Three signs point to more tech selling ahead as sentiment weakens

Wall Street has faced pressure before in 2024, but the current tech selloff feels more fragile. Earlier, robust earnings reports saved the day. Now, even strong earnings fail to reassure investors as anxiety over AI spending dominates.

Following October's severe selloff, bargain hunters are searching for any justification to re-enter the market. Yet with sentiment deteriorating daily, each weak earnings release or new doubt about AI spending risks driving investors away.

Beneath the surface, several indicators hint that the worst may still lie ahead.

First, a key pillar of the AI rally remains under severe pressure. Chip stocks have been declining sharply for a month, with no relief in the latest trading sessions.

On Friday, the Philadelphia Semiconductor Index dropped 7.2%, and the selloff extended into Monday. This is troubling given that chipmakers have been central to the AI rally.

A weak forecast from Intel may have triggered the recent decline, but the selloff has spread to Nvidia, AMD, and Broadcom. Until semiconductor stocks stabilize, a sustained Nasdaq rebound seems unreliable.

Second, unease is mounting that investors are tiring of the AI spending spree. Amazon, Alphabet, and Meta keep investing heavily in AI infrastructure, but shareholders appear fed up. They are now increasingly skeptical about when these outlays will yield returns.

For instance, Amazon's free cash flow over the past 12 months turned negative at $42.4 billion. This is a steep cost of pursuing AI ambitions.

The problem is not a lack of demand but rather that spending is increasing more quickly than investors tolerate, prompting tough questions about ROI.

Third, market breadth provides little comfort. At Monday's close, roughly 36% of Nasdaq stocks were above their 50-day moving averages. This is a weak basis for expecting a lasting rebound.

The wider S&P 500 is faring better, with about two-thirds of its members above that level. Thus, the issue remains confined to tech rather than a broad market collapse. However, conditions look concerning and could spread if the trend persists.

The coming test is a multi-front challenge: can chipmakers stabilize, will AI spending worries subside, and can more Nasdaq stocks participate in a recovery?

Until there are improvements on all these fronts, any rally should not be taken as a sign of market health. In fact, the signals indicate that another wave of selling could be easily sparked.