Market Rotation Accelerates as Manufacturing Rebounds and Al Volatility Rise
Stuart Katz
Executive Summary
Stocks traded sideways this week before a late-week sell-off. The S&P 500 gained +0.5%, but it continued to lag the Russell 2000 and Equal Weight S&P 500. It’s now underperforming both indices by over -5% YTD, while the Nasdaq and Large Cap Growth are down over -2% YTD as investors rotate and market leadership broadens. Sector performance was mixed, with both defensive and cyclical sectors outperforming the S&P 500. International stocks extended their leadership, as developed and emerging markets rose over +4% as the USD weakened. Treasury bonds traded higher as yields fell, and longer-maturity bonds led shorter maturities. Investment-grade corporates outperformed high-yield due to their longer maturities. Gold and oil were modestly lower, and the VIX rose above 20 as AI fears created volatility.
Key Takeaways
Manufacturing Returns to Expansion
The ISM Manufacturing Index jumped to 52.6 from 47.9, crossing back into expansion territory for the first time in 10 months. The 4.7-point monthly increase was the strongest since 2022, and indexes tracking New Orders, Production, and Backlogs all improved, indicating demand is firm and factories are struggling to keep pace. The strength was tied to increased capital spending as companies take advantage of restored 100% bonus depreciation incentives to upgrade equipment. Why it matters: The inflection is a positive development and suggests the industrial sector is stabilizing after a period of high interest rates and uncertain trade policy.
Labor Market Data Sends Mixed Signals
Job openings fell to 6.5 million in December, the lowest since September 2020 and 633,000 below consensus, signaling weakening demand for workers. However, January’s payroll report surprised to the upside, with 130,000 jobs added versus expectations of 75,000. The unemployment rate fell from 4.4% to 4.3% despite rising labor force participation. The report also included major revisions that cut last year’s job growth to 181,000, the weakest since 2020 and far below the previously reported 584,000. Why it matters: The labor market appears to be in transition: openings are shrinking, but employers are still filling existing roles, creating a low-hire, low-fire environment.
Alphabet Raises $31 Billion in Debt to Fund AI Infrastructure
The offering helps finance its $185 billion capex forecast and drew strong demand, with orders exceeding $100 billion and the company tightening pricing. It included a rare 100-year bond, the first “Century Bond” from a tech company since the late 1990s. The deal follows Oracle’s $25 billion issuance last week and highlights how tech giants are turning to debt markets, with the sector projected to spend nearly $650 billion on AI infrastructure in 2026. Why it matters: The AI infrastructure race is moving faster than the sector’s cash flows can fund. The buildout depends on continued access to capital, and this week’s strong demand suggests investors remain willing to fund the spending, for now.
AI Product Launches Trigger Volatility
A wave of AI product launches has sparked sudden selloffs across multiple industries, including software, insurance and freight brokers, and video game development, as investors worry about how AI tools and automation could change business models. The pattern has become self-reinforcing: headlines trigger fear first, and fundamentals get revisited later. In many cases, the market response has been faster and more dramatic than the actual pace of real-world adoption. Why it matters: The market is starting to treat AI disruption as a real and immediate risk across a wider range of industries. The selloffs are a good example of how short-term sentiment can overwhelm long-term fundamentals.
The Year-to-Date Rotation
Market leadership is shifting, as investors rotate away from mega-cap tech toward smaller companies, value stocks, and cyclical sectors. The S&P 500 is flat YTD, while the Russell 2000 and equal-weight S&P 500 have each gained more than +5%. Why it matters: The rotation has been building over multiple months and is being attributed to some of the above themes: a stabilizing economy, multiple Fed rate cuts in late 2025, and earnings growth spreading beyond big tech.
Weekly Commentary
Market Rotation Accelerates as Manufacturing Rebounds and Al Volatility Rise
Stuart Katz
Executive Summary
Stocks traded sideways this week before a late-week sell-off. The S&P 500 gained +0.5%, but it continued to lag the Russell 2000 and Equal Weight S&P 500. It’s now underperforming both indices by over -5% YTD, while the Nasdaq and Large Cap Growth are down over -2% YTD as investors rotate and market leadership broadens. Sector performance was mixed, with both defensive and cyclical sectors outperforming the S&P 500. International stocks extended their leadership, as developed and emerging markets rose over +4% as the USD weakened. Treasury bonds traded higher as yields fell, and longer-maturity bonds led shorter maturities. Investment-grade corporates outperformed high-yield due to their longer maturities. Gold and oil were modestly lower, and the VIX rose above 20 as AI fears created volatility.
Key Takeaways
The ISM Manufacturing Index jumped to 52.6 from 47.9, crossing back into expansion territory for the first time in 10 months. The 4.7-point monthly increase was the strongest since 2022, and indexes tracking New Orders, Production, and Backlogs all improved, indicating demand is firm and factories are struggling to keep pace. The strength was tied to increased capital spending as companies take advantage of restored 100% bonus depreciation incentives to upgrade equipment. Why it matters: The inflection is a positive development and suggests the industrial sector is stabilizing after a period of high interest rates and uncertain trade policy.
Job openings fell to 6.5 million in December, the lowest since September 2020 and 633,000 below consensus, signaling weakening demand for workers. However, January’s payroll report surprised to the upside, with 130,000 jobs added versus expectations of 75,000. The unemployment rate fell from 4.4% to 4.3% despite rising labor force participation. The report also included major revisions that cut last year’s job growth to 181,000, the weakest since 2020 and far below the previously reported 584,000. Why it matters: The labor market appears to be in transition: openings are shrinking, but employers are still filling existing roles, creating a low-hire, low-fire environment.
The offering helps finance its $185 billion capex forecast and drew strong demand, with orders exceeding $100 billion and the company tightening pricing. It included a rare 100-year bond, the first “Century Bond” from a tech company since the late 1990s. The deal follows Oracle’s $25 billion issuance last week and highlights how tech giants are turning to debt markets, with the sector projected to spend nearly $650 billion on AI infrastructure in 2026. Why it matters: The AI infrastructure race is moving faster than the sector’s cash flows can fund. The buildout depends on continued access to capital, and this week’s strong demand suggests investors remain willing to fund the spending, for now.
A wave of AI product launches has sparked sudden selloffs across multiple industries, including software, insurance and freight brokers, and video game development, as investors worry about how AI tools and automation could change business models. The pattern has become self-reinforcing: headlines trigger fear first, and fundamentals get revisited later. In many cases, the market response has been faster and more dramatic than the actual pace of real-world adoption. Why it matters: The market is starting to treat AI disruption as a real and immediate risk across a wider range of industries. The selloffs are a good example of how short-term sentiment can overwhelm long-term fundamentals.
Market leadership is shifting, as investors rotate away from mega-cap tech toward smaller companies, value stocks, and cyclical sectors. The S&P 500 is flat YTD, while the Russell 2000 and equal-weight S&P 500 have each gained more than +5%. Why it matters: The rotation has been building over multiple months and is being attributed to some of the above themes: a stabilizing economy, multiple Fed rate cuts in late 2025, and earnings growth spreading beyond big tech.
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