Bank of America chief investment strategist Michael Hartnett said in the latest edition of "Flow Show" that the current structure of the U.S. stock market closely resembles the setup seen just before the dot-com bubble peaked in 2000, according to BlockBeats on Oct. 4.
Hartnett said that in the six months before the March 2000 peak, the technology sector rose more than 40%, while consumer staples fell 30%, and every sector other than technology and telecom declined. He said today’s market is showing a similar split, with AI and mega-cap technology stocks rising while the rest of the market faces pressure.
AI trade concentration draws comparison with 1999
Hartnett said investors are going long AI-linked assets represented by the Nasdaq 100 and the Magnificent Seven, while shorting areas with less AI exposure such as the S&P 500 equal-weight index. In his words, the "1999 analogy still holds."
He also called AI the "biggest bubble since railroads" and used two 19th-century railroad investment bubbles as reference points. Capital spending by hyperscale cloud companies is expected to reach 3.5% to 4% of U.S. GDP by 2027, still below the roughly 5% level seen at the peak of railroad construction.
At the same time, Hartnett said there are important differences. Semiconductor prices are still rising today, while freight rates kept falling in the railroad era after excess transport capacity emerged.
High rates shape the bond view
Hartnett said the railroad bubble had support from falling government bond yields, a condition that does not exist in the current high-rate environment. On the bond side, the U.S. 10-year Treasury yield has risen to 5.33%, the highest level since 2002.
Against that backdrop, he proposed a "buy humiliation" strategy and suggested investors begin adding to bonds that the market has largely ignored. He said similar periods of extremely low returns have historically lined up with generational allocation opportunities, though a 100 to 200 basis point decline in yields may still require a credit event or an economic recession as a catalyst.
Four market warning lines
Hartnett listed four risk thresholds to watch:
- Global financial stocks ETF IXG falling below $125;
- the MOVE Index rising above 125;
- mid-cap ETF MDY falling below $666;
- small-cap ETF IJR falling below $135.
He said that if small caps weaken alongside bank stocks, the market could face a chain reaction of deleveraging.
BofA’s bull-and-bear indicator also slipped this week, falling from 9.3 to 8.8, though it remains in "sell" territory.