The week that AI upended Wall Street’s investing playbook didn’t begin with an earnings miss or a Federal Reserve surprise. It began with a thought experiment on Substack.
A dystopian scenario published by little-known research firm Citrini sent shockwaves through markets, imagining a near-future where AI wipes out white-collar jobs so fast that the economy can’t absorb the blow. International Business Machines Corp plunged the most in 25 years. Software stocks, already battered, hit fresh lows. Nassim Taleb warned of bankruptcies ahead. By Friday, the jitters had spread — with private credit worries, a hotter-than-expected inflation print, and Middle East fears pushing the S&P 500 to its worst month since March.
But the disruption extends well beyond a handful of obvious blowups. As AI rapidly redraws the line between winners and losers across industries, it’s reshaping something more fundamental: the very toolkit that professional money managers use to build portfolios — challenging long-held assumptions about which stocks are safe, which are cheap, and which are worth chasing. Even the quantitative building blocks that underpin how trillions of dollars get allocated are being rethought.
Quality — Wall Street shorthand for companies with high profitability and stable earnings, the stocks that are supposed to let you sleep at night — is getting punished. Think of the Microsofts and AppLovins of the world, the client-management platforms and business-solution providers with fat margins built on the sheer complexity of the work they automated.
High-margin companies whose rich valuations were once justified by wide competitive moats are being shunned — because those moats are precisely what AI is coming after. Value, left for dead for years amid fears of buying into failing businesses, is suddenly back. And momentum — the strategy of riding winners — is flashing internal contradictions rarely seen before.
The concept of safety itself is getting turned upside down. With confidence in long-term cash flows waning amid AI disruption, investors are rediscovering stocks with here-and-now fundamentals and low price tags — companies like AngloGold Ashanti, Coca-Cola Co and Acadia Healthcare Co.
AI “is altering the behavior of traditional equity factors that many investors rely upon for portfolio construction,” said Nick Niziolek, co-chief investment officer at Calamos Investments. It’s “causing the composition and character of factor baskets to shift in real time.”
For decades, investors have been willing to pay up for future earnings and wait years for companies to deliver. Think software developers, drugmakers and social media companies — businesses built on the knowledge economy that could scale effortlessly. Now, the landscape appears to be shifting. With AI clobbering a new industry every other day, nobody wants to bet on cash flows that may not exist in five years.
What’s certain is that AI is here to stay, and the companies that stand to benefit are those providing the foundation of the infrastructure — utilities, chipmakers, and manufacturers of grids and pipelines. Many of these stocks have “heavy assets, low obsolescence,” or HALO, as Goldman Sachs strategists put it. Long viewed as boring or vulnerable to economic swings, these stocks are the new hot trade.
“AI as a technology just requires a lot broader participation in terms of making it happen, rather than just some code that you can replicate and sell at almost a 100% incremental margin,” said Travis Prentice, chief investment officer at Informed Momentum Company. “It’s rewarding more physical capital-intensive industries, more cyclical industries, which tend to have a higher weight in value type strategies.”
Quality stocks in the Russell 1000 slipped in February, trailing their value counterparts by more than 5 percentage points. The underperformance, the worst since 2021, marks a reversal from the last three years, when quality took the lead.
Hedge funds that had piled into quality stocks may have exacerbated the factor’s latest downdraft as they reshuffle their holdings, according to Barclays Plc’s global head of equities tactical strategies Alexander Altmann.
“It’s a combination of both dynamics that is creating such a confusing time for many quant strategies: disruptive technology meets years of crowded positioning,” he said. “It’s a potent combination.”
To be sure, factor regimes have been tested time and time again, only for traditional relationships to reassert themselves. If the AI trend proves narrower than feared, or if the economy slows enough to revive the flight-to-quality trade, the old playbook could snap back fast.
For the broad market, risk appetites have lately dulled due to growing geopolitical angst and software’s travails. The S&P 500 posted its worst month since last year’s tariffs-induced rout, while high-yield credit retreated. Haven assets like Treasuries and gold rallied.
Another thing breaking in the AI era is within the momentum factor. For the last decade, the most reliable trend in equities has been the propensity of rising shares to rise even faster. And it made sense: these were the same stocks analysts were always upgrading, given the power of their earnings engines.
Not so anymore. The stocks climbing fastest these days have little or no correlation to improving fundamental sentiment as proxied by analyst earnings revisions, according to an analysis by Man Group. Now the only thing you need to go up is some connection to the AI tailwind, however loose.
“You think it’s a momentum portfolio, but at this point in time, it’s an AI portfolio,” said Ziang Fang, a senior portfolio manager at Man Group. “It’s really worth considering where that exposure is coming from, intended or not, and then what that exposure means from a risk perspective.”
With AI clouding the outlook for many firms, investors are reluctant to wait for clarity. Cold cash, earned as quickly as possible, is in demand like rarely before. Exchange-traded funds tracking companies with generous dividends and buybacks have attracted $7bn of fresh money this month, trailing only value-anchored funds among so-called smart-beta ETFs, data compiled by Bloomberg show.
A basket of stocks focusing on higher cash returns has gained about 7% this quarter, according to 22V Research.
AI “is an idiosyncratic force that is driving the change in factor relationships,” said Dennis DeBusschere, co-founder at 22V. “We should expect the breakdown in typical factor relationship to continue over the coming year.”
