Rising U.S. Treasury yields intensify high interest rate risks! Wall Street's AI frenzy is on the edge of a precipice.

Wall Street's obsession with artificial intelligence (AI) is so intense that it is overwhelming all risks, including soaring interest ratesinvestors continue to pour money into the market's largest technology stocks, pushing stock indexes close to record highs. But even with such exuberant market sentiment, the risks lurking ahead are becoming increasingly sharp, especially as long-term U.S. Treasury yields have approached their highest levels in decades. Just last week, the 30-year U.S. Treasury yield reached 5.69% at one point, while the 10-year U.S. Treasury yield broke through 5.3%, both reaching that level for the first time since 2002. But technology stocks still held on to their gainsthe Nasdaq 100 index hit a new high last Friday and has risen 22% year to date; the S&P 500 index is less than 1% away from its record high set in August. Over the past three months, the biggest contributors driving gains in the S&P 500 and the tech-heavy Nasdaq 100 have been technology giants such as Microsoft Corporation (MSFT.US), NVIDIA Corporation (NVDA.US), and Apple Inc. (AAPL.US). U.S. 10-year Treasury yield hits 24-year high Investors' confidence that this rally can continue is largely built on extremely high expectations for the upcoming earnings reports from technology giants. Over the past few years, it is precisely these technology giants that have contributed the vast majority of growth. Wall Street currently expects third-quarter earnings per share (EPS) for the technology sector to grow by more than 65%, the second-fastest pace among all sectors after energy. This will help drive overall EPS growth for S&P 500 constituents to more than 24%. If this expectation materializes, it will mark the third consecutive quarter of more than 20% EPS growth for the index. In response, Wealth Alliance CEO Rob Conzo said: "It's hard to even understand this from a normal perspective. This is historic." Over the past three years, AI has been the main DRIVE behind stock market gains, especially in technology stocks. Companies have invested hundreds of billions of dollars to build the infrastructure needed to support this emerging technology. This capital expenditure has created a virtuous cycle for investors: giant companies making large-scale expenditures see their stock prices rise because of progress in their AI businesses, while the companies receiving those fundsfrom chipmakers to data center construction firmsalso rise in tandem as their revenue begins to take off. "Greed and Fear" However, over the past few months, market sentiment around AI has repeatedly swung between excitement and concern. Wall Street professionals question when and whether the returns from these massive capital investments will be seen. At the same time, they are also wondering whether those returns really matter given the risks this technology may pose to humanity. In addition, the market is also grappling with the Middle East war, stubborn inflation triggered by soaring oil prices, and the possibility that the Federal Reserve will raise interest rates again this year. This back-and-forth has driven money to rotate between software stocks and hardware stocks, and then back to the "Magnificent Seven" technology giantsthese giants lagged in the first half of this year but have outperformed the broader market since late July. Together, all of this has created a complex trading environment. Investors cannot ignore the astonishing momentum driving AI-related stocks higher, but the threat of a stock market selloff does exist, especially with interest rates at extremely high levels and AI capital spenders needing to borrow increasingly large sums to finance their ambitious plans. Mahoney Asset Management CEO Ken Mahoney said: "As interest rates rise to higher levels, all of us are on pins and needles." "At this level of interest rates, interest-rate-sensitive stocks are already feeling the pressure. I think if rates continue to grind higher, eventually every stock will feel that pressure." At least for now, the market appears to have accepted the reality that interest rates will remain high for longer. But given the strong profitability of technology companies, it is still unclear how long this situation can last, or what level of interest rates will mark the point at which the pain begins to have a material impact on technology stocks. Northwestern Mutual chief portfolio manager Matt Stucky said: "I would have said 5% was the ceiling, but you know, that level is already in the past." "Historically, the 10-year U.S. Treasury yield needs to move by about 100 basis points before it starts to affect valuations and earnings. So, simply put, I think it's just that rate levels are higher now." With the benchmark 10-year U.S. Treasury yield at about 5.3%, there is not much room left for further increases. Franklin Templeton Institute chief market strategist Chris Galipeau said: "If the 10-year yield rises to 6%, we will have to have a completely different discussion." The last time the 10-year U.S. Treasury yield touched 5% was in 2023, and that level was only brief. The S&P 500 rose 24% that year, starting a run of three consecutive years of double-digit percentage gains. The theory at the time was that rising yields did not end the rally because gains were led by the "Magnificent Seven," which had huge amounts of cash on their balance sheets and light debt burdens, giving them the ability to withstand higher financing costs. But the situation has changed this year. Massive AI infrastructure spending has prompted these companies to raise the funds they need by selling stock and issuing bonds. Major AI capital spenders Alphabet Inc. Class C (GOOGL.US), Amazon.com, Inc. (AMZN.US), and Meta Platforms (META.US) have all seen annual free cash flow turn negative. Analyst Robert Schiffman said: "When these companies first entered the AI buildout phase, they had the greatest flexibility and maintained very high-quality AA and AAA credit ratings, what we call the 'Mount Rushmore' of corporate credit. But now the funding needs of hyperscalers such as Meta, Amazon.com, Inc., Alphabet Inc. Class C, Microsoft Corporation, and Oracle Corporation (ORCL.US) have far exceeded internal cash sources, forcing them to turn to the bond market for financing, which will push leverage higher over the next two years." Still, he added that even against this challenging backdrop, these companies' credit ratings have not yet been affected. He said: "This unique stability still exists because soaring EBITDA growth expectations are still successfully offsetting the impact of rising leverage." Of course, higher yields have already hit other areas of the market and led to a compression in the S&P 500's valuation multiple. The index's forward price-to-earnings ratio has now fallen below 19 times, down from more than 21 times in May. U.S. stock market valuations hover near their lowest levels since March Although the S&P 500 is less than 2% from its record high, almost every sector has been hit hard, from rate-sensitive small-cap stocks to banks and utilities. And many of the market's most speculative areassuch as technology companies that have not yet turned a profit and companies with the weakest balance sheetshave underperformed the market benchmark since the Federal Reserve raised interest rates last month for the first time in three years to curb inflation. For the U.S. stock market, this is a unique momentthe AI trade is supporting market performance at the index level, but at the same time, the market is also facing an environment that historically has often led to sharp volatilityrising GEO Group Inc political risk, higher interest rates, and uncertainty brought by the U.S. midterm elections. "Paddling furiously beneath the surface" Given that technology stocks have been the main DRIVE behind market gains over the past few years, investors' biggest concern now is: if these stocks begin to lose momentum, will the strength of the entire market be threatened? Chris Galipeau said: "At the S&P 500 level, it's like a duck floating on the water. It looks like everything is fine, but beneath the surface, its feet are paddling furiously." Ken Mahoney said: "If technology stocks lose momentum and enter a correction, then more dominoes could fall." He noted that the market is still strong because investors expect that after the war between the United States and Iran ends, oil prices will fall quickly, thereby easing the pressure inflation puts on the economy. If that happens, strong earnings performance is expected to drive large technology stocks even higher. However, this is far from certain. At the same time, the war is still ongoing, and experts also question whether oil prices will fall immediately even if the war ends. Beyond stubborn inflation and high interest rates, there are plenty of risks that could just as easily derail this rally. Principal Asset Management market strategist Magdalena Ocampo said: "Growth is still strong and is being supported and driven by technology-related activity." "What has changed now is that the market increasingly believes there are more upside risks to inflation and more downside risks to growth. This may be exactly what the market is telling us beneath the surface."