Wall Street’s AI-powered rally risks ‘correction’, Vanguard warns

Vanguard chief economist Joe Davis says investors are overplaying the near-term potential of the technology. Image / 123rf

Investors’ rush into artificial intelligence stocks this year has overplayed the near-term potential of the technology, raising the risks of a “correction” in share prices, asset management powerhouse Vanguard has warned.

Joe Davis, Vanguard’s chief economist, said investors have gone too far in their bets on AI’s potential, even if the technology proves to have similar effects to the personal computer, which has revolutionised productivity and jobs since the 1980s.

The cautious remarks from the world’s second-largest asset manager add to the fierce debate among investors over whether groups that rode the AI wave are overvalued after huge gains in recent months.

“We see roughly 60 to 65% odds that AI is more impactful than the personal computer. The US stock market today is pricing roughly a 90% probability,” said Davis, who leads the US$10 trillion ($17t) asset manager’s investment strategy group.

Productivity gains from PCs, and optimism about their potential helped fuel a powerful surge in equities prices in the second half of the late 1990s that culminated in the dotcom bubble bursting in 2000.

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“From an economic perspective we’re roughly in the year 1992 but from the market valuation perspective, I can make the argument that we’re in 1997,” he added.

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Soaring shares of AI-linked groups have been key drivers of a wider rally in Wall Street stocks, which has pushed the broad S&P 500 index up 27% this year. Nvidia, which makes chips that are essential for AI, has driven roughly a fifth of the S&P 500′s gains, jumping more than 180%.

Other Big Tech companies, which have made big bets on AI, have also rallied, while private groups such as ChatGPT maker OpenAI have secured towering valuations.

Davis warned the companies most closely linked to the AI investment rush might not ultimately end up its biggest beneficiaries, however transformational it proves to be in the years to come.

“It’s companies outside of technology that are actually using the technology — hospitals, utilities, financial companies,” he said.

“Meanwhile, you have new entrants coming into AI, so the return on investment in AI companies will go down.”

He added: “The irony is that even if the technology actually is transformational, you can still have a correction in the very prices of the stocks that led to the transformation itself.”

Davis cautioned the timing of any pullback was hard to call: “I just don’t know if it’s going to start in 2025”.

Written by: Jennifer Hughes in New York

© Financial Times