Over the past three years, artificial intelligence (AI) concept stocks have undoubtedly been the absolute dominant force in the U.S. stock market, driving the cumulative gains of related sectors by up to 78%. Led by NVIDIA (NVDA), Microsoft (MSFT), Apple (AAPL), and others, the “Magnificent Seven” saw their market capitalization soar by trillions of dollars. Companies across the industry chain, such as Google (GOOGL), Meta (META), as well as Broadcom (AVGO) and Oracle (ORCL), jointly created a rare concentrated rally. However, market sentiment is undergoing subtle changes. Investors are growing increasingly concerned about whether AI technology can deliver on its disruptive economic impact and profit potential, with exuberance gradually giving way to caution. Ed Yardeni, President of Yardeni Research, refers to this sentiment as “AI fatigue,” signaling that market attention may be shifting.
Signs of a reversal in market direction have quietly emerged. After the S&P 500 hit a new high in late October last year, a round of adjustments followed. Data shows that from October 29 to the recent period, the index tracking the “Magnificent Seven” fell by approximately 2%, while the index composed of the remaining 493 constituents of the S&P 500 rose by 1.8%. This divergence clearly indicates that funds are flowing from highly valued, popular growth stocks to other areas. The Defiance Large Cap Ex Magnificent Seven ETF (XMAG), which focuses on investing in large companies outside the “Magnificent Seven,” has continued to see net fund inflows. Its 15% gain last year was also concentrated mainly in the second half, further confirming the trend of capital diffusion.
If the economic growth environment improves, the remaining 493 companies in the S&P 500, which have long been overshadowed, may see opportunities. The financial sector, including JPMorgan (JPM) and Bank of America (BAC), could benefit from increased credit activity. A recovery in consumer confidence would favor non-essential consumer goods companies like Nike (NKE) and Booking Holdings (BKNG). A team of Goldman Sachs strategists predicts that in 2026, the contribution of the “Magnificent Seven” to the S&P 500’s earnings growth will drop from 50% in 2025 to 46%, while the earnings growth rate of the remaining 493 companies could increase from 7% to 9%. From a valuation perspective, sectors such as healthcare are currently at historically low levels relative to their earnings power, making them attractive to value investors.
Although market diffusion is viewed as a healthy trend, historical experience shows that the end of a bull market dominated by a handful of leading stocks is often not a smooth process. Doug Peta, Chief U.S. Investment Strategist at BCA Research, believes the dominance of the “Magnificent Seven” may not be completely over yet and might even see one last surge. However, once their era concludes, the market may need to undergo a deep adjustment to give rise to new leading forces. The current AI investment boom is already showing signs of divergence. The market is shifting from the initial blanket enthusiasm to a more selective approach, which in itself is a signal of investors becoming more rational.
