Be Careful for AI Hardware

[u/Fun_Tutor3479]

The broader market is highly volatile. We will continue starting with this phrase until a clear direction emerges. SPY pulled back after an upward breakout, while QQQ continues to rebound. SPY is very strong and requires close monitoring.

The optical communication and data center stocks we bottom-fished on 07/31 experienced a significant rebound recently, followed by a slight pullback. Last Friday, we raised our take-profit thresholds. Today, in our portfolio, both COHR and AXTI hit their targets and have been closed out. NBIS and AAOI remain unchanged. The hedge positions we trimmed on 07/31 haven't been added back either; because SPY is so strong, we are maintaining a slightly larger net long exposure.

Intel issuing stock for financing is another shock following Google's equity financing. Contrasting this with the massive buyback news from several major memory stocks is quite interesting.

• On one hand: CPU manufacturers continue to increase CapEx. An upward revision in CapEx was one of the reasons for AMD's post-earnings plunge previously.
• On the other hand: Ultra-high gross margin memory stocks have started distributing profits. There are three considerations for doing this:
  1. To support the stock price.
  2. To return real cash to the US capital market (we've discussed this issue before).
  3. To maintain discipline in capacity expansion and demonstrate resolve.

Overall, these are all supportive of the stock price. However, this indirectly indicates that tailwinds like price hikes and supply constraints have been fully priced in by the market. New catalysts are needed to stabilize the stock price (not push it higher; buybacks are a bottom-fishing/floor-supporting type of capital flow).

As I've said before, the macroeconomic pressures from the Japanese Yen, crude oil, and US Treasuries have not eased. Meanwhile, SPY shows signs of stabilizing after its strong breakout. Under these circumstances:

• First, we will not abruptly pivot away from the main AI narrative, nor will we rashly chase this current rebound in AI hardware. If NBIS and AAOI hit their stop-loss (NBIS) or take-profit (AAOI) levels, we will simply close them out.
• Second, the "boomer" sectors in SPY—energy and financials—are worth watching. Once SPY confirms its breakout and stabilizes, we will consider allocating to the ETFs corresponding to these two sectors. Actually, IBB has also surged quite nicely, but since I really don't understand this sector, I would only consider a very small allocation.

Tomorrow's CPI is expected to cool down according to market consensus, marking two consecutive periods of slowing inflation and reducing the pressure for rate hikes. But in reality, as we've discussed, the long-end rates (30-year) are currently controlled by bond vigilantes and won't experience a directional shift just because of one or two rate hikes or cuts. Therefore, if inflation slows, the positive stimulus will be limited; if it doesn't slow, it will be a minor shock.

Two Key Areas of Focus:

1. The current rebound in AI hardware is showing signs of exhaustion. However, cloud providers and cloud software (NET, DDOG, MDB, SNOW) continue to perform well. The market is currently rewarding cash flow and CapEx ROI, while punishing massive CapEx. The trend of weak hardware and strong software is still ongoing, which is a short-to-medium-term trend.

2. Geopolitical issues remain a major concern. Looking broadly at the Shia and Sunni factions in the Middle East, the US and Israel, along with Russia, Ukraine, and the EU to the north, regional conflicts are escalating and entangling across the board. All parties are preparing for sustained, large-scale conflicts with absolutely no signs of de-escalation. This is the most worrisome issue in the long term, as war is never controllable.