A prominent market analyst's late October caution regarding an impending “prisoner’s dilemma” and a subsequent “AI wobble” in stock values proved eerily accurate this week, as even strong earnings reports from Palantir couldn't halt a Steep tech-driven sell-off.
TL;DR
- Analyst Tony Yoseloff warned of a "prisoner's dilemma" and "AI wobble" in markets.
- Michael Burry's $1.1 billion short position on AI leaders like Nvidia and Palantir emerged.
- Palantir's stock dropped significantly despite strong earnings, validating market concerns.
- Concerns about AI valuations and "circular financing" persist, with potential for market instability.
Tony Yoseloff, managing partner and chief investment officer at Davidson Kempner Capital Management, made these comments while speaking with Goldman Sachs’ Tony Pasquariello on the podcast Exchanges: Great Investors, which was recorded on October Released 20, it became available 11 days after that.
Yoseloff raised some speculative inquiries regarding the much-covered question of “circular financing” within the artificial intelligence (AI) sector, noting that the same entities are providing financial backing to one another while simultaneously engaging in commercial transactions.
My perspective is this: Will we experience a period of instability with AI at some juncture? Will investors worry about the allocation of those capital expenditure funds?
He went on to say, referencing a well-known game theory example, that "there's currently a bit of a prisoner's dilemma, so to speak, among the major companies." You must invest because your peers are investing, otherwise you'll be at a disadvantage and won't maintain a strong competitive edge.
The investor further drew parallels between the current significant concentration, where ten stocks account for 40% of the S&P 500’s valuation, and past speculative manias such as the “Nifty Fifty” in the early 1970s and the internet boom around the year 2000. He cautioned that during those periods, investors sometimes waited up to 15 years to recoup their losses once valuations declined.
The 'Big Short' wager and the market's reaction
The ominous warning came almost in lockstep with renowned investor Michael Burry, who gained notoriety for his gains during the subprime mortgage crisis, revealing a $1.1 billion short position cautioning about significant AI leaders Nvidia and Palantir, stating In the first week of November. His move sent shockwaves through global markets already jittery about the narrowness of tech gains: Bank of America Research analysts noted the “Magnificent 7” tech stocks contributed more than 80% of the S&P 500’s total Last month, increasing concerns about a potential shift.
The markets reacted sharply. After initially climbing 7% following its Q3 earnings report, Palantir's stock, which had already seen a 154% increase year-to-date, experienced a reversal and dropped almost 8% within a single trading day. Global sentiment, closely tied to a few AI frontrunners, was reflected in Asian and European indices, which moved in a similar direction. In places like South Korea and Taiwan, a couple of tech companies alone were responsible for almost half of their respective national index gains, demonstrating Yoseloff’s “wobble” risk: a loss of faith could lead to a rapid, significant Amendment.
The following day, Palantir CEO Alex Karp, known for his outspoken nature, expressed his anger when questioned directly about Burry’s short position on CNBC’s “Squawk Box”. Karp replied that hearing about short sellers targeting his company, “what I believe is clearly the most important software company in America and therefore in the world,”, he stated, "it's just super-triggering." These individuals had the ability to target any business globally. They have to pick on the one that actually helps people, that actually has made money for the average person, that is actually supporting our war fighters.” Karp added it’s “crazy motivating” and he believes “the short Vendors frequently feel exploited by Palantir, according to the report. The company's stock saw an additional 2% decline on Wednesday.
Regarding Karp's observation on the company's achievements, Palantir announced a quarter of unprecedented success, generating $1.18 billion in revenue, surpassing expectations and demonstrating strength in the U.S. Government contracts saw a 52% increase year-over-year. Karp's confrontational demeanor during the earnings call, where he promoted his “anti-woke” strategy and Palantir's government collaborations, failed to alleviate investor unease. Analysts voiced concern that even robust sales and guidance “don’t justify its valuation” given the scale of capex and the unproven returns from AI-driven bets. To their point, Palantir has a whopping price-to-earnings Proportion of more than 100x.
Despite Karp's dismissal of criticism regarding Palantir's strategic path, a more thorough examination of the trading floor indicated his pronouncements didn't align with market dynamics. Yoseloff's cautions regarding the prisoner's dilemma, a situation where major tech companies are caught in expensive, self-perpetuating competitive escalations primarily due to the inability to forgo investment, appeared to be proven correct as even robust outcomes led to a Sell-the-news spiral. Top Wall Street CEOs piled on, as both Goldman’s David Solomon and Morgan Stanley’s Ted Pick anticipate stock valuations could see declines of as much as 20%.
With both analyst warnings and high-profile action heralding a potential regime shift in markets, the AI sector’s “wobble” may only be beginning. Palantir's rapid turnaround demonstrates that optimism about ongoing AI-fueled expansion isn't entirely secure. If the “prisoner’s dilemma” persists, there's a danger “dead capital” might negatively impact tech valuations for an extended period, mirroring the aftermath of previous market bubbles.
Yet for seasoned investors like Yoseloff, the period ahead promises not just volatility, but new opportunities, as “absolute return strategies” thrive when markets finally force a separation between true winners and Victims of unfulfilled hopes. In this regard, the anxieties that Palantir's profits might not overcome could potentially become the financial sector's subsequent significant turning point.
For this story, Fortune an initial draft was created with the assistance of generative AI. An editor then confirmed the information's accuracy prior to publication.