” valued. Some can be found on the “discount rack,” while others are “not so expensive,” as the chart indicates.
According to its analysis, the Research Affiliates Fundamental Index, or RAFI, did better than the S&P 500 when the dot-com bubble burst.
According to Arnott, there are “different flavors of RAFI US,” using the Schwab Fundamental U.S. Large Company ETF FNDX and the Invesco FTSE RAFI US 1000 ETF PRF as examples.
According to FactSet statistics, both ETFs saw a 0.2% decline last week, ending January with a gain of almost 4% so far this year. As of January, the funds have outperformed the S&P 500, which has increased 2.7% so far this year.
The stock market selloff that DeepSeek triggered earlier this week was exaggerated, according to Scott Wren, senior global market strategist at Wells Fargo Investment Institute, who spoke on the phone Friday.
“When you’ve got a market that ran as hard and as far as the S&P 500” thanks to optimism in AI, “people are looking for an excuse to take some money off the table,” he stated. “You can’t just keep going straight up.”
Tariffs that President Donald Trump intended to enact on Saturday shook the U.S. stock market Friday afternoon.
With the tech sector XX:SP500.45 dropping a sharper 4.6% for the week, the S&P 500 recorded a 1% weekly loss. According to FactSet data, that was the worst weekly performance for tech since early September.
“For AI investors, the real threat may not materialize in the next few risk-on years but rather in the reckoning that comes after,” Research Affiliates stated. “Buying into speculative frenzies with ever-rising price tags can be as unwise as sitting them out entirely and missing out on once-in-a-generation returns.”