US Chip Stocks One Step Away from a Bear Market

Artificial intelligence-driven chip trading is experiencing a rapid cooldown. The Philadelphia Semiconductor Index has retreated about 19% from its June highs, just one step away from confirming a bear market. Capital is beginning to withdraw from high-valuation chip and memory stocks, shifting toward sectors such as finance, retail, and transportation that benefit more directly from economic resilience.

During Thursday's US trading session, the Philadelphia Semiconductor Index fell 4.3%, with all 30 constituent stocks trading below their record highs set on June 22. According to Dow Jones Market Data, if the index falls further into the range of a 20% decline from its peak, it will confirm entry into a technical bear market. On Friday, the sell-off spread further to Asian and European markets. Japan's Nikkei 225 Index closed down 4%, while Taiwan Semiconductor, Kioxia, and European chip equipment maker ASML all faced pressure.

The reversal in AI trading has dragged down global risk appetite. The Philadelphia Semiconductor Index accumulated an 8.5% decline this week, poised to record its worst weekly performance since the tariff shock on "Tariff Day" last year. Nasdaq 100 Index futures fell 1.6%, and S&P 500 Index futures dropped 0.9%, as concerns simultaneously intensified regarding returns on AI infrastructure investments, inflation risks, and the outlook for monetary policy.

Goldman Sachs traders described the current AI market as a "rubber band" being constantly stretched. As hyperscale cloud computing companies continue to increase capital expenditures, the key question in the market has shifted from "how large is the investment scale" to "when and how will these investments translate into returns." The upcoming earnings reports from tech giants may become the first critical node for validating this logic.

Chip Index Approaches Bear Market as Profit-Taking Evolves into Broad Cooldown

Chip stocks were previously one of the most popular trades in the spring of this year. As investors once worried that the "Magnificent Seven" would bear most of the costs for building AI data centers, capital chased chip manufacturing, memory, and semiconductor equipment companies, betting they would be the direct beneficiaries of the capital expenditure cycle.

However, this trade is reversing quickly. As of Thursday, the Philadelphia Semiconductor Index was down 19% from the historical high set on June 22. The index fell 4.3% on the day, just one step away from the 20% retracement threshold that confirms a bear market.

Individual stock volatility was even more severe. Marvell Technology has fallen nearly 40% since the Philadelphia Semiconductor Index peaked, though it remains up 121% year-to-date. This reflects that the current correction is concentrated mainly on AI beneficiaries that had seen significant prior gains, as investors reassess whether high-growth expectations have been fully or even excessively priced in.

In the US market on Thursday, Sandisk, Western Digital, and Seagate all fell more than 9%, while Intel and Micron dropped about 6%. The decline continued in Asian markets on Friday, with Japanese memory chip manufacturer Kioxia falling more than 16% at one point, retreating over half from its June highs. Taiwan Semiconductor's stock price also declined significantly.

Earnings Remain Strong, but Market Begins to Question Growth Sustainability

The chip sector is not facing a short-term collapse in profitability. FactSet data shows that the market expects second-quarter earnings for S&P 500 constituents to grow 23.6% year-over-year, while earnings growth for the semiconductor and related equipment industry is projected to reach as high as 131%.

The question is whether strong current performance is sufficient to support valuations that already reflect years of growth expectations. David Russell, Global Market Strategist at TradeStation, stated that while tech companies may deliver impressive results, the market is questioning whether this growth can sustain over the next one to three quarters.

Taiwan Semiconductor's performance highlights this contradiction. Despite reporting record quarterly profits, its stock weakened significantly this week. The Financial Times reported that Taiwan Semiconductor fell more than 7% on Friday. The fact that better-than-expected results failed to stop the stock's decline indicates that market focus has shifted to order sustainability, returns on capital expenditures, and the slope of AI demand growth, rather than single-quarter profits alone.

Kevin Gordon, Head of Macro Research and Strategy at the Schwab Center for Financial Research, believes that the significant adjustment in chip stocks does not necessarily constitute a serious warning signal. Over the past decade, the Philadelphia Semiconductor Index has experienced six retracements exceeding 20% and 31 adjustments of at least 10%, showing volatility significantly higher than the S&P 500 Index. However, frequent adjustments also mean that the sector is highly sensitive to changes in valuations, inventory cycles, and capital expenditure expectations.

Capital Shifts to Economic-Sensitive Sectors as Market Breadth Expands

While chip stocks face pressure, there is a clear rotation of capital within the US stock market. The financial sector hit new closing highs for the second consecutive day on Thursday, driven by strong banking performance. The Dow Jones Transportation Average is up more than 30% year-to-date, approaching historical highs, and retail ETFs have also risen to levels near their highest since early 2022.

David Royal, Chief Financial and Investment Officer at Thrivent, stated that the expansion of market breadth is a healthy signal. Recent employment and retail sales data also show that the economy remains resilient. The flow of capital from high-valuation tech sectors to finance, consumer, and transportation fields means that investors are not completely exiting risk assets, but are reallocating to assets more sensitive to economic growth.

This rotation has also weakened the previous relative advantage of chip stocks. When the economic outlook remains stable, investors have more choices and do not need to continue concentrating bets on the highest-valued and most crowded companies in the AI infrastructure chain.

Goldman Sachs Warns: Tension Exists Between AI Capital Expenditure and Monetization Returns

Mark Wilson, Head of EMEA Equity Hedge Fund Business at Goldman Sachs, and Rich Privorotsky, Head of EMEA Equity Flow Intermediary Business, believe that the mismatch between AI infrastructure investment and commercial returns is becoming the core risk variable in the market.

They pointed out that hyperscale cloud computing companies such as Microsoft, Amazon, Alphabet, and Meta are investing in AI infrastructure at a scale exceeding the growth rate of their own operating cash flows. However, in the short term, there is still considerable uncertainty regarding how much revenue, profit, and cash return these investments can generate.

Privorotsky described the AI market as a "rubber band," noting that the key issue is not whether the market remains bullish on the long-term direction of AI, but rather how long this stretching of valuations and capital expenditures can continue. Goldman Sachs also noted that the accelerated diffusion of frontier models and declining inference costs may change the AI value chain: the scarcity premium for hardware and computing power may decrease, while platform companies controlling distribution channels and workflows may capture more value.

If any of the hyperscale cloud computing companies are the first to cut capital expenditures, the market may quickly reevaluate demand expectations for the entire AI hardware chain, triggering broader ripple effects.

Earnings Season Will Test Whether AI Trade Can Regain Support

The market's next focus will shift to the earnings reports and capital expenditure guidance of major tech companies. Alphabet and Tesla will report results on July 22. Their statements on AI investment, data center construction, and commercialization progress may influence whether the chip sector can stop falling.

In the short term, the high earnings growth of chip stocks still provides some support for valuations, but the market is no longer satisfied with "high growth" alone. Investors need to see improvements in revenue, profit margins, and cash flow resulting from AI investments. They also need confirmation that capital expenditures by hyperscale cloud companies will not slow down due to financing pressures, rising inflation, or returns falling short of expectations.

Whether the Philadelphia Semiconductor Index formally falls into a bear market may only be a technical dividing line. For the market, the more important dividing line is whether the AI trade can shift from advancing future years of growth to validating the path of real-world returns.