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Markets continue to churn higher with extremely muted volatility in the face of a cooling labor market, a three-year high in the U.S. producer price index, and no substantive progress on U.S.-China trade relations. Mind you, this is after a ~25% rally in the S&P 500 since mid-April, and the S&P now finds itself up ~9% year-to-date. So what gives? How can markets continue to climb in the face of all this adversity? Many point to artificial intelligence (AI) as one of the main reasons.
When speaking of AI, the MAG7 plays a pivotal role. These seven stocks, which now account for ~35% of the S&P 500, have made significant investments in the growing demand for AI applications. The question is not about AI’s impact on the global economy—that much is clear—but whether the impact has been overblown from a market valuation perspective.
A company crossing a $1 trillion market cap used to be unthinkable. In fact, I remember when Apple crossed a $1 trillion market cap in 2018; it was a major headline. Today? It’s almost an afterthought. Three of the companies in the MAG7 have a market cap of at least 3 trillion. Much of this has come in the past two years on the back of the AI boom:
Nvidia: ~$4.3 trillion
Microsoft: ~$4 trillion
Apple: ~$3 trillion
Meanwhile, the other four (Amazon, Google, Meta, and Tesla) have a combined market cap of ~$7.7 trillion! Capital expenditure (CapEx) spending for AI has been on a tear and has contributed more to growth in the U.S. economy in the past two quarters than the entirety of consumer spending. Yes, you read that correctly: All of consumer spending.
Even further, as shown below, AI business spending this year has more than doubled Americans’ budgets!
That is mind-blowing. Now, this could be an outlier and things may revert to how they were in prior years, with consumer spending being 2x to 5x AI spending. However, this illustrates just how much money is riding on the AI wave.
There is no denying the permanent impact AI will have on the world—this part is not debated. Its innovation and efficiency should be embraced, as it’s truly changing the way the world works. The concern is whether AI will eliminate too many jobs in a short period of time. This would be problematic, as consumer spending would surely decline.
Another concern is what will happen to the tens of millions of people whose jobs are eliminated by AI. There were similar worries when the internet was formed, and for the most part, everything got figured out—but with some pain along the way. We are likely to see something similar here, but we don’t know to what extent.
Honestly, these stats don’t seem real given how much the U.S. consumer spends, and it’s not as though we are in the throes of a deep recession either. In one sense, this is to be appreciated, while in the other, it is scary because it does not seem sustainable. This is why some are screaming that this is a bubble that’s getting ready to burst.
Looking back at history, innovations such as the railroad, the automobile, and the internet have had a tremendous impact on society, and in turn, their stocks dominated markets. This is similar to the MAG7 today. These innovations drove market euphoria and sky-high valuations, which eventually led to sharp market declines.
There is a common pattern here, and it goes something like this: skepticism, rapid adoption, market euphoria, and integration into the global economy. While it’s true that railroads, automobiles, and the internet have become ingrained in everyday life, there were also many predictions that did not come to fruition. With the S&P 500 trading at nearly all-time highs from a price-to-earnings ratio, many are concerned about what lies ahead.
A significant point of contention is the labor market. To say things have slowed down is an understatement. As seen below, U.S. job creation has come to a grinding halt over the last three months, averaging ~35,000 a month! Those are generally recessionary-type numbers.
Yet, throughout this, the S&P has been remarkably resilient, and the economy continues to power ahead. There is no denying that hiring has slowed and layoffs are on the rise. The question is whether AI can continue to drive productivity and markets higher with minimal job growth. Some will argue that this is proof that AI is gaining traction faster than expected.
Now, it’s important to remember that consumer spending represents ~70% of our GDP, so it’s hard to imagine a scenario where things remain “as is” unless we see an uptick in hiring and wage growth. Then again, the consumer has been extremely resilient, and this might be more proof of that.
In my commentary last month, I touched upon how the S&P 500 is more than just the MAG7. Many of the best-performing stocks in 2025 have no connection with AI, which provides some reassurance. The concern is that if the job market continues to falter, consumer spending will slow, leading to a ripple effect of pain for the global economy and, in turn, the stock market. This remains to be seen, but if the next few job reports don’t show progress, things could get challenging, as there is only so much of the heavy lifting AI can continue to do.
What’s an investor to do? Well, not to sound like a broken record: Be diversified. It can reduce your portfolio’s volatility and help you sleep better at night.
Case in point, few are talking about bonds being on pace for their best year in nearly half a decade or that European equities, which are not AI heavy, are on a tear and up 25%-plus this year and on pace for their best performance in nearly twenty years.
These are the things to focus on, not trying to speculate when the AI euphoria will start to fizzle. That will happen, and we have to accept it. The key is rebalancing your portfolio when prudent to help ensure you’re not overexposed to any single sector.
Feel free to discuss your situation with our financial planning firm.
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