Navigating Volatility and AI Fear

I told you a few days ago that fear in the stock market seemed to be returning. This has been the case and this time with the help of Artificial Intelligence (AI), until now the savior of the market.

Neither bonds nor central banks, nor the price of oil, are helping The increase in bond yields (fall in their prices) that limits the upside potential of the stock markets, the «obligatory» restrictive stance of central banks accelerating interest rate hikes and increasing the financing costs of individuals and companies and the rise in oil prices due to the entrenchment of the conflict in the Middle East with its inevitable inflationary effects, they are causing unease in the markets and volatility is rampant in the form of falls in the indices as happened last Friday.

But the economic background remains solid

The situation described makes the fear of many investors increase. However, I believe that the underlying economic strength will eventually prevail, although, in the meantime, we will continue to experience phases of volatility as is happening this September.

In some parts of the market, this reaction is being excessive in view of the strong push in earnings and business investment, which continues to improve and expand, as well as activity indicators that suggest demand is comfortably above trend. This, stimulated by investment in AI, and an expansive fiscal policy, is one, apart from those already mentioned, of the most durable engines for the performance of the equity markets, so they should maintain a good tone until the end of the year.

Valuations look more attractive

We should not lose sight of the valuations of some markets, especially the US, or the fact that the declines in the stock markets have their favourable side. Not surprisingly, stock market valuations are quietly readjusting instead of plummeting and the P/E of the S&P 500 has fallen from 23 to 19, which should make the US stock market look with some relaxation.

The downward movement has been global (not only in the US) and several stock markets have become cheaper (the European one especially), which highlights the paradox that a bull market can continue with solid momentum, but with stocks trading at more attractive valuations. However, the current level of the S&P 500 index, which is always the flagship of global equities, is still far from its fair value according to the capitalization of earnings model, which would justify further declines, and this is due to the rise in the yield of the 10-year Treasury of around 5% (this is the discount factor of the aforementioned model).

Fear of AI: bubble and subversion

The real question for investors is not whether the «bubble» is bursting, but what is causing it to deflate so calmly. I believe that the loss of tension that is taking place in the AI ecosystem (supported by events such as the slowdown in OpenAI’s IPO that triggered declines in the companies most linked to AI), should be more than welcomed by investors, thus gradually leaving behind the image of AI as the only emblem that must inexorably lead the momentum of the economy and markets.

A few days ago, the apocalyptic discourse linked to AI and the loss of control over its advances resurfaced with force. I believe that this vision does not conform to reality and that an AI that evolves as an unleashed engine that can cause large-scale computer attacks on the Internet («the rebellion of the machines») is a boutade that can come in handy for analysts and marketing directors to mark the territory of their companies and cover up some real and immediate problems of certain technological developments.

What stock market investors should really fear, in the short term, is not so much a rebellious superintelligence as central banks that render them incapable of managing the financial setbacks caused by the factors I mentioned at the beginning of this column. So far, the world’s major monetary authorities are doing it correctly, and if they continue to do so, as I hope, the bull market will continue with positive vigour, thanks to the fact that stocks are now trading at more attractive valuations.