AI-Driven Selloff Triggers Major Market Rotation, Echoing Dot-Com Era Patterns
A significant transformation has swept through global financial markets, marked by a sharp selloff in artificial intelligence and technology stocks that gave way to a broader rally across other sectors. This dramatic shift in market leadership bears a striking resemblance to the patterns observed after the dot-com boom at the end of the 20th century, raising questions about what comes next for investors.
Artificial Intelligence at the Center of the Storm
Once again, artificial intelligence found itself at the epicenter of market volatility. The recent selloff was fueled by growing concerns that software could become superfluous due to advancements in Anthropic's Claude applications. This anxiety mirrored the market slide that occurred almost exactly one year prior when China's DeepSeek offered a credible AI alternative at a fraction of the cost of OpenAI's ChatGPT.
The mood reversal on Friday provided temporary relief, lifting the Dow Jones Industrial Average past the 50,000 mark for the first time and sparking a boisterous 2% bounce in the S&P 500 index—the biggest daily gain since last May. This recovery pared the week's loss to just 0.1%, but the underlying transformation had already taken root.
Technology Cedes Leadership to Broader Market
Well before last week's gyrations, the stock market's character had already undergone a significant transformation. Technology stocks have ceded their leadership position to a broader swath of the market, creating a dramatic rotation that echoes the post-dot-com era.
According to Deutsche Bank strategist Jim Reid, the equal-weighted S&P 500 has gained 6.3% since October 29 through February 4, while the capitalization-weighted S&P 500 was off 0.1%. This pattern mirrors what occurred after the tech-stock peak on March 27, 2000, when the equal-weighted index gained 10.7% through the end of that year while the cap-weighted benchmark fell 13.4%.
Sector performance reveals the dramatic shift:
- Energy surged 20.6%
- Materials gained 18.3%
- Consumer Staples advanced 13.8%
- Technology declined 11.2%
Along with the Dow, the equal-weighted S&P 500—tracked by the Invesco S&P 500 Equal Weight ETF—closed at a record high on Friday, signaling the breadth of the current rally.
Historical Parallels and Potential Pitfalls
"A similar pattern emerged in 2000," Reid noted in his analysis. "After Tech peaked in March of that year, Consumer Staples, Utilities, and Healthcare rallied about 40% to 45%, even as Tech and Communications slumped 51.8% and 39.4%, respectively."
By September 2000, the rotation had not yet inflicted major collateral damage, with the S&P 500 coming within a percentage point of its all-time highs from six months earlier. However, by year-end, the tech selloff deepened to the point where strong gains elsewhere could no longer compensate. The index ultimately finished 2000 down 13.4% from the point where tech peaked, even though the equal-weighted index was up 10.3% during that period.
Investors have again made defensive moves to consumer staples, but this time the sector may offer less protection. As Barron's Paul R. La Monica pointed out, retail giants Walmart and Costco Wholesale command price/earnings ratios about twice that of the S&P 500's P/E of 22. The bargains may be found mainly in Walmart's and Costco's stores, not their shares.
Volatility Spreads Beyond Equities
The market turbulence extended beyond stocks, with crashes in silver, gold, and Bitcoin contributing to the volatility. According to Evercore ISI's strategy team led by Julian Emanuel, FOMO (fear of missing out) suddenly shifted to "get me out" as the previously extreme upward momentum in those asset classes abruptly reversed.
The steep drops in precious metals and Bitcoin served to "infect stocks" and sparked what the Evercore team described as a "violent momentum rotation" into more defensive sectors. Nowhere was the reversal more dramatic than in silver, where the iShares Silver Trust ETF experienced a stomach-churning round trip from about $70 to nearly $110 and back again.
William Silber, author of "The Story of Silver: How the White Metal Shaped America and the Modern World," observed that "markets will use the news to do whatever they want." He noted that precious metals pulled back from their peaks after Kevin Warsh was nominated on January 30 to succeed Jerome Powell as chair of the Federal Reserve Board.
Federal Reserve Policy Adds to Uncertainty
Traders used the Fed chair nomination as an excuse to take off some risk following the headlong advances in silver and gold. Warsh has indicated a strong preference to shrink the Fed's balance sheet, the expansion of which has supported the inflation of asset values including stocks, precious metals, and cryptocurrencies.
He is also seen as less likely to support the so-called "Fed put"—the expectation that the central bank will come to the rescue of risk markets, a policy initiated by former Chair Alan Greenspan and continued under his successors Ben Bernanke, Janet Yellen, and Jerome Powell.
Looking ahead, investors and traders will be closely watching the delayed release of January's employment report on Wednesday. The consensus of economists calls for a 70,000 increase in payrolls and an unchanged jobless rate of 4.4%—after annual benchmark revisions that will significantly lower last year's employment totals. This data should keep the Fed on hold for the next two policy meetings in March and April.
The market transformation from tech-led growth to broader sector rotation represents a significant shift in investor sentiment. While defensive sectors have surged to record highs, the historical parallels to the dot-com era suggest caution may be warranted as the market navigates this new landscape.
