The Momentum Trade Getting Smoked Thus Far in Q3

Grace O'Donnell , Jake Conley and Ines Ferré of Yahoo Finance report the Dow, S&P 500, Nasdaq post weekly losses as semiconductors get smoked:

US stocks declined on Friday, with the major indexes posting weekly losses led by declines in the semiconductor sector.

The Dow Jones Industrial Average fell by about 0.7%, while the S&P 500 declined by 1%. The Nasdaq Composite shed 1.4% following a downbeat day on Wall Street and the release of the world's most powerful open AI model.

The S&P 500 dropped more than 1.5% for the week while the Nasdaq declined 2.9%. The Dow lost nearly 1% over the past five sessions. 

A sell-off in chip stocks dampened sentiment on Friday as the PHLX Semiconductor Index (^SOX) entered a bear market. However, the sector closed off its session lows as investors bought the dip.

"Magnificent Seven" stocks closed out the Friday session and week mixed, with Apple (AAPL) gaining 6% for the week, while Alphabet (GOOG, GOOGL), Meta (META), and Tesla (TSLA) were all lower over the past five trading days.

The market's tech-driven rally from March lows has been put to the test as companies' massive spending on artificial intelligence clouded optimism for the AI trade. Adding to AI jitters on Friday, Chinese AI startup Moonshot on Friday unveiled Kimi K3, a powerful open AI model that it says is the world's largest, rivaling Anthropic's frontier Fable model. 

Netflix stock (NFLX), meanwhile, declined by 7% after the company's third quarter revenue forecast disappointed the Street as the streaming giant battles a "dynamic and competitive" entertainment landscape.

A few smaller banks, including Truist Financial Corporation (TFC) and Fifth Third Bancorp (FITB), rounded out the week's earnings docket, while the University of Michigan's preliminary consumer sentiment reading showed Americans started to feel better about the economy as gas prices eased. 

Sean Conlon, Chloe Taylor, Justina Lee and Fred Imbert of CNBC also report the S&P 500 closes lower, Nasdaq falls more than 1% as chip stocks suffer:

Stocks fell again on Friday, with Wall Street posting a weekly decline, as traders weighed the latest moves in semiconductor names along with recent quarterly reports.

The broad market index lost 1.01% to end at 7,457.69, while the Nasdaq Composite dropped 1.4% to 25,520.24 as tech stocks came under scrutiny. The Dow Jones Industrial Average fell 406.55 points, or 0.77%, to close at 52,146.42.

The major stock benchmarks notched weekly losses, with the S&P 500 off 1.6%, while the Nasdaq slid 2.9%. The Dow fell 0.9% on the week.

The VanEck Semiconductor ETF (SMH) posted its third weekly decline in four weeks, dropping almost 9% in the period. Semiconductors were hit especially hard earlier in the session after Chinese startup Moonshot AI unveiled a new model that it said narrows the gap with the top offerings in the U.S.

“The latest development is competition from open-source models in China, which are reportedly rivaling the performance of leading offerings from Anthropic and OpenAI, raising fresh concerns about the heavy pace of technology spending,” said Angelo Kourkafas, senior investment strategist at Edward Jones.

“We are seeing signs of fatigue, with end-user demand for AI becoming more price sensitive and the market starting to penalize companies that are ramping spending too aggressively,” he continued. “We view this volatility as a signal that the AI theme is likely maturing rather than breaking, which is a healthy part of how transformative investment cycles evolve.”

Alongside chips, shares of Netflix were a major laggard Friday, falling more than 7% as the company’s forecast failed to ease investor concerns that growth is slowing.

Further escalations in the U.S.-Iran war also remained in focus, with oil prices rising in their wake. U.S. West Texas Intermediate crude futures rose 4.5% to settle at $82.49 per barrel, while international benchmark Brent crude futures advanced 4.6% to close at $88.10.

Kuwait said on Friday that Iran attacked a power and water desalination plant, and U.S. Central Command said overnight that it had completed its sixth consecutive evening of strikes against Iran, hitting dozens of military targets, including logistics infrastructure and maritime capabilities.

Iranian officials also claimed on Friday to have targeted U.S. military forces in Syria and Bahrain, widening Tehran’s attacks further across the Middle East.

This comes as the fragile truce reached last month has fractured, once again disrupting energy flows through the strategically vital Strait of Hormuz, which typically handles around 20% of the world’s oil traffic.

The latest move in oil is “going to freak people out, but we still remain right in the ballpark of average,” said David Wagner, head of equities at Aptus Capital Advisors. Wagner added he’s optimistic on the broader market even with elevated oil prices, saying, “I’m still bullish, but there might be more volatility moving forward.” 

I haven't written a market comment in some time, not because I'm not trading and looking at everything that moves in the stock market, but because it's summer and most people are away on vacation and don't really care about the stock market. 

But there's no denying the red-hot momentum trade fed by chip stocks has taken a beating thus far in Q3:

 

I say thus far because the last two big dips were bought hard and the same can happen next week, momentum can/ should bounce big, but will it hold its gains and make new highs?

I'm not so sure about making new highs. There is a lot of technical damage here and keep in mind, many of the red-hot stocks in memory chips (Micron, Western Digital Corp, Sandisk, etc) all had parabolic moves up going into Q3, so we shouldn't be surprised that rebalancing/ profit-taking took place.

The thing people forget about momentum is that it's great on the way up, algos go crazy driving shares higher and higher, but these momo traders are fickle and exit fast at the first sign of trouble.

In my 30 years of trading markets, I have found that parabolic charts always end badly, regardless of the sector being examined.

And stocks do not go up or down in a straight line, unless it's a biotech stock that shoots up on buyout rumours and gets annihilated if the company's drug fails a major trial (then you can see a 75-90% wipe-out in one day).

But stocks move, and sometimes they move very abruptly.

Earlier this week, IBM shares slid 25%, posting its worst trading day in history:

It's IBM, a major Dow stock, and it got clobbered after the software giant posted preliminary results for the second quarter that disappointed.

Why is this relevant? Because it shows you how in this market, any disappointment is met with ferocious selling.

And sometimes, even when stocks do well and don't disappoint, they still get clobbered.

All the major US banks (JPM, Goldman, Citigroup, Bank of America, etc) posted solid results early this week but sold off in the latter half of the week.

Too soon to tell if there is a major change in trend there but for me, Q2 was as good as it gets for big US banks and the potential for lower returns going into the latter half of the year is elevated here:

Still, don't get me wrong, the charts look great, they definitely scream bullish from a technical perspective but be careful.

Anyway, here are this week's top-performing US large-cap stocks and the worst performers:

 

It summarizes what I explained above: hot momentum stocks got smoked again this week.

Next week, some of the big tech companies report earnings so let's see what they report.

I actually like some of the Mag-7 stocks here, think some of them are really cheap.

The top-performer there remains Apple, which hit another record high this week.

 

Apple shares tend to do well when the high-flying tech names get clobbered, which explains why they are on a tear early in Q3.

Alright, that's a wrap.

Below, in this CNBC appearance, Tom Lee, Head of Research at Fundstrat, breaks down why the recent volatility in semiconductor and memory names is a healthy reset rather than the end of the trade.

Also, Warren Pies, 3Fourteen Ventures, joins 'Closing Bell' to talk his take on the tech trade as the market sinks into the close.

Third, 'Fast Money' traders talk SpaceX's negative trading week. I can show you many IPOs getting smoked in Q3.

Last but not least, Liz Ann Sonders, Charles Schwab chief investment strategist, joins 'The Exchange' to discuss how to think about semiconductor stocks, market rotations and much more. She's always worth listening to.