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The Nasdaq fell 1.5% on Tuesday as investors rotated out of high-momentum tech stocks, reflecting renewed jitters over the sustainability of the AI trade. Shares of several high-profile AI-linked companies led the declines, with NVIDIA dropping 3.5%, Palantir down 9.4%, and Arm declining 5%. Defensive sectors such as consumer staples, utilities, and real estate outperformed on the day, with nearly 70% of S&P 500 stocks ending higher despite the notable weakness in tech.

Some of the fall was attributed to a new study from MIT’s Nanda Initiative that warned 95% of corporations polled reported no measurable return from their generative AI investments to date. This cautionary note came on the heels of OpenAI CEO Sam Altman’s public remarks late last week, warning that some investors are “overexcited” about AI. Adding to the uncertainty, Reuters late on Tuesday reported that the US Commerce Secretary may also seek minority equity stakes in more chipmakers receiving CHIPS Act funding, expanding beyond its initial focus on Intel.

While some near-term tech volatility is not surprising given the run-up in valuations, we advise investors against becoming overly defensive for several reasons:

Tech earnings growth has been robust and broad-based. Second-quarter large-cap tech earnings have been solid, with a weaker US dollar acting as an additional tailwind. A large majority of companies beat both sales and earnings-per-share estimates, suggesting that index-level profit growth could exceed our expectations for the year. Forward guidance has also been resilient, bucking the typical trend of downward revisions during this reporting season. Notably, cloud revenues at the three largest platforms grew by an average of more than 25% year over year in the June quarter. Our 2025 S&P 500 EPS estimate stands at USD 265, implying 6% growth, and we see potential for further upward revisions if current trends persist.

Internet and software companies should continue to benefit from rising AI monetization. Software and internet companies, traditionally the more defensive segments within tech, continue to benefit from rising AI adoption and early monetization. While AI revenue growth has not yet fully matched the pace of industry investment, we are seeing encouraging signs of progress as more companies embed AI into core products and services. We expect Big Tech’s capex intensity (capital spending as a share of sales) to moderate after a period of heavy investment, supporting margin stability and further upside as AI applications achieve scale.

Retail, institutional signals on tech don’t look all that euphoric. Despite record highs in global equities, retail sentiment has cooled: The latest American Association of Individual Investors (AAII) survey shows bullish sentiment down to just under 30%, while bearish sentiment has risen to 46.2%, the highest since early May. Institutional positioning also appears cautious, with Morgan Stanley data showing that mega-cap tech stocks are more under-owned relative to their S&P 500 weights than at any point in the past 16 years. This comes just ahead of a widely anticipated Federal Reserve rate cut in September. Our historical analysis shows that soft-landing rate cuts are typically bullish for equities, offering hope for more support for risk assets in the months ahead.

While we think some caution may be warranted in the more cyclical parts of tech, we remain confident in the broader AI sector’s long-term growth and resilience. We recommend investors seek balanced exposure across the AI value chain (infrastructure, semis, and applications), with a preference for laggards offering a more attractive risk-reward balance. Investors seeking tech exposure may also consider structured investments, such as capital preservation and put-writing strategies, to take advantage of near-term volatility.

For those underallocated to stocks more broadly, we would consider phasing strategies or using market dips to add exposure to preferred areas, especially those aligned with our Transformational Innovation Opportunity (TRIO) themes: Artificial intelligence, Power and resources, and Longevity. Alongside our US sector preferences for information technology and communication services, we also favor US financials, health care, and utilities. In Europe, we recommend Swiss high-quality dividends, European quality stocks, and our “Six ways to invest in Europe” theme. In Asia, we like China’s tech sector, Singapore, and India. We also see opportunities in Brazil.