Explaining the Artificial Intelligence (AI) sell off

Many headlines are painting a picture of “blood in the streets” following Monday evening’s market action.

The Nasdaq dropped 3.1%, the S&P 500 fell 1.5%, and the volatility index spiked 20%. In fact, markets have remained volatile throughout the week.

Before diving into the details, I’d like to make one simple point: markets going down isn’t unusual. The unusual part has likely been what’s taken place the past few years.

It’s been more than a full calendar year since the S&P 500 experienced a correction—a decline of 10% or more. For context, since 1980, the S&P 500 has averaged an intra-year decline of 14%. In short, the US stock market has been outrunning the historical evidence.

Without risk, there can be no reward—the expectation should never be that markets go up in a straight line.

Now, let’s address the news event that unsettled the market:

  • A significant portion of the US stock market’s success (and earnings growth) in recent years has come from companies who benefit from artificial intelligence (AI).
  • Conventional wisdom has perceived the US to be the leader in the AI race with little competition.
  • That assumption has recently been upended. Over the past week, a new Chinese competitor named DeepSeek surged in popularity, climbing to the #1 spot in the US app store ranking.
  • A key detail DeepSeek reportedly built its AI model for only $6 million USD. That number matters because US tech leaders competing in the AI race have spent tens of billions in capital expenditures.
  • This raises a critical question: are US tech companies overspending to develop a product that can be replicated for 99% less?
  • The answer remains unclear—many prominent technology leaders have questioned the accuracy of the $6 million estimate and the capabilities of DeepSeek
  • However, the market isn’t waiting for verification and began adjusting expectations, with the biggest AI-related beneficiaries all trading lower, including NVIDIA, which fell by 17% on Monday.

Many are asking whether this AI selloff could spark a broader market correction. The reality is that no one knows for certain.

What I want to emphasise is this: the portfolios we build for our clients are not designed to outsmart the market in the short term. Instead, they are built to be durable through periods of volatility—like yesterday and whatever lies ahead—allowing you to capture the long-term returns that markets have historically provided.

Monday’s market activity offers a useful example. While the headlines tell a grim story, the results under the surface say something much different.

  • On Monday, while the S&P 500 declined 1.5%, 70% of the companies in the index—350 out of 500—posted gains. In fact, more than 80% of the stocks outperformed the index return that day.
  • This highlights a concept we discuss often: diversification works.
  • Market performance has been highly concentrated in AI-related companies, but when unwinds occur, broad exposure—particularly to undervalued areas of the market and global diversification—helps provide protection against these shifts.

Stepping back, it’s important to remember that industries evolve through a process of “creative destruction.” Over the decades, we’ve seen this time and again—from Blackberry to Apple, Blockbuster to Netflix, or AOL to Google. AI is likely to experience similar leadership changes, and while we don’t know who the ultimate winners will be, we believe the diversified investment plan we’ve built for you is designed to weather these shifts.

I hope this letter provides clarity on how recent developments in AI are impacting the market. As always, we’ll be here with you on this journey, helping you make sense of what matters. If you have any questions or concerns, please contact us on 1300 014 368 or via email – info@fpbydesign.com.au

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