It's been a constant battle between fundamentals and sentiment all year, mainly around the AI trade. Fundamentals have been strong but need to be reminded every earnings season. In between, there are bouts of anxiety around job displacement, compute costs, etc. The challenge is valuations and the growing question of how sustainable earnings growth is—even if growth inflects lower, it could spook markets.

The Mag7 and hyperscalers are an example where even consistent earnings have seen the trade fade.

Earnings have been strong but aspects of those trades have fizzled and given way to other areas of the AI ecosystem. There will be a passing of the baton to model developers and apps over time, but the infrastructure layer is still holding. Tech is moving from capital light to capital intensive, bringing cyclicality. The earnings cycle looks reasonably long, but it's not too early to balance concentration and overlap risk in portfolios.

Portfolios need to look underneath the hood to understand exposures. The Russell rebalance showed that changes at the sector level happened from just a couple of companies. Top 10 stocks in the Russell 1000 represent 35% of exposure (16% in value, 55% in growth)—there's real overlap risk. The Mag7 increased weight just as they're underperforming in value. Semis are about a third of growth, and 70% of growth is tech.

Points to financials as an area where earnings growth has been strong but sentiment hasn't caught up, with most of the pullback being multiple compression. Good loan growth, resilient consumer, and M&A/IPO activity are supportive.

It's the tension between sentiment and fundamentals. Fundamentals have been strong but sentiment hasn't caught up. The narrative shifts—earlier this year it was about private credit hitting balance sheets, now it's about financials taking share from private credit as it goes through a reckoning. Sentiment is so sensitive to the market narrative that we have to think long-term about what fundamentals tell us.