A Nasdaq Meltdown, Like China’s Big Tech in 2021?

After the recent 5% decline of the Magnificent Seven stocks, global investors are starting to question their trust in US exceptionalism. They are debating whether the Nasdaq is merely experiencing a small correction or if a much larger problem lies ahead.

There is a concern that the US might be heading toward a situation similar to what China dealt with in 2021, which saw a significant drop in growth stocks. In that year, the MSCI China Index plunged by about one-third due to government actions against tech firms that diminished earnings forecasts and increased perceptions of political risk. For perspective, the Nasdaq 100 has already fallen 12% from its peak in February.

Before dismissing these fears, consider the following points.

First, the dominance of the Magnificent Seven is facing structural challenges. The launch of DeepSeek in late January showcased that China is not just a manufacturing hub, as it has now produced startups that can compete with established players in algorithmic efficiency. Following this, companies like Alibaba Group and Tencent Holdings rolled out models that rival DeepSeek's capabilities and are now releasing AI agents that handle complex tasks for users, setting a new standard in software, which has traditionally been an American stronghold. Thus, as we look at the future of AI investments, even if investors pivot from hardware companies like Nvidia to software solutions, China’s disruptive influence continues.

The situation in electric vehicles (EVs) and smartphones is even more concerning. Chinese companies are advancing up the value chain and redefining luxury products. Recently, Xiaomi Corp. launched a premium four-door sedan priced at $73,000 and a high-end camera phone for $1,560. Meanwhile, BYD Co. is enhancing even its most basic EVs with software upgrades at no extra cost. This advancement presents a formidable challenge for major U.S. brands like Tesla Inc. and Apple Inc., pushing them to work harder for consumers' attention and spending.

Secondly, there is an increasing risk premium in the US market. The current administration is imposing tariffs and reducing federal employment. Former President Trump has shifted his rhetoric, suggesting that a recession might happen and that one can't solely depend on the stock market as the economy shifts. Recently, his former Treasury Secretary, Scott Bessent, indicated that a 'detox period' is on the horizon as fiscal policies tighten.

These comments reflect a troubling resemblance to the remarks made by Chinese President Xi Jinping in 2021, who targeted the “disorderly expansion of capital,” foreshadowing that market turmoil wouldn't stop the Chinese government from pursuing unpopular economic policies. Similarly, the so-called “Trump Put” — the belief that Washington would act decisively to support the market — may not be a guarantee anymore.

Thirdly, there is an overwhelming preference among investors for US stocks. Following the Global Financial Crisis, international buyers have net purchased around $2 trillion in American stocks. This has boosted their overall investment in US equities to $17.6 trillion, leading them to now own more US stocks than US government debt. As of June 2023, foreign investors held a record 17% of US equities.

Despite this, fund managers are feeling apprehensive. According to a recent survey by Bank of America Merrill Lynch, 89% of respondents consider US equities overvalued as they enter 2025, marking the highest level of concern since at least April 2001. Consequently, when strategists suggest that US exceptionalism may be softening, foreign investors might start to sell.

The question of whether China is a viable market resurfaced in late 2021 after stringent tech crackdowns cost foreign investors significant losses. Now, similar feelings might arise regarding US investments.

Conclusion

In summary, the data suggests potential challenges ahead for US markets that echo the tumultuous events in China’s tech sector a couple of years ago. With evolving competition from Chinese firms and changing investor sentiment, there’s reason to approach US stocks with caution.

Nasdaq, China, Investing