The AI Trade's Moment Of Truth

The AI trade is approaching a key inflection point. Semiconductor stocks have corrected sharply, valuations have become more reasonable and positioning has been reset. Yet technical damage continues to build, credit markets are showing signs of stress and investors are increasingly questioning the sustainability of the AI investment cycle. With SOX now testing major support, the next move could prove decisive.

SOX is testing major short-term support around 11,200, the same level that held during the July 17th sell-off. Since that bounce, however, the technical picture has deteriorated, with the 21-day moving average crossing below the 50-day moving average, a short term bearish development. A decisive close below 11,200 would leave little meaningful support until the 200-day moving average, which currently coincides with the longer-term uptrend.

SOX is now at its most oversold level since the AI melt-up began. The RSI has fallen to 39, a level that has historically coincided with increasingly stretched positioning. That said, oversold markets have a habit of staying oversold far longer than most investors think possible.

It has been a painful few weeks for the leveraged ETF semis/AI crowd. While the SOX Index has sold off sharply, the move in SOXL has been nothing short of a crash. The ETF has fallen from almost $300 to around $120. Investors who bought SOXL near the highs now need a 150% gain just to break even. We suspect many retail punters still don't fully appreciate how leveraged ETFs behave over time, instead relying on hope that they'll eventually "make it back". Unfortunately, recovering from a 60% decline requires an extraordinary rally, and 150% gains are rare.

Korea led the AI trade on the way up, and it continues to lead on the way down. The last time EWY traded at these levels, SMH was significantly lower, suggesting Korean equities continue to signal caution for the broader semiconductor complex.

"...for an industry on an historic run, forward multiples are historically unremarkable."

The short-term divergence between Mag 7 capex expectations and the SOX Index has become unusually wide, highlighting the growing gap between AI spending optimism and semiconductor equity performance.