Lance Glinn:

Welcome into another episode of our Markets in Focus series in partnership with Opening Bell Daily here on the Inside the ICE House podcast. Joining us now, as he always does each and every month, to talk more about market trends and market movements is Phil Rosen. Phil, thanks so much for joining us Inside the ICE House. Happy to have you here.

Phil Rosen:

Thank you for having me.

Lance Glinn:

So, let's start with a big leadership shift at the Federal Reserve as Kevin Warsh on Friday got sworn in as the chair. When you look at the backdrop right now, you have inflation, elevated yields and a yet resilient market. What exactly is Warsh walking into on day one?

Phil Rosen:

Kevin Warsh is going to have his hands very full for these next few months, and he may even have the most confusing macro outlook as a new Fed chair that I've certainly seen in my lifetime. I haven't been around that long, but still I think the point stands. He has to figure out whether the inflation shock from the Iran conflict, how long that sticks around.

We know the perils of saying anything is transitory from Jerome Powell. I don't think he will make that call, but he has also been in the camp for the last year or so that AI is going to drive a deflationary era in the economy. I think the Iran conflict really puts a wrinkle in that thesis, and I'm with him too. I'm very bullish on AI and its potential productivity gains. But I do think the Middle East turmoil, that does make it a bit harder to parse the tea leaves right now.

But again, Kevin Warsh also has to figure out the potential inflationary effects of hyperscaler spending. I think that's very underappreciated for investors but also policymakers. Because right now you have the likes of Meta, Amazon, Google, all these massive companies, next year they're planning a trillion dollars to put that into this AI infrastructure build out.

And I think the underappreciated risk is that that is inflationary on top of the Iran conflict. And again, this does not make me bearish on AI. I do see a lot of upside productivity wise and growth wise, but I think Kevin Warsh will have to really figure out whether he can come in and cut as he had at least been signaling-

Lance Glinn:

Sure.

Phil Rosen:

... for the last year. I think that's going to be a much harder case and right now markets are pricing a hike before a cut. So, that really complicates things too. And my sense is that President Trump will not be super stoked if he comes in.

Lance Glinn:

If he hikes it, yeah.

Phil Rosen:

And does a rate hike. But I think there's also something to be said that Kevin Warsh may have to earn some credibility with the bond market, with his peers at the FOMC, and do the hard thing right away just to almost position him himself for the future as Fed share.

Lance Glinn:

And so, you bring up this potential rate hike and how investors are pricing in a potential rate hike, whether it be towards the end of this year, maybe in Q1 of 2027. That obviously is a big shift from what we saw earlier this year where there was a lot of optimism that there would be a potential rate cut. Why do you believe we have seen this swaying of opinion, this swaying of the data towards a hike now compared to what we saw months before?

Phil Rosen:

I think much of the hike versus cut coming into the year. One, I think there was some political undercurrents to it. President Trump's been calling for rate cuts since he got into office essentially. So politically, I think there's a lot of momentum for the rate cut.

However, the unexpected Iran conflict, a lot of inflation shocks there, oil prices going up, gas prices going up. That is something that I think has even tempered the administration's rhetoric about rate cuts. So, I think that's another conflicting signal there. But again, stocks were rallying into the end of last year and to start this year largely on optimism for rate cuts.

So, I think the AI trade has been an amazing tailwind, but that has sort of run into a... Not run into a wall because it's still going very strong, but maybe it's going less strong than it could have if we still had that optimism for rate cuts. Again, I don't really know if we're going to see a rate hike by the end of the year as markets predict right now. I would lean more towards probably nothing this year. I think we'll just get no change in policy.

It's hard for me to envision Kevin Warsh coming in and doing a rate hike even though that's what markets are positioned for. I just don't think that's his worldview right now and it's also certainly not the administration's worldview and he is President Trump's pick. So to me, we're more likely than not to stay neutral rather than go up from here.

Lance Glinn:

And so you've talked in your couple of answers so far about the AI trade and AI spend and the trillion, maybe even trillion-plus dollars, that are going to get spent by some of these massive companies over the course of the next couple of years. We've had back-to-back hot CPI and PPI reports as of late, but equities, especially tech, they continue to push higher. Do you believe that the market is, I guess, sort of ignoring simply these macro signals right now in favor of this AI trade? Is the AI trade just what people are focused on and that's going to move markets one way or the other?

Phil Rosen:

Look, I think if you are a fund manager or an investor and you are focused on 0.1% fluctuations in CPI, you're looking at the wrong thing, frankly. And if you instead were to focus on the trillion dollars coming down the pipeline from these hyperscalers, that to me makes a lot more sense as far as where capital is going, where capital could go. And again, the macro data historically, it's been one of the biggest inputs for investors. I think that has been completely overwhelmed.

I think we are in a new regime where AI is the new macro. AI overshadows geopolitics, economic data, whatever the government is saying. And again, I think it's almost become an obvious trade, but at the same time, you have so man investors that are fixated on the old data, the old metrics that we used to make decisions as investors.

But at this point, we can't even predict the cost of borrowing one or two quarters down the line. But what we can see is how much spend all these companies are planning and projecting for the coming two years. So, I would be trusting those private corporations and their fortress balance sheets over what borrowing costs look like, what potential indicators look like. These are all things that I think will change around the edges, but really the changes won't be dramatic enough to come anywhere close to having the punching weight as what the trillion dollar spend will have.

Lance Glinn:

And so if markets are keying one way or the other off of these billion and trillion dollar AI deals, does that introduce this new kind of fragility where on piece of guidance from a significant name or a significant company can suddenly move the entire market? Does that just make the market so reliant on, I guess, not necessarily noise, but what people are saying and what people are doing?

Phil Rosen:

Yes, I think that's a great way to think about it. The S&P 500 right now is about 50% AI trade. If you take the Mag 7s, about 30%, semiconductors are now almost 20%. So, any type of fluctuation in the AI trade will hit the entire market. So, that is the concentration risk or the top-heavy risk that a lot of investors, especially bears investors are talking about.

But if we had an earnings call with, let's say Meta or Amazon or even Google, and they came out and said, "Hey, we're going to cut our CapEx spend by 50%, 70%," that would definitely take a lot of the air out of the momentum, I would say. I don't think we're going to see that because these are also all the same companies that have said effectively, "We will spend into oblivion, into bankruptcy to win this AI race."

And I don't know what would have to happen for them to walk back those words. Maybe they would have to really start losing money. But again, these are the most profitable companies we've ever seen in history. So a lot of people talk about, "Hey, the valuations in the market are too high. They look like the dot-com, they look like previous crashes, whatever." We've also never seen $5 trillion companies that are profitable and growing this fast.

Lance Glinn:

Sure.

Phil Rosen:

So, you have something like Nvidia, they're worth over $5 trillion, but they're growing faster than a company that's worth a billion dollars. So, it's this ridiculous dynamic that is playing out in real time right now, and all of that is driving the AI trade. So, if you have Nvidia reporting 85% revenue growth compared to a year ago and they're forecasting 95% for the next time, that is just an absurd thing to even conceptualize.

I don't even think we can put that in our heads when a $5 trillion company is putting those numbers out. And yet you have the bubble crowd saying, "Look, we are in the danger zone. This looks just like the internet bubble." I think those people haven't looked closely at the data, and to me, it's very hard to articulate the bear case on the AI trade right now.

Lance Glinn:

And speaking of those bubble believers, let's call them, while there is that talk of AI bubble, tech stocks are getting cheaper. So earnings growth, I think, has significantly outpaced these price gains. They're pulling down valuations. How should investors think about that dynamic, where we're seeing these but we're still seeing these cheap tech stocks?

Phil Rosen:

Yeah, it's this amazing contradictory thing because even as prices are going up for a lot of these companies, something like Micron, price has looked like a meme stock. The charts look like dot-com era charts, and yet, the price is barely keeping up with its earnings for 2027.

So, when you look at it from that perspective, the stock is in fact getting cheaper compared to where it was a few months ago. Same with a lot of these other AI companies. Nvidia also looks cheaper than a few months ago and generally the tech sector, earnings have been so good breaking so many records and prices are struggling to keep up with the earnings revisions for what's to come in the year ahead.

So in effect, yes, tech stocks look cheaper today than maybe a year ago, but when you say that out loud, people just look at the price of these stocks and because they're higher and they're going up pretty rapidly, the trajectory looks crazy. They will not believe that tech stocks are actually cheaper, but in many cases, that's exactly what's happening. And this is all a fundamental story. Earnings look great, fundamentals look great. And also the narrative around each of these companies is extremely bullish. So, that makes me pretty bullish.

Lance Glinn:

And so let's end this month's episode on this, Phil. This AI trade obviously just isn't US based, it's globally. And we've seen huge moves in places like South Korea, especially tied to semiconductors and the supply chain. What does South Korea search specifically tell you about how global this AI boom really is?

Phil Rosen:

I think it is extremely global as far as the investor appetite, but if you think about where the concentration of, let's say, the picks and shovels are, it may be less diversified than people assume. So yes, we have Micron, let's say for high bandwidth memory based in the US, but then the only other two providers are in South Korea with SK Hynix and Samsung. So if people are buying into South Korea, let's say the Index Fund EWY, which is the iShares South Korea Fund, that is almost 50% of SK Hynix and Samsung. So those two stocks make up 50% of the countrywide ETF, which is a ridiculous thing to say, but that's why the ETF has done so extremely well because those two stocks have done so extremely well because the demand for high bandwidth memory is astronomical.

And so I think that introduces a couple things. When you think about diversifying outside the US, a lot of people look to Asia, emerging markets, wherever to put capital, but really it's the same trade just with a different name on it because you're still gaining exposure to the same AI boom. So, it's not exactly diversifying or getting out of AI.

And I think that's going to become a bigger and bigger issue for a lot of investors who are looking for exposure that's not tied to Nvidia, let's say. That is one thing. I had one investor tell me the other day that European banks are a really interesting opportunity because they're one of the few pockets of the market that aren't exposed to AI and that will pretty much be agnostic no matter what Nvidia, Micron, South Korea does. So, that's pretty interesting.

I think there's a lot of opportunity in Europe more broadly as well because Europe's not really an innovator as far as a regional bet in markets. But because they're not at the cutting edge of innovation, maybe there are some more value plays there that could diversify outside the AI trade. But again, I'm not going to be deploying capital there. I'm very bullish on AI.

I think the South Korea trade is still very attractive. The US-AI trade's still very attractive. And also if you are sitting on the sidelines during arguably the greatest technological revolution we've ever seen, you are leaving a lot of money on the table. So to me, I'd rather be a little less conservative and see what happens with a tech boom rather than waiting for a crash in money markets and missing out on triple digit gains.

Lance Glinn:

Well, Phil, I always enjoy our conversations each and every month. Thanks so much for joining us inside the ICE House.

Phil Rosen:

Thank you, Lance