Are markets in an AI boom or an AI bubble? Plus, Trump's top two contenders to be the next Fed chair

Key Concepts

• Market Performance: Dow, NASDAQ, S&P 500, Russell 2000 (small caps) performance on a daily and weekly basis.
• Sector Performance: Analysis of sector gains and losses, with a focus on Technology and Energy.
• AI Trade: Scrutiny of AI-related stocks, particularly chip stocks, and strategies for investing in the AI value chain.
• Market Valuation: Discussion of market fragility and the concept of a "fully valued" market.
• Federal Reserve Policy: Impact of interest rates and projected rate cuts on stock picks and market thinking.
• Equity Soft Landing: A scenario where the Fed cuts rates and earnings continue to rise.
• Retirement Risks: Market volatility, behavioral risks, and the consistency of income in retirement.
• Retirement Solutions: Strategies for managing retirement portfolios, including "grow, protect, spend" and embedded insurance.
• Private Markets: The increasing accessibility and role of private markets in diversifying portfolios.
• Autonomous Vehicles (AVs): Safety, performance, and adoption challenges of self-driving cars, including Waymo.
• Economic Data: Upcoming reports on jobs, CPI, housing market, retail sales, and consumer sentiment.
• Earnings Reports: Key company earnings to watch, particularly in the chip sector (Micron) and retail (Nike).

Market Close and Weekly Performance

The market experienced a broad decline at the close. The Dow was down approximately 0.5% (250 points), the NASDAQ fell 1.7%, and the S&P 500 was off 1%.

Looking at the 5-day week:

• The Dow showed gains of 1%.
• The NASDAQ was down 1.6%.
• The S&P 500 was down about 0.67%.
• Small caps (Russell 2000) gave back 1.5% today but were still holding onto gains of about 1.2% for the week.

Sector and Stock Performance

Today's Sector Action:

• Technology was the sole underperformer, down significantly by 3%.
• Energy was the second worst, down less than 1%.
• Consumer staples, consumer discretionary, healthcare, financials, and materials were all in the green.

NASDAQ 100 and Chip Stocks:

• The NASDAQ 100 also showed a negative picture, with chip stocks experiencing a significant downturn.
• Broadcom was down about 11.5% due to overnight concerns.
• Nvidia was down 3%.
• The semiconductor board showed no green, with Micron down 6.7%.

Software Sector:

• The software sector was "a little bit less bad" with some green names.
• Adobe was up 1.7%.
• Oracle, a source of "headline risk," was down 4.6%.

Weekly Leaders (5-Day Period):

• Regional banks led the gains, up 3.6%, potentially benefiting from yield curve adjustments by the Fed.
• Defense and aerospace (ITA) were up over 3%.
• Other leaders included gambling, microcaps, retail, small caps, value, and Bitcoin (posting a small gain).
• Chip stocks were the worst performers for the week, down 3.2%.

The AI Trade and Investment Strategies

Drew Pettit, City US Equity Strategist, discussed the increasing scrutiny of the AI trade heading into 2026.

Key Points:

• AI Enablers: For most of the year, the market has focused on AI enablers, with chips playing a significant role.
• Recent Dents: In the past month, concerns about AI enablers' buyers and their return on investment have emerged, leading some investors to move away from just the front-end enablers.
• Broadening Out: Investors are either broadening their investments away from AI or looking within the AI value chain.
• "Boom than Bubble" Strategy: Pettit advocates for owning the AI value chain, including:
  • Utilities (power generation)
  • Industrials (infrastructure buildout)
  • Chips
  • Software
  • Users on the other side
• Diversification within the Theme: The strategy emphasizes owning diversification within the AI theme.
• Screening for Value: Instead of specific PE levels, the approach focuses on growth expectations built into stock prices. This involves a reverse discounted cash flow analysis to determine the cash flow needed to justify stock prices and comparing that to consensus expectations.
• Examples: Nvidia, NextEra Energy, EQT Corp, and GoDaddy are mentioned as examples of companies that can generate cash flow today.
• Focus on Cash Flow: The emphasis is on identifying companies that can generate cash flow now, rather than those based on hype or long-term projections.

Market Fragility and Valuation

The market's reaction to Oracle's news about a potential delay in a data center for AI, even after it was walked back, highlights market fragility.

Key Arguments:

• Fully Valued Market: Pettit states the market is "fully valued," meaning prices have risen significantly, leading to high expectations.
• High Expectations: When prices go up a lot, a lot has to go right for markets to continue rising.
• Read-Throughs: Investors are making read-throughs from one company's news to the next.
• Expensive Value Side: Even the value side of the market is considered expensive relative to its own history.
• Volatile Phase: While the bull market is not over, it is in a more volatile phase, characterized by high beta stocks selling off. The fact that small caps also underperformed the broader S&P 500 indicates this broader volatility.

Federal Reserve Policy and Equity Soft Landing

The Federal Reserve's actions and projected interest rate cuts are significant factors in investment decisions.

Key Points:

• Fed Cuts are Good, but...: Generally, Fed cuts are positive, but they often coincide with earnings rolling over.
• Different Setup for 2026: The setup for 2026 is different. The Fed is expected to continue cutting rates, and earnings are projected to rise for both the S&P 500 and small caps.
• Equity Soft Landing Scenario: This scenario, where the Fed cuts rates and earnings increase, is termed an "equity soft landing."
• Portfolio Strategy: In this scenario, it's comfortable to own NASDAQ stocks but pair them with cyclicals to diversify beta and risk.
• Cyclical Focus: The desired cyclicals are those with faster earnings growth and earnings power that can reach new highs compared to post-pandemic peaks. This includes names at the bottom end of large-cap stocks.
• Growth and Cyclical Beta: The strategy involves buying both growth beta and cyclical beta for this equity soft landing.

Retirement Risks and Solutions

Nick Neafussi, BlackRock Global Head of Retirement Solutions, discussed retirement planning and risks.

Key Risks:

• Market Volatility: A persistent risk that can lead to behavioral risks (e.g., selling at the wrong time).
• Income Consistency: With most people relying on 401(k) plans instead of pensions, ensuring consistent income in retirement is a major concern.

Structuring Retirement Portfolios:

• "Grow, Protect, Spend" Concept:
  • Younger investors: Maximize growth.
  • Late career/approaching retirement: Focus on protection.
  • Retirement: Focus on spending.
• Reducing Risk: The goal is to take risk out of portfolios as retirement approaches.

Income Generation in a Lower Rate Environment:

• Inflation Concerns: Inflation is expected to remain "sticky," necessitating a focus on inflation-protected securities, particularly shorter-duration ones.
• Long Retirement Horizon: Retirees have a 20-year time horizon, requiring consistent income throughout retirement.
• Embedded Insurance: BlackRock has launched products that embed insurance into portfolios to mimic pension plans and provide guaranteed lifetime income.
• Life Path Paycheck: A strategy that uses institutional quality insurance contracts within target-date funds, which can be converted into guaranteed income.

Private Markets in Retirement:

• Underutilization in 401(k)s: While average pension plans have about 20% in private markets, average target-date funds have zero.
• Diversification Benefits: Private markets can help diversify portfolios, manage inflation, and manage income better.
• Pooling Risk: Investments in private markets are pooled, mitigating idiosyncratic risk for individual investors.
• Leveling the Playing Field: Incorporating private markets into target-date funds aims to level the playing field between 401(k) plans and pension plans for better retirement outcomes.
• Innovation in Retirement Solutions: There is significant innovation in retirement solutions, with 401(k) plans beginning to resemble pension plans, leading to better outcomes for Americans.

Federal Reserve Chair Nomination

Jennifer Shawnberger reported on President Trump's potential picks for the next Federal Reserve chair.

Key Points:

• Two "Kevins": The leading candidates are former Fed Governor Kevin Worsh and current National Economic Council Director Kevin Hassett.
• Worsh at the Top: Trump indicated Worsh is at the top of his list.
• Lower Interest Rates: Worsh believes interest rates need to be lower than they are currently, a criterion Trump is looking for.
• Presidential Consultation: Trump believes the Fed chair should consult the president on the path forward for rates.
• Worsh's Criticism of the Fed: Worsh has been critical of the Fed's focus on stagflation, believing AI will drive a productivity boom and lower inflation.
• Jamie Dimon's Endorsement: The CEO of JP Morgan Chase, Jamie Dimon, views Worsh as a good pick.
• Poly Market Odds: Hassett is currently the first pick in the poly market, with Worsh as the second.
• Announcement Timeline: Trump plans to make an announcement early next year.

Autonomous Vehicles and Safety

Julie Heyman discussed the performance and challenges of autonomous vehicles (AVs) with Katherine Driggs Campbell, Associate Director of the Center for Autonomy at the University of Illinois Urbana-Champaign.

Key Points:

• Fewer Accidents (So Far): Waymo's self-driving cars have resulted in fewer accidents than human drivers.
• Perception and Social Layer: Viral videos and police reports of AVs taking risks can create a perception issue, as these events are more likely to be highlighted than routine human driving incidents.
• Challenging Environments: AVs must operate in complex and unpredictable environments.
• Testing Limitations: Unlike other products, AVs cannot guarantee a perfect product through in-house testing alone; they require real-world street testing to identify breakdowns.
• Safety in a Closed System: AVs performed exceptionally well in closed systems with only autonomous vehicles, demonstrating that reducing uncertainty improves performance.
• Human Unpredictability: Humans are a major challenge for AVs due to their unpredictable nature.
• Assertiveness vs. Passivity:
  • Exploitation of Passivity: If AVs are consistently passive and polite, humans may exploit this, making it difficult for AVs to merge or proceed.
  • Assertiveness for Traffic Flow: Being more assertive allows AVs to reach their destinations efficiently, which can also help overall traffic flow and prevent backups.
• Adoption Curve Challenges:
  • Ensuring 100% Safety: It is extremely difficult to guarantee 100% safety for AV systems.
  • Perception and Trust: A turning point in perception and safety assessment is needed for complete trust and wider adoption.
  • Known Environments: AV systems currently work best in known, mapped locations (e.g., San Francisco, Phoenix, Austin). Expanding to new areas remains a hurdle.

What to Watch Next Week

The final full trading week of 2025 will feature key economic data and earnings reports.

Economic Data:

• Delayed November Jobs Report: Due on Tuesday, with consensus estimates of 50,000 jobs added and an unemployment rate of 4.5%.
• CPI Report: Due on Thursday, with overall inflation expected to rise 3.1% year-over-year.
• Housing Market:
  • Monday: Homebuilder sentiment.
  • Friday: Existing home sales.
• Consumer Data:
  • Tuesday: October retail sales.
  • Friday: Final December consumer sentiment.

Earnings Reports:

• Micron: Reporting on Wednesday, providing an update on the chip sector.
• Thursday: Key reports after the closing bell from FedEx, Darden, KB Homes, and Nike. Investors will be watching Nike's turnaround efforts.