This Market Factors starts with a pair trade to keep upside from U.S. stocks while profiting from a potential AI investment bubble deflation. Canadian defence stocks are next and the diversion covers the new realpolitik.
A man arrives with a bundle of balloons at the Salesforce Tower and Salesforce.com offices in New York City on March 7, 2019.BRENDAN MCDERMID/Reuters
TrendsKeeping upside, fading AI
Software giant Salesforce Inc. (CRM-N) is scaling back its AI initiatives as the promise of the new technology fails to materialize. This seems like a good time to put on a risk-conscious trade to short the AI hype. I’m only designing it at this point but I could implement it at any time.
In 2025 Salesforce fired 4,000 employees with the belief that AI, with its programming and client service abilities, would quickly make them redundant. Recent reports suggest they want a lot of these people back.
The company’s head of marketing Sanjna Parulekar announced in late 2025 that “all of us [at the company] were more confident about large language models a year ago.” Salesforce’s AI-derived software products were found to break down when faced with complex or numerous directives. Plans to roll out more AI products have been delayed.
Most of the software stocks on the Evercore ISI list of AI Enablers, Adopters and Adapters have gotten blasted year to date. Salesforce is down 14.3 per cent and Atlassian Corp (TEAM-Q, -26.9 per cent), Hubspot Inc. (HUBS-N, -22.3 per cent) and Twilio Inc. (TWLO-N, -16.3 per cent) are also down sharply.
The year isn’t even three weeks old. Yet enough damage has been done for analyst Jordan Klein from Mizuho Securities, quoted by Bloomberg, to write that “Many buysiders [fund managers] see no reasons to own software no matter how cheap or beaten down the stocks get.”
The hardware subsector of AI is still performing well, as evidenced by Micron Technology Inc.’s 27.1 per cent year to date return. Skepticism about the AI investment story, however, continues to build. Even AI products that do see uptake are failing to generate revenue.
The trade I am starting to follow is to short the S&P 500 (Vanguard S&P 500 ETF, VFV-T) and use the proceeds to buy the S&P 500 Equal Weight Index (Invesco S&P 500 Equal Weight EQL-T).
The equal weight index strips out the dominance of the AI hyperscalers and semiconductor equipment makers by reducing their influence to equal every other company within the S&P 500 index. If the AI stocks fall, they will drag the conventional market cap weighted index lower with them. The same will not be true of the equal weighted benchmark which, importantly, will still capture much of the upside in the overall U.S. equity market.
In a recent addition of the Odd Lots podcast, co-host Tracy Alloway suggested AI stocks were simultaneously underhyped and overvalued, which is an interesting way to think about it. In this framing, AI has the power to transform our lives, it’s just very hard to monetize. And this makes it a short.
MDA Space Inc. CEO Mike Greenley addresses a news conference in Montreal on Thursday, Feb. 18, 2021.Paul Chiasson/The Canadian Press
Hot sectorCanada has defence stocks too
Defence stocks have been a focus in recent editions of Market Factors and today we add a Canadian component to the trend. RBC Capital Markets global research held a conference earlier this month for the Canadian Aerospace and Defence industry, adding details to some interesting investment opportunities.
Conference participants outlined strong growth in the sector owing to chronic geopolitical tensions. Specific opportunities include precise navigations, drone-versus-drone technology, supply chain speed (an issue central to the Ukraine defense efforts) and hypersonic weaponry.
MDA Space Ltd. (MDA-T) was recently awarded the opportunity to bid on U.S. missile defence equipment and the company sees significant growth opportunity in M&A both in Europe and the U.S. RBC analysts estimate roughly US$20-billion in tangible opportunities in the pipeline for the company.
The conference included executives from engineering firm Calian Group Ltd. (CGY-T) and audio and video infrastructure specialists Evertz Technologies Ltd. (ET-T), two companies analyst Ken Herbert described as “relatively undiscovered defence investment plays in the Canadian tech ecosystem.” Defence represents 65 per cent of Calian’s revenue.
DiversionsA new multipolar political world
Author and think tanker Robert Kagan took a stab at what the new world order might look like after President Donald Trump is finished breaking things. His feature, America versus the World, will be in the March edition of The Atlantic and is already online (soft paywall).
The end of post-WWII liberalism will see every nation for itself, according to Mr. Kagan. This Hobbesian orientation will see Europe quickly re-arm itself to maintain independence against new regional fiefdoms under Russian influence. In Japan, a right-wing nationalist prime minister has already been elected, and Mr. Trump is driving the country further towards a ramp up in defence spending and sabre rattling in the region.
Mr. Kagan envisions the administration as cheering on renewed defence spending despite the fact it means that these countries are effectively no longer American allies.
The end result will be a world no longer under the security blanket of the United States, which also served to curb the rising power of potentially belligerent nations (the protection of Taiwan, for example). The new multipolar orientation will be a recipe for upheaval. Mr. Kagan writes ominously, “Even the most well-managed multipolar orders were significantly more brutal and prone to war than the world that Americans have known these past 80 years.”
The essentials
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Globe Investor highlights
Trump’s Europe tariff threat over Greenland has revived talk of the ‘Sell America’ trade
Tim Shufelt on how to brace for the stock market crash everyone’s talking about
Tom Bradley looks at a few things we keep hearing in investment circles right now – but don’t hold up to closer scrutiny
Norman Rothery takes a look at how the Canadian Stable Dividend portfolio is making out
David Berman on why Tourmaline Oil may be worth buying right now – special dividends or not
Quick Hits
Active management has the best chance of outperforming in down or extremely choppy markets when no one wants to invest.
I was thinking that luxury goods stocks might be interesting in a K-shaped recovery but BofA Securities analyst Ashley Wallace noted that valuations are already prohibitively expensive in many cases. Ms. Wallace downgraded Cie Financiere Richemont, Ermenegildo Zegna NV and Brunello Cucinelli SpA from buy to neutral on valuation grounds. Watches of Switzerland PLC, however, was upgraded to buy after a period of underperformance. LVMH and Hermès are also buys.
Scotiabank analyst Paul Cheng believes the bull market in natural gas has arrived. He cites a new wave of LNG facilities, demand for gas-fired electricity helped by new data centres, cold weather and fewer working rigs. The NYMEX natgas price was as high as US$5.30 mm/btu in early December but now is trading near US$3.60. Mr. Cheng forecasts US$5.85 by the end of 2026.
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