AI Trade Shifts as Wall Street Bets on Companies Using Artificial Intelligence, Not Just...

The artificial intelligence-driven stock market rally is entering a new phase as investors shift away from the technology giants that have dominated gains over the past two years and toward companies using AI to improve efficiency, cut costs and drive earnings growth.

The rotation reflects a broader expansion of the bull market, with investors moving beyond the semiconductor makers and cloud computing companies that have been at the center of the AI boom into sectors that have lagged but are now expected to benefit from adopting the technology.

At the same time, some of the market's biggest AI winners, including Nvidia and Microsoft, have faced increased volatility as investors assess whether massive spending on AI infrastructure will generate returns quickly enough to justify lofty valuations.

"The market is beginning to rotate toward quality, a classic mid-cycle transition as the business cycle matures," Mike Wilson, Morgan Stanley's chief U.S. equity strategist, wrote in a research note first quoted by Business Insider.

"From here, margin expansion is likely to depend less on early-cycle operating leverage and more on AI adoption, reinforcing our quality thesis."

The changing market leadership comes after months of sharp swings in AI-related stocks. Semiconductor companies have experienced heightened volatility, with several of the sector's biggest names giving up gains as investors reacted to concerns over competition from Chinese firms, questions about AI spending, and elevated valuations.

Analysts at Piper Sandler described the trend as a "mega-rotation" away from the technology sector and toward more defensive areas of the market. Analysts at Citigroup argued that the era of the "Magnificent Seven" dominating market performance has begun to fade.

Morgan Stanley believes the next stage of the AI investment cycle will increasingly reward companies that deploy artificial intelligence across their operations rather than those primarily supplying the underlying technology.

According to Wilson, businesses are already reporting measurable gains from AI implementation.

"Our systematic transcript analysis shows that 25% of S&P members cited measurable benefits from AI adoption in calendar 2Q, versus 14% a year ago," he said.

The bank expects AI adoption to become a significant contributor to corporate profitability over the next several years.

"We continue to view AI adoption as an important source of earnings growth and operating leverage, with roughly 100 basis points of net margin expansion expected through 2027 related to adoption."

Morgan Stanley's "AI Adopter Screener" highlights companies that it believes are well positioned to benefit from integrating artificial intelligence into their businesses. The list includes Alphabet, Roblox, Dick's Sporting Goods, CVS Health, Shopify, Apple, and Constellation Energy.

The bank said industries often viewed as vulnerable to disruption from AI, including transportation, software and services, and professional services, could instead emerge among the biggest beneficiaries as companies use the technology to improve productivity and reduce operating costs.

Investment manager Vanguard also sees investors broadening their exposure beyond the dominant AI infrastructure providers.

According to Vanguard senior economist Shaan Raithatha, investors are increasingly scrutinizing whether the enormous capital expenditures being made by AI "hyperscalers" such as Alphabet, Amazon, Meta Platforms, Microsoft, and Oracle will generate sufficient returns in an increasingly competitive environment.

"The dominant narrative is that investors are increasingly questioning whether the large investments committed by the AI hyperscalers will deliver sufficient returns amid elevated expectations and intensifying competition," Raithatha said.

He added that investors are still expected to allocate capital across the broader AI ecosystem, including companies supplying critical semiconductors and memory chips. However, he warned that those areas are likely to remain volatile, particularly as Chinese competitors increase pressure on U.S. and South Korean chipmakers.

Vanguard said the next chapter of the AI investment story will be determined less by spending on computing infrastructure and more by whether businesses across industries can translate AI into measurable productivity gains.

"The next phase of the AI story is more about whether current investment translates into productivity gains for the broader global economy," the firm said.

"History tells us that over time, the benefits of general-purpose technologies spread throughout the economy from the sector that drove the initial innovation."

The evolving outlook suggests investors are increasingly looking beyond the companies building AI models, chips and data centers and focusing on firms capable of converting artificial intelligence into higher margins, stronger earnings growth and sustained competitive advantages.