In the last few months we have written about a market climbing on a dangerously narrow base - a handful of semiconductor and AI names carrying almost everything else. In July that base finally wobbled. Chip stocks had their worst month since 2008 and the momentum trade unwound sharply. For now, this sell-off seems to be contained, but it is a timely reminder for investors to check their portfolio exposure and make sure they are comfortable with the level of exposure they have to more speculative parts of the market.
The month the narrow market cracked
For most of this year, and for the entirety of a record second quarter, one trade did the heavy lifting. Global shares rose around 14% between April and June but strip out semiconductors and the gain was closer to 5% - roughly what New Zealand shares delivered. South Korea, whose market is around half semiconductor names, rose almost 70%.
It was, as we wrote last month, a market far narrower than the headline suggested. In July it went into reverse. A gauge of the world's big chipmakers had its worst month since 2008. The momentum factor - the strategy of simply buying whatever has risen most - had climbed 28% in the second quarter, then fell c.30% in July. South Korea's market fell roughly 40% from its June peak, and a large, heavily leveraged fund built on these trades blew-up in a matter of days.
Maintaining discipline when it isn’t rewarded
In the second quarter, the narrowness made life very hard for disciplined investors - semiconductors were essentially the only sector to beat the market, so unless you held an outsized chip position, you almost certainly lagged.
July flipped that. As the crowded trade sold off, most of our equity and KiwiSaver funds did the opposite and outperformed their benchmarks in a volatile market. We saw the same pattern in the late 1990s, when momentum ran for years and then reversed, and quality companies went on to deliver gains from 2000-2004 even as the wider market fell. One month is a very short test period, but it is a useful reminder that the discipline which costs you in a melt up is the same discipline that protects you when it cracks.
The growth engine underneath is broadening
Beneath the volatility, the real economy spent the second quarter getting healthier, not weaker. Listening to what companies are telling us this earnings season and the message is consistent. The US consumer remains in good shape - employed, seeing wage rises, sitting on record home equity and money in the bank - while the industrial economy is finally picking up. Freight volumes are rising, datacentre construction is booming, and earnings have again beaten expectations across the large majority of companies. That backdrop is why July looked more like a positioning reset than the start of something worse.
But the all clear hasn't sounded
The Federal Reserve left rates unchanged but stepped back from its usual guidance, and several officials argued for a rate rise rather than the cuts investors had been hoping for. Long term US bond yields pushed to their highest since 2007. The conflict involving Iran flared again in July, sending oil back above US$90 a barrel before de-escalation hopes pulled it under $80 - a reminder of how quickly the inflation picture can turn. The AI boom carries its own catch - the giants funding it are now spending close to everything they earn on chips and datacentres, which raises the obvious question of where the next leg of growth comes from.
Closer to home, firmer footing
For New Zealand investors there is genuine encouragement. Business and consumer confidence have rebounded to around where they sat before the Middle East flared up early in the year. Small businesses recorded their strongest sales quarter in four years - the first-time growth has beaten its long run average since late 2022 - with agriculture doing much of the heavy lifting.
Forecast GDP growth for 2026 has been trimmed to around 1.8%, but against a 2024 recession and a barely positive 2025, that is respectable and compares well with our trading partners. With early company results encouraging as well, the local picture is quietly improving after some lean years.
What it means for you
None of this changes the message we keep returning to. The reward for patience has risen. With bond yields at their highest in well over a decade, holding some fixed income and not chasing the hottest names no longer means giving up meaningful return the way it did a few years ago.
July was a small reminder that narrow, momentum driven markets can turn quickly, and that the protection you want in those moments should be in place beforehand, not bought halfway down. The right response is not to guess the next move, but to make sure your portfolio matches your time horizon and your tolerance for volatility - so that whichever way the next month breaks, you can stay the course.
Talk to us
If you’ve got questions about your investment, our friendly team are here to help. You can drop us an email, call us on 0508 347 437, or chat with us online.
