Treat or Trick?

As trick-or-treaters geared up for Halloween, the stock market spent the week sorting its own treats from its tricks. For the mega-cap technology companies that have led this bull market since the November 2022 launch of ChatGPT, the quarter’s earnings delivered a genuine fright: not weak results, exactly, but a sudden case of nerves surrounding the huge amount being poured into the artificial intelligence (AI) buildout. For much of the rest of the market, by contrast, October turned out to be a treat.

The headline numbers obscured that split. The S&P 500 (S&P) slipped about 0.6% on the week to close at 7,580 and finished October down 0.9%. The tech-heavy Nasdaq Composite fell about 2% on the week and 5.3% for the month, its worst stretch since early 2025. Yet beneath the surface, the month told a very different story. Nine of the 11 S&P sectors rose in October, with only technology and communication services trading lower. The equal-weight version of the index, which treats the smallest member of the index the same as the largest, outperformed the headline index for a fourth consecutive week. The average stock in the equal-weight index gained 4.8% on the month even as the cap-weighted index lost ground. In other words, the index fell not because most stocks struggled, but because its two largest sectors did.

That trick was the work of the AI capital-spending debate, which came to a head during the busiest week of earnings season. The results themselves were generally strong, as cloud-revenue growth accelerated across the major platforms to some of the fastest rates in years. But investors have shifted their focus from revenue and earnings growth to the amount being spent to build out AI infrastructure. The reaction from investors last week made it clear that they are spooked.

Spending on data centers and chips has ballooned toward an estimated $800 billion across the largest technology firms this year, and for the first time this cycle, the market’s patience is wearing thin. Alphabet (the parent company of Google) fell 12.6% in a single session, its steepest one-day decline since the company went public in 2004, after its capital spending outran its operating cash flow. Several other hyperscalers and chipmakers slid alongside it, and by some estimates more than $1 trillion in technology-sector value evaporated over the final two days of the week. The emerging message from the market is that unchecked spending will no longer be tolerated, especially if return on investment is uncertain.

Crucially, the money that fled technology did not flee the market; it rotated. Investors moved into the defensive and value corners that have lagged for much of the year. Health care led all sectors, helped by strong earnings from several large drugmakers and the sector’s reputation as a safe harbor in turbulent markets. Other sectors with historically less volatile earnings, like consumer staples, real estate and utilities, outperformed as well. Value handily outpaced growth, which has now given back nearly 12% relative to value since early October. Small-cap stocks rose on the week as interest rates fell.

The Federal Reserve (Fed) remained in focus last week as investors adjust to Fed Chair Kevin Warsh’s leadership style. At the conclusion of its meeting on Wednesday, the Federal Open Market Committee held its benchmark rate steady at a range of 3.75% to 4.00%, following September’s quarter-point hike. The vote was not unanimous: two members dissented in favor of another increase. Warsh reiterated that inflation is “too high” and described the return to the central bank’s 2% target as a gradual process, while declining to signal whether another hike might come in December. The market believes the most likely outcome of the Fed’s December meeting is another 0.25% hike in rates. Warsh also used the press conference to announce changes to the Fed’s meeting schedule in the years ahead and, with midterm elections only days away, to insist that politics played no role in the decision. Markets took the pause in stride.

The economic data released during the week only heightened the Fed’s dilemma. On Thursday, the first estimate of third-quarter gross domestic product (GDP) showed the economy expanding at a robust 3.4% annual rate, up sharply from 2.2% in the second quarter and the fastest pace since 2021. The acceleration was driven by a 12.7% surge in business investment, led by a nearly 21% jump in spending on equipment, much of it the very AI buildout now under scrutiny, alongside resilient consumer spending that rose 3.8%. Inflation, however, is not cooperating. The Fed’s preferred gauge, the personal consumption expenditures price index, rose 3.6% from a year earlier in September, with the core measure that strips out food and energy up 3.1%; both ticked higher from August and sit well above target.

Consumers are feeling the squeeze, as real disposable income fell 0.3% on the month and inflation-adjusted spending was flat, a sign that households are paying more and buying roughly the same. Over the last year, real income is up just 1.0%. Even so, confidence improved markedly: the Conference Board’s index jumped to 91.7, its highest since June, helped by a dip in gasoline prices, and the labor market held firm, with weekly jobless claims near 194,000. Treasury yields, meanwhile, drifted lower on the risk-off tone, the 10-year note easing to about 4.93% from 5.00% a week earlier.

The latest market shift is not wholly unique. Investors have dealt with similar bouts of volatility over the last four years, but the latest rotation feels particularly eerie for a market that has been powered higher by the AI trade. However, a durable broadening of market leadership would be a welcome development, a treat the bulls have long wished for. Still, the trick is not to be dismissed: if investors have genuinely begun to question the returns on the AI spending boom, the market’s single largest growth engine, and a meaningful contributor to gross domestic product, faces a skeptical audience. The weeks ahead will reveal whether October’s rotation is the start of something lasting or merely a Halloween fright, and whether an economy growing at 3.4% with inflation stuck near 3.6% can keep the Fed on hold much longer. For now, the candy bowl held a little something for nearly everyone, even if mega-caps went home with a trick.

The focus of the coming week will be Tuesday’s U.S. midterm elections, whose results could shape the policy backdrop into 2027. On the economic front, the Institute for Supply Management’s manufacturing and services surveys offer a timely read on activity, and the closely watched October employment report is due at the end of the week, subject to any scheduling delays. Earnings season rolls on, with investors certain to keep scrutinizing capital-spending plans across the technology sector. A handful of Fed policymakers will make the rounds this week, and investors will be on watch for any signs of what December’s policy meeting will bring.

Links to previously published commentaries can be found at benjaminfedwards.com/Latest Investment Insights/Market Commentary/Market.

6079164 Exp. 11/30/2029