Stop focusing on technology stocks! Rotation in US stocks continues to spread, small-cap stocks and cyclical sectors lead the way.

In the past year, most of the time, Wall Street has been continuously warning investors that continuing to "hide" in large tech stocks may be a dangerous strategy. However, the facts have proven that this warning did not work, at least not in the first 11 months of last year. As of last November, the "Big Seven" US stocks, including NVIDIA Corporation (NVDA.US), Microsoft Corporation (MSFT.US), Amazon.com, Inc. (AMZN.US) and other tech giants, contributed almost all of the double-digit gains in the S&P 500 index. However, since then, the market narrative has been undergoing a significant change. The long-anticipated "tech stock rotation" on Wall Street has now entered its fourth month, and almost no one believes that this trend will end soon. Data shows that since early November, the equal-weighted S&P 500 index has risen by about 6%, while the traditional market-cap weighted version has only risen by 1.6%. At the same time, materials, healthcare, and consumer sectors have replaced tech stocks as the main drivers of market growth. Small-cap stocks have performed particularly well, with the Russell 2000 index rising by over 7% during the same period. The Invesco S&P 500 Equal Weight ETF (RSP) has attracted about $4.8 billion in fund inflows this year, ranking third among about 1,500 US stock ETFs. Behind the market rotation is the rising optimism among investors about the "accelerating takeoff" of the US economy. More companies highly correlated with the economic cycle are attracting fund inflows. Meanwhile, the investment logic around artificial intelligence is no longer solely focused on the tech sector, and investors are starting to differentiate between winners and losers within the tech industry. Andrew Greenebaum, Senior Vice President of Stock Research Product Management at Jefferies, pointed out that market growth is expected to significantly diversify in the coming years, possibly due to fiscal policy changes, monetary policy adjustments, industrial cycle recovery, or the overlap of multiple factors. However, this optimism is not without risks. The labor market remains chilly, political tensions are escalating with GEO Group Inc, domestic instability in the United States is on the rise, and there is even the possibility of another government shutdown risk. The "decline theory" of tech stocks has been repeatedly proven wrong over the years. Nevertheless, signs of improving market breadth are emerging. The long-standing profit advantage of tech giants over the broader market is expected to gradually converge, and investors are starting to worry about the sustainability of the massive capital expenditures in the tech industry. Lisa Shalett, Chief Investment Officer of Wealth Management at Morgan Stanley, stated in a client report on January 26th that since late October last year, the tech sector and the dominance of the "Big Seven" have clearly stalled. Investors are embracing the new logic of "profit growth diffusion" and should prepare for the "new leading forces of the index." Greenebaum emphasized to clients the "authenticity" of rotation, primarily reflected in three aspects: the Russell 2000 continues to outperform large-cap stocks, cyclicals in the S&P 500 taking over the tech stocks as leaders, and significant improvements in fund inflows to small-cap stocks in recent months. According to forecasts, earnings per share growth of Russell 2000 components for the full year of 2025 is expected to be 13.5%, slightly higher than the 12.8% of the S&P 500, showing that the earnings growth potential of small-cap stocks is being revalued. Still, many investors remain skeptical, which is seen as an opportunity by some institutions. Adam Parker, Founder of Trivariate Research and former Chief US Equity Strategist at Morgan Stanley, pointed out that their team used AI to analyze Wall Street forecasts and found that the market consensus still favors overweighting tech and financials before 2026, while recent performance of these two sectors has been at the bottom. It is worth noting that almost no institutions recommend heavily allocating to energy or materials sectors, and clients rarely inquire about resource stocks, which Parker sees as a typical "contrarian signal." Data from Parag Thatte, a strategist at Deutsche Bank Aktiengesellschaft, also shows a significant increase in fund inflows into cyclical stocks last week: the material sector attracted a record $6.5 billion in funds, the industrial sector saw $3 billion inflows, the financial sector $2.9 billion, and the energy sector $1.7 billion; in contrast, technology funds saw net outflows of $1.4 billion, the sixth time in the past eight weeks. Thatte pointed out that similar boosts in fund inflows to cyclical sectors occurred briefly after the 2024 election but quickly faded, while this rally started in mid-November, in sync with signs of profit growth diffusion. He emphasized: "Continued market breadth is the key to sustaining rotation, and that is our fundamental forecast."