Trillion-dollar systemic risk in AI stocks
The world has been here before. Each episode follows the same arc—a new technology emerges, capital floods a set of companies, these dominate indices until valuations uncouple from reality. The technology survives and investors need trauma therapy. Each episode is book-ended with the slogan ‘This time it’s different’. In the late 1990s, tech and telecom reached 41 percent of the S&P500. Cisco, which peaked at 200 times earnings, fell 86 percent. Qualcomm fell 88 percent. Global Crossing went bankrupt.
This time, too, the headline is bullish—for one, Scandisk is up 600 percent—but the headcount tells a different story. On Friday, when the S&P500 hit a new high, 204 stocks posted negative year-to-date returns , a count that usually moves money. Last year, the Mag7 grew 23 percent. Barely half of the rest grew at 11 percent. Yes, the market is visibly K-shaped. When Korea’s Kospi hit a new high this week, only 75 stocks were up, while 826 were down! This has implications for the market makers and users.
Concentration risk is essentially too many eggs in one basket. The architecture of financial markets has morphed into a high-stakes wager. The systemic risk is of not a hypothetical nightmare. It vested in millions of portfolios. In the US, the Mag7 account for over 30 percent of 401K retirement accounts. The mechanism is automatic. By design, 401Ks make the biggest contributions to the largest-cap companies. On average, every American who puts money in 401K invests $2,358 in Mag-7 stocks. This boosts valuations and also amplifies concentration risk as any dip in these major stocks impacts the portfolio.
The concentration risk is not limited to the US and there is no historical precedent to the global simultaneity. The 1970s’ Nifty Fifty crash largely hit the US; the 1980s’ Japanese bubble was limited there. Asian savings were mostly insulated from the 2000 Nasdaq crash. But today, AI stocks are embedded in American, Korean, Taiwanese, Japanese and European indices. There is no major global index one can buy with without the semiconductor effect.
