U.S. Stocks Have ‘Room to Rally Further’

U.S. equities still have scope to advance despite recent volatility in technology shares, with UBS arguing that the underlying drivers of the rally remain intact and leadership is likely to broaden beyond a narrow group of mega-cap names.

In a note this week, the bank noted that weakness in technology stocks late last week “disrupted a rally supported by the Federal Reserve’s interest rate cut,” noting that the Nasdaq fell 1.7% on Friday even after Broadcom reported solid quarterly results. 

Investor sentiment was instead weighed down by concerns over margins at chipmakers and higher capital expenditure plans, including at Oracle, UBS wrote.

Despite these near-term worries, UBS stressed that it does “not see evidence of an investment bubble” in artificial intelligence. 

The bank reiterated its view that the race toward artificial general intelligence could drive a prolonged capital expenditure cycle, adding that this pattern is “consistent with previous innovation cycles.”

UBS highlighted that “demand for AI compute remains strong,” pointing to company updates that indicate continued growth in usage and investment. 

As AI adoption expands from consumer applications to enterprise and industry use cases, UBS estimates that required compute capacity could be “orders of magnitude greater than today’s installed base.”

At the same time, UBS said value creation is increasingly shifting away from infrastructure providers toward companies applying AI to generate cash flows. 

Historically, UBS noted, “the majority of value captured over time accrues to the application layer.”

Looking ahead, UBS said the return potential remains substantial, forecasting an AI total addressable market of $3.1 trillion by 2030. 

With company fundamentals “robust” and valuations “reasonable compared to historical bubble peaks,” UBS believes U.S. equities “have room to rally further,” particularly as leadership broadens across sectors such as health care and financials.

“We believe the AI story remains intact, and expect a more widespread capture of AI value creation to support a broadening of leadership in equity markets,” UBS stated. 

“We recommend diversification beyond the enabling layer and into the application layer, and suggest limiting exposure to companies trading at elevated price-to-earnings multiples.”