Understanding Bullish Bets and AI Mania

March kicked off with mixed signals across the markets. The recent CPI and PCE data, two major indicators closely watched by the Federal Reserve (Fed) for inflation signals, showed a slight tick up. But, stripping out volatile energy components, the data revealed a modest decline. In line with its data-driven approach, the Fed held its aggressive policy stance without any imminent pivot. However, market sentiment remains optimistic that the Fed will eventually begin to ease and interest rate cuts will arrive, even if the timing remains unclear. Historically, easing cycles have turbocharged stock returns, with real, inflation-adjusted returns averaging an impressive 9.4%, far outpacing the 3% during tightening periods, according to The Wall Street Journal.

Fueling this optimism is the overarching bullish mentality that economic conditions are improving. Despite lingering inflation pressures, overall market sentiment indicates that things are moving in the right direction, with corporate profits holding steady. This bullish optimism is reflected in strong demand across multiple asset classes — stocks, gold, and even bitcoin. This signals that investors who had been sidelined with $6 trillion in money-market funds are now eager to put their money to work, displaying what economists call “animal spirits.” This term refers to the psychological factors that drive investor risk appetite and market confidence, fueling the current upward trajectory in equities. However, some veterans caution that elevated “animal spirits” often precede a pause or pullback. We don’t think a pause is the worst thing in the world. In fact, the markets could use a reset before positioning for a next leg up.

Igniting this investor enthusiasm is the AI phenomenon, driven by the Magnificent 7 – particularly chip giant Nvidia. But concerns are mounting that the market frenzy has become too concentrated without strength from other segments such as small-cap stocks, which are flattish YTD. While intense spotlight on Nvidia evokes anxieties reminiscent of the dot-com bubble in the late 1990s, we cannot deny the transformative potential of AI across industries. We remain cautious about chasing individual “hot stocks,” like Nvidia, and instead aim to provide diversified exposure through strategies that tap into the AI revolution more broadly. Rest assured that whether through owning the S&P 500, which has around 30% allocation to AI-driven giants, or through growth funds utilizing AI-focused holdings, our portfolios have meaningful exposure to this innovative technology. Providing this balanced approach allows us to capitalize on the upside of AI while mitigating risks associated with any single mania or asset bubble.

Notably, we maintain a disciplined investment strategy when it comes to speculative assets like cryptocurrencies. While intrigued by the rise of Bitcoin earlier this month due to the approval of spot Bitcoin ETFs, we cannot fully embrace an asset class that lacks inherent backing and fundamental valuation metrics. As Warren Buffett has wisely cautioned, Bitcoin holds value based purely on the balance of buyers and sellers — this gives us pause. We may reassess our position in the future, but for now, we prioritize diversified, fundamentally-grounded portfolio strategies over speculative cryptocurrency bets.

Ultimately, we are embracing the current bullish sentiment with open eyes, but remain focused on building fundamentally-driven strategies and diversified portfolios for our clients. While optimism is welcome, we are mindful that unbridled exuberance has often led to the downfall of long-term investment success. As always, if you have any questions about your portfolio, please reach out to your financial advisor at The Wealth Alliance.