The AI bubble will surely pop sometime, but it’s an irrational exercise to predict exactly when
Even US Federal Reserve chairman Jerome Powell has confessed that economic trends and the impact of AI are confusing him
IF THE global markets make any sense, 2026 will be the year when the artificial intelligence (AI) bubble finally pops – with many analysts expecting it to lead to a minimum 30 per cent sell-off in the S&P 500 in the second half of the year.
That’s a big “if”, however. Stock market predictions are notoriously futile but last year’s forecasts were almost comically inaccurate, and 2026 is fast shaping up to be equally treacherous for prognosticators.
The average Wall Street strategist projection for 2025 was a gain of 10 per cent on the S&P 500. As it turned out, the broad index return was roughly twice that. The average forecast for 2026 is slightly higher, closer to 12 per cent.
Since the last bear market in 2022, the broad index has roughly doubled. That return is even more impressive, given that the economy has been mixed – at best – in those years, with both inflation and unemployment rising.
The reason for the improbable gains is due to the birth of generative AI.
By most estimates, investment in AI infrastructure accounts for the vast majority of US economic growth, masking slowdowns in consumer spending and services sector activity.
Even US Federal Reserve chairman Jerome Powell confessed recently that economic trends and the impact of AI were confusing him. If there was one word that summarised economic and market dynamics in 2025, it would be “uncertainty”.
Some forecasts had anticipated a stock market crash precipitated by a spike in inflation due to US President Donald Trump’s tariffs. That seemed like it was coming true after Trump’s “Liberation Day” in April 2025 caused a severe and immediate drop in the stock markets, although the recovery was equally rapid.
Other forecasters had warned at the start of 2025 that overvalued mega-cap stocks would suffer as investors woke up to an AI bubble. That also seemed to come true in October but the improbable dominance of the Magnificent Seven continued, by and large.
The Roundhill Magnificent Seven exchange-traded fund rose by almost 25 per cent for the year, with Microsoft and Nvidia each adding more than US$1 trillion in market value.
Some forecasters had been more bullish. They predicted that the Trump administration’s pro-business policies would bolster GDP growth rates, that AI profits would materialise faster than the bears feared, and that the Fed would go all in on interest rate cuts to stave off rising unemployment. All this, they said, would lead to modest gains – mostly in the second half of the year.
But no one could have predicted the record duration of the US government shutdown from October to mid-November. No one expected to see the Fed have its independence threatened by the Trump administration.
And nobody predicted that hundreds of billions of dollars in AI infrastructure deals would be struck even as the business case for generative AI remained unclear.
Nobody predicted any of this, because none of it really makes much sense.
Watch out for red flags
The late American economist John Maynard Keynes famously noted that the stock market could remain irrational longer than investors could remain solvent. And that is likely to be the main challenge in 2026.
There is no rational argument for the multi-trillion dollar surge in AI-related stocks to continue in 2026. But there is also no guarantee that the stock market will behave rationally.
Jim Paulsen, an independent Wall Street strategist, said that the AI tech run has actually slowed on the stock market, at least compared to the acceleration of capital expenditure by the likes of Nvidia, Microsoft, Alphabet, Oracle and others.
Almost every other week in the fourth quarter of 2025, a new multi-billion dollar data centre deal was unveiled by one of these giants. And yet, the tech sector’s gains slowed.
“Since late September, the appreciation of S&P500 tech stocks has only been matching the gains in economic new era spending,” said Paulsen. “Since tech stocks are no longer outpacing new era spending, does this suggest another period of tech stock underperformance is nearing?”
Another red flag to watch out for in 2026 is the behaviour of the most speculative investments. Bitcoin remains in a major slump, more than 30 per cent below its autumn highs.
Gold and silver are behaving even more erratically. Precious metals often attract investors in times of geopolitical and economic crisis. The price of silver more than doubled in 2025, including its biggest gain on Dec 30. Should the AI bubble pop, the precious metal surge may turn out to have been hedging activity.
This year, the economic impacts of AI could become clearer. Many employers in the US and around the world are testing generative AI, and some are already seeing an increase in profit margins due to the widespread deployment of chatbots for a range of roles such as content creation and customer service. It is hard to see OpenAI – the global leader in generative AI and a company that has yet to turn a profit – justifying its lofty valuations this year.
But the hype about the coming AI revolution could well be enough to keep the bull run going in 2026. A new Fed chair will likely have to promise Trump a rate cut in order to even qualify for the job. A looser monetary policy could also keep the air firmly in the AI bubble. Everyone knows the bubble will pop sometime. It is an irrational exercise to predict exactly when.
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