Some Potential DeepSeek Implications

Stock prices were lower yesterday on concerns that a “black swan” event may lead to some restructuring in the artificial intelligence (AI) industry. A “black swan” event can be consequential because it introduces new information that the stock market didn’t anticipate.

A Chinese AI firm appears to have developed a competitive AI model that performs as well as its Western counterparts at a fraction of the cost. The news put pressure on AI stocks, which have led the stock market for the past few years. In fact, many of the largest companies in the S&P 500 have made significant commitments to AI in recent years. 

One could acknowledge the AI premium may be too rich if the capital investment needed to employ the technology at a high level is lower than markets expected.

Here are some potential DeepSeek implications:

• The large amount of good news priced in has justified some analysts' neutral rather than positive view of the technology sector, and a preference for software over semiconductors in recent months.
• Some good news that may have been lost in yesterday's trading is that the productivity boom may be coming sooner than many had anticipated, and it may be cheaper to achieve.
• Another important implication of these developments is that it accelerates the broadening out of stock market performance. A broader market is a healthier market, and certainly one that positions active managers to have an easier time finding relative winners.
• This also serves as a reminder that when markets are richly priced and sentiment is overly bullish, as it was coming into 2025, negative news is going to cause bigger selloffs.

Another thing to keep in mind is that Wall Street traders tend to move to a “risk-off” position when this type of information comes out. My expectation is that stock prices will continue to adjust as the China AI story unfolds, so it’s best to prepare for a bumpy ride for the next few weeks and months.

Finally, a number of companies are reporting Q4 results in the next few weeks. I anticipate some will speak to the AI event and its implications for the industry. I’ll keep you posted if there are any developments.

Remember, we anticipate periods of market volatility when we create our clients' portfolios. My broad suggestion is that we give the market time to process the news and see if this is truly a “black swan” event or just another development in the fast-moving world of AI.

Sincerely,

Ed

^{CNBC.com, January 27, 2025. “Nvidia hits new low for session, dropping 17% on threat from China’s DeepSeek AI model”}