AI Concerns Cool Market Sentiment: Citi Downgrades U.S. Equities to 'Neutral'

While artificial intelligence (AI) has been a primary driver of corporate earnings growth this year, recent safety warnings from large language model developers could hinder this stock market rally. As a result, U.S. equity futures declined, and Citigroup officially adopted a cautious stance due to concerns over a potential slowdown in AI development and broader macro risks.

A team led by Stuart Kaiser, Head of U.S. Equity Trading Strategy at Citi, stated in a report: "Our view on equity risk in the U.S. has turned neutral."

Kaiser noted that if AI model development slows, it could weaken the upside potential for earnings per share (EPS), undermining a key pillar supporting the S&P 500's nearly 12% rise this year.

This market anxiety stems from a collective call for caution by several AI leaders. Dario Amodei, CEO of Anthropic, urged over the weekend to slow down AI development—a position supported by OpenAI CEO Sam Altman, Elon Musk, and Google DeepMind CEO Demis Hassabis.

Sam Altman publicly stated that OpenAI will not pursue an IPO this year and emphasized that enhancing AI safety will incur "substantial costs." Following this, tech stocks broadly declined, including Marvell, Hewlett Packard Enterprise, South Korea's Samsung Electronics, SK Hynix, and Japan's SoftBank. Meanwhile, cybersecurity stocks such as CrowdStrike and Palo Alto Networks rose, benefiting from the hacking incident involving fintech company Revolut.

In addition to AI concerns, Kaiser's team highlighted that U.S. equities face multiple macroeconomic headwinds, including the November U.S. midterm elections, the 10-year U.S. Treasury yield surging close to 5%, and crude oil prices jumping over 3% due to Saudi Arabia shutting down a major pipeline.

The team analyzed that last week's 0.8% drop in the S&P 500 index shows that, in the absence of earnings support, markets are vulnerable to macro risks. To hedge against these risks, Citi recommends investors buy put options on the Nasdaq 100-tracking QQQ or VanEck Semiconductor ETF.

Kaiser's team forecasts that the S&P 500 will trade within a 2% range above or below its August highs in the short term, and a pullback of 3% to 5% could attract bargain hunters.