A new phase in the tech market correction

In the depths of this week’s tech market carnage, with the Nasdaq closing down more than 5 per cent on Thursday, Donald Trump was quick to tell US voters “you only have yourselves to blame” for electing “Dumocrats” committed to pauses in data centres. They had, he said, sabotaged their own pension plans.

The immediate trigger for the rout was in fact probably something for which the US president is not well known: knowing when to cut your losses. AI-exposed stocks had already been sputtering globally over the past month. The “blue wave” in the US midterms was the spur for leveraged investors such as hedge funds to cut overextended positions. Shares in Nvidia, the chipmaker that is the world’s second most valuable company, hit an all-time high only a month ago but are down more than a fifth since then. Conversely, Friday morning’s relief rally in US stocks shows how quickly these clear-outs can reverse.

Yet the recent market weakness suggests a deeper change of phase in the AI build-out, and a far more complicated political environment to come for the hyperscalers. The pace of growth in spending on chips and data centres next year was already straining borrowing costs and creating backlogs. As voters installed candidates pushing for a pause in data centres in governors’ mansions in states, from Texas to Ohio, that were big builders, it showed that the politics had caught up too.

This spending would not have to decline, nor AI demand collapse, to knock the momentum out of industries that have been dedicated to speeding up construction. That includes “neocloud” firms, which specialise in renting out quick access to computing capacity, whose stocks were the hardest hit this week.

In any gold rush, first gold is the best gold. For some time now Wall Street has also been getting valuation signals from what amount to the makers of AI’s picks and shovels that growth was set to slow down. Stocks of chipmakers have flashed for months that the easiest days of relieving hyperscalers of their cash in return for memory chips at any price would soon be past, even as companies reported bulging order books.

The Philadelphia Semiconductor index peaked in June and is down almost 40 per cent since then. Samsung Electronics stock has halved in the same period and SK Hynix has fallen 60 per cent. These two South Korean memory makers now trade at single-digit multiples of their forecast earnings, even though their profits this year rank as the biggest in tech history in dollar terms.

That does not equate to a total immolation of the AI trade, but it does suggest the competition to raise capital to buy chips is cooling down from its breakneck pace, which put upward pressure on interest rates. Many American voters will be wincing at their stock portfolios this weekend, but many were already staring at the prospect of 8 per cent mortgage rates.

There may be silver linings. Shareholders in the largest US tech firms and established data centre operators might even end up with a sneaking regard for Democrats who could provide a convenient excuse to halt the arms race in borrowing and spending. Credit markets are pointing to this. Amid the carnage this week, the cost to insure against default risk on hyperscaler bonds, which had been inexorably rising as borrowing surged, fell. By contrast, yields on some debts of CoreWeave, a big neocloud player, blew out to 17 per cent.

The mix of exuberance and doom in AI’s fragile first phase of ever-expanding growth had to burn out at some point. This week’s turmoil is probably not the last whipsaw of that cycle. But a new phase is emerging — one that may be more discriminating between winners and losers.