Stock selloff gets ugly as AI jitters jolt trading: Markets wrap

Wall Street had a rough start to the week on concern that a cheap artificial intelligence-model from Chinese startup DeepSeek could make valuations of the technology that has powered the bull market tough to justify.

From New York to London and Tokyo, equities got hammered. The S&P 500 dropped 1.7% and the Nasdaq 100 slipped 3.1%. A closely watched gauge of chipmakers plunged 9%. Nvidia Corp., the poster child of the AI frenzy, sank 16% and headed toward the biggest market-cap loss for a single stock in market history. With big tech getting crushed, U.S. stocks were set for their worst day since the last Federal Reserve decision that roiled trading.

In a rush for safety, defensive industries like consumer staples and health care were bid. Treasuries rallied, driving yields to the lowest levels this year. Haven currencies like the yen and the Swiss franc climbed. The crypto world came under heavy pressure, with Bitcoin breaking below $100,000.

“What was shaping up to be a big week in the markets got even bigger with the disruption in the AI space,” said Chris Larkin at ETrade from Morgan Stanley. “That could make this week’s megacap tech earnings even more critical to market sentiment.”

Monday’s plunge drove new fissures into a market narrative that prevailed since the re-election of Donald Trump in November, the America-first, tech-fueled uber bullishness that saw a clear upward path for risky assets spurred by deregulation, tax cuts and even government sponsorship of AI investment. Treasury yields slid sharply as haven-seeking investors laid aside concern – for today, anyway – that the new president’s policies will stoke inflation.

The severity of the selloff in U.S. assets was proportionate to the weightings of AI-enabled firms in the biggest stock indexes. Even after a recent paring to curb their influence the cohort of Nvidia, Apple Inc., Microsoft Corp., Amazon.com Inc., Meta Platforms Inc. and Alphabet Inc. account for 45% of the Nasdaq 100. It’s more than 30% in the S&P 500, leaving both gauges significantly exposed to concerted drops in those names.

“The excessive weighting these tech stocks have in many investor portfolios and the high concentration these tech stocks have in the market indices was a significant and under-appreciated risk issue,” said David Bahnsen at The Bahnsen Group. “But the idea that this level of spending on AI may not be necessary or prudent to begin with – well, that could prove to be a fundamental game-changer on top.”

The Dow Jones Industrial Average lost 0.3%. A gauge of the “Magnificent Seven” megacaps slid 3%. The Russell 2000 slipped 0.7%. Wall Street’s “fear gauge” – the VIX – soared the most since mid-December to almost 20.

The yield on 10-year Treasuries declined eight basis points to 4.54%. The Bloomberg Dollar Spot Index rose 0.1%. Bitcoin sank 4.6% to $99,787.51.

“The market behavior at close will reveal more about how resilient the ‘buy the dip’ mentality is – as Mag 7 believers vie with those looking for any excuse to sell,” said Mark Hackett at Nationwide. “This shift could actively drive momentum away from overvalued large-cap tech and toward international and value stocks, reshaping market leadership.”

Victoria Greene at G Squared Private Wealth says that while she’s “not convinced the bubble has burst,” one would be “silly” not to evaluate the potential risks.

“We are looking carefully at how the market progresses from here and if action needs to be taken to protect and shift portfolio allocations,” she noted. “We are not panickers, so tend to be buyers of big dislocations that are happening in tech, energy, and infrastructure today.”

The next leg lower for the biggest U.S. tech stocks may come from the retail crowd, according to Tony Pasquariello at Goldman Sachs Group Inc.

“Tactically speaking, I suspect the next few days bring a hurried reduction of length by the retail community,” Pasquariello wrote in a note to clients Monday, adding that hedge funds have been aggressively reducing exposure for months, so this is really about the response of households.

However, he’s a true believer in the structural supremacy of U.S. tech companies, which “arguably have only more incentive to spend.”

“We don’t know whether this is the ‘Sputnik Moment’ for stocks, but this is certainly a wake up call that we are not the only game in town,” said Paul Nolte at Murphy & Sylvest Wealth Management. “To put these very high valuations in the stocks thinking they have cornered the market is a huge mistake and that is being re-rated.”

To Matt Maley at Miller Tabak + Co., the idea that DeepSeek’s latest AI model is much more cost effective, and runs on much less-advanced chips, is raising some serious questions about what kind of earnings can be drawn from the AI phenomenon.

“If these companies look like they’re going to have a tough time maintaining their earnings growth (chip stocks) or a tough time reaching their earnings growth goals (the “picks and shovels” companies), it’s going to create some serious headwinds for today’s expensive stock market, he noted.

In fact, the slide in tech came at a time when the Nasdaq 100 is trading at 27 times estimated forward earnings, which is significantly above its 10-year average of 22. Nvidia, which has led the way on AI technology, has a valuation multiple of 32.

All focus will be on earnings announcements from the likes of Microsoft and Apple this week to restore confidence in the so-called Magnificent Seven group of companies.

Investors are heading into yet another pivotal Big Tech earnings cycle with the companies’ shares near record highs and valuations stretched. A key distinction this time: The group’s profit growth is projected to come in at the slowest pace in almost two years.

“This should be a fairly good earnings season, but the bar has been raised and they may not be able to live up to high expectations,” said Dan Taylor, chief investment officer at Man Numeric. “It will be very difficult for the group to perform the way it did last year, especially as valuations have increased.”

“We think big tech can keep delivering on earnings, but misses could revive concerns that big capital spending on AI won’t pay off – one of three triggers to dial down our pro-risk view,” BlackRock Investment Institute strategists including Jean Boivin and Wei Li.

Metrics like capex-to-sales ratios and free cash flows suggest that, for now, megacap tech firms are not overextended, they said. Overinvestment should be assessed in aggregate, in our view, given AI’s potential to unlock new revenue streams across the economy, they concluded.

What exactly is DeepSeek?

DeepSeek was founded in 2023 by Liang Wenfeng, the chief of AI-driven quant hedge fund High-Flyer. The company develops AI models that are open-source, meaning the developer community at large can inspect and improve the software. Its mobile app surged to the top of the iPhone download charts in the U.S. after its release in early January.

The app distinguishes itself from other chatbots like OpenAI’s ChatGPT by articulating its reasoning before delivering a response to a prompt. The company claims its R1 release offers performance on par with OpenAI’s latest and has granted license for individuals interested in developing chatbots using the technology to build on it.