The Magnificent Seven Isn't Dead, Even if Investors Are Getting Spooked
The AI and tech narrative may have changed but Magnificent Seven earnings are still growing.
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There is a saying: Investors have the memory of a goldfish.
That seems apt, given that, less than a month ago, every sell-side analyst called for the Magnificent Seven names to see healthy level of earnings-per-share growth in 2025 with the remainder of the 493 names in the S&P 500 taking the baton to move up, as a global recovery would be taking hold.
After three years of AI-related growth driving earnings higher, the DeepSeek release took a bit of wind out the sector’s sails as the entire market started questioning the justification for massive capex spending from large-cap tech stocks. More and more releases of better LLMs have lowered the price of AI computation and, if anything, these innovations are a disinflationary benefit to the average consumer and corporation that will be increasing their productivity three-fold at a much lower price. But is the theme over and AI finished? Hardly so.
Since 2022, the services side of the economy has been the only part of the economy outperforming, with manufacturing unable to rally given China's economic woes. Investors learned the art of being long just a handful of names — using ETFs that were three- to four-times levered on them, even — to squeeze out whatever alpha possible. Throw in the advent of zero-days to expiration (0DTE) options and the moves became exponential to the upside.
Well, that sort of leverage can work both ways. Lo and behold, this leverage has unwound and moved into the value laggard plays as portfolios adjusted their massive underweight positioning in the latter.
The Magnificent Seven names did make up about 30% of the S&P 500, so when institutions started lightening their positions, the index got hit much more than it would have, given the heavy weights of NVDA, TSLA, AMZN, etc. This is also the reason why the S&P 500 outperformed every active fund for the last few years. Better to be lucky than smart?
As President Trump took office, he promised an economy with lower inflation that was more conducive to businesses, with deregulation. But he also promised to get manufacturing back to the U.S., to promote re-industrialization and to level the playing field for the U.S. getting some concessions from its allies, too. Negotiating with allies is one thing, but bullying is another. Trump wants to make manufacturing great again in the U.S. and that requires a lower dollar. His Treasury Secretary knows fully well that, the higher bond yields are, the less that consumers can refinance their mortgages or drive their businesses to grow. Oil is a big piece of this puzzle and OPEC+ has, after three years of waiting for demand to recover, finally decided to release all their extra oil over time. If it had done so earlier, it would have helped the Fed to perhaps ease rates sooner!
As we see across daily increments in tariff rates, global supply lines are getting shaky as businesses don’t know how to adjust for this volatility.
There is no doubt that the U.S. is on an unsustainable fiscal path, but DOGE is essentially trimming the fat as federal government employment has seen excessive growth at the cost of the private sector. Trump’s aim is to close the productivity gap of debt and GDP expansion over the Joe Biden cycle, and for that he needs to see GDP grow, not fall.
This is where AI and tech come in — it is not a fad, it is here to stay. The earnings are still growing, even if not at 30%-plus compound annual growth rates, but with forward multiples compressed by 30% since the highs. It is ironic that investors who could not get enough of them at 52-week highs are too scared to even touch them now.
Now that most have de-grossed, it seems the pain trade is up from here, especially as the economy is resilient with healthy corporate profit margins and monetary conditions easing soon.
