European Momentum Stocks Suffer Sharp July Pullback on AI Doubts, BofA Says

A sharp reversal hit European high-momentum stocks in July, with the popular investment style plunging 14% relative to the broader market. The drop erased a significant portion of the 23% outperformance these stocks had generated in the first half of the year, according to a recent analysis by BofA Securities.

Drivers of the Unwind

BofA analysts identified several factors behind the sell-off, which mirrored declines in AI-exposed indexes globally. While a 50 basis-point rise in U.S. real bond yields since May weighed on growth-oriented equities, the bank cited uncertainty over artificial intelligence as the primary driver.

Key concerns highlighted in the note include:

• Unclear consumer willingness to pay for AI services.
• Rising competition among foundational AI model providers.
• Higher input and borrowing costs for major cloud providers, or hyperscalers.

Conflicting Signals for the Path Ahead

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Analysts at the bank are now weighing whether the momentum unwind has run its course, outlining competing arguments. On the bullish side, consensus expectations for hyperscaler capital expenditure (capex) have been revised higher at an annualized pace of more than 100% over the past three months. BofA noted this has brought semiconductor valuations back into alignment with AI spending forecasts after a period of overshooting.

However, a bearish indicator comes from the bank's proprietary Silicon Data Token Expenditure Index, which has continued to decline. BofA said this trend, which it associates with hyperscaler underperformance, has historically preceded weakness among AI capex beneficiaries by several months, suggesting potential further pressure on European tech stocks.

BofA's Positioning

Despite the sharp July decline, BofA said it remains "moderately bearish" on the momentum style but expects any further downside to be more limited. The bank is maintaining an "underweight" position in semiconductors to express this cautious view.

In a related move, the note mentioned that BofA recently upgraded the mining and construction materials sectors from "underweight" to "marketweight." These sectors had been caught up in the broader momentum sell-off despite improving global growth macro surprises, which reached a fresh three-year high.