Market Recap: AI Angst Sparks Rotation as Bonds Reassert Their Role

Market Overview

Volatility returned last week as U.S. equities declined, pressured by expanding concerns over artificial intelligence disruption across industries beyond technology - including financials, logistics, insurance, and office REITs. While encouraging economic data provided support, it was not enough to offset risk-off sentiment.

The S&P 500 declined 1.35% on the week, marking its second consecutive weekly pullback and its fifth decline in seven weeks. Growth names lagged notably, with the NASDAQ down 2.08% and the Russell 1000 Growth falling 2.08%. Financials dropped nearly 5%, reflecting heightened sensitivity to AI-related competitive threats.

In contrast, the Russell 2000 fell a more modest 0.85%, while value-oriented areas held up better. Sector leadership rotated decisively toward more “old economy” industries such as utilities (+7.3%), real estate (+3.9%), materials (+3.7%), and energy (+1.9%) - areas perceived as less vulnerable to technological displacement. The equal-weighted S&P 500 outperformed cap-weighted benchmarks, reinforcing the ongoing value-over-growth theme.

International markets outperformed U.S. large caps. Developed international equities (MSCI EAFE) gained 1.95% and emerging markets (MSCI EM) rose 3.25%, benefiting from a weaker dollar, valuation support, and reduced AI exposure. Taiwan and South Korea, key players in the global technology supply chain, remained relatively resilient.

Fixed income markets provided ballast. Core bonds advanced as Treasury yields declined sharply amid strong demand for safety. The 10-year U.S. Treasury yield fell to 4.04%, down nearly 15 basis points on the week. The Bloomberg U.S. Aggregate Bond Index gained 0.89%, while investment-grade corporates rose 0.80%. Notably, Treasury auctions were exceptionally strong, with the 30-year bond posting its strongest bid-to-cover ratio in eight years - underscoring robust demand during equity volatility.

Commodities were mixed. Crude oil slipped 1% amid easing geopolitical tensions and resistance near $66.50. Natural gas fell more than 5% on warmer weather forecasts and rising production. Gold climbed over 1% on safe-haven demand, while copper and aluminum edged lower. The U.S. dollar weakened modestly but held key support levels.

The market environment continues to reflect rotation rather than capitulation - what some describe as “chop, not drop.”

Federal Reserve Insights and Economic Roundup

January’s economic data delivered a mixed but constructive signal.

Nonfarm payrolls increased by 130,000 - roughly double expectations - driven primarily by health care, social assistance, and construction. Specialty trade contractors alone accounted for 16% of total job gains, reflecting strong demand for skilled labor. However, the broader 2025 monthly payroll average stands at just 15,000, signaling subdued hiring momentum.

The unemployment rate dipped modestly, and average weekly hours edged higher, reinforcing the “low hire, low fire” dynamic. Employers appear more inclined to increase hours rather than headcount - a sign of cautious optimism but not aggressive expansion.

Inflation data was slightly favorable. Core CPI came in cooler than expected, while headline CPI matched forecasts. Nominal growth - a key driver of corporate earnings - is projected to approach 5% this year.

Treasury market activity suggests investors continue to believe in the Federal Reserve’s credibility and its eventual policy response. Markets are currently pricing the fed funds rate to trough near 3%. While rate-cut expectations have moderated somewhat, the flight-to-quality bid indicates that Treasuries remain a critical portfolio stabilizer should volatility intensify.

The Fed appears positioned to remain patient. Stronger labor data gives policymakers room to wait for clearer inflation progress before adjusting policy.

The Week Ahead

Monday: Markets closed for Presidents’ Day; no economic releases scheduled.

Tuesday: ADP Weekly Employment Change, Empire Manufacturing Survey, and NAHB Housing Market Index provide early reads on labor and housing activity.

Wednesday: Durable Goods Orders, Housing Starts and Building Permits, Industrial Production, Leading Economic Index, and FOMC Meeting Minutes headline a busy midweek calendar.

Thursday: Advance Goods Trade Balance, Wholesale and Retail Inventories, Philadelphia Fed Survey, and Weekly Jobless Claims offer insight into business conditions and labor trends.

Friday: Personal Income and Spending, Core PCE (the Fed’s preferred inflation gauge), first reading of Q4 GDP, preliminary February PMIs, New Home Sales, and final University of Michigan Consumer Sentiment close out the week.