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When someone starts to worry that AI valuations have run too far, the instinct is to ask whether now is the time to get out. I understand that instinct, and it’s not a bad one. The issue we’re running into today, though, is that with the intense concentration at the top of the S&P 500 (much of which has been driven by AI companies, or pivots to AI, or the AI infrastructure buildout, etc.), you’re holding material exposure to the AI trade if you own almost any broad-based index funds. So if you are worried about a bubble, the real work is holding that exposure in a way that survives should the trade unwind.
The ten largest companies in the S&P 500 now make up around 40% of the index by weight. If the leading private labs come public over the next year and get added to the major indices, that exposure only grows (and it gets more direct).
The optimistic case, the one where these companies keep running, is already covered in nearly every portfolio we look at.
So at the moment, I prefer to invert the question. The upside for most investors and RIAs doesn't really need building, because index exposure already delivers it. The part that needs work is the other side: the case where the trade unwinds and drags a large slice of the index down with it. That's the exposure most portfolios are light on, and it's the harder thing to construct.
Diversifying away from the AI trade
So what does that other side actually look like in a portfolio? Mostly it looks like diversification that stays plain rather than clever.
On the fixed income side, I think that means bonds doing the “boring” work of being bonds (which is, after all, the entire point of owning them). That means not reaching into private credit or other corners that turn out to carry the same risk in disguise.
It also means looking hard at the parts of the market the AI trade hasn't swept up. International equities and smaller US companies have historically been less exposed (though AI sentiment has started to reach them too).
Where we see opportunity right now
In the good businesses that keep growing without being an AI story, we've watched valuations compress while the megacaps ran. We read that compression as an opportunity.
Actively seeking out and picking stocks for strong underlying businesses (that are insulated from the AI trade) is exactly the kind of active management we’re favoring right now. If this indeed a bubble (which, to be clear, we are not calling at the moment), you need the kind of bottom-up, fundamental research into companies whose valuations are artificially depressed because they’re not “AI companies.” In my opinion, if the AI trade does unwind, these kinds of companies can provide much needed ballast if the overall market starts to slide.
Right now, we’re largely using passive exposure to stay in the AI trade that could keep running, and active management to lean deliberately away from the concentration.
None of that is complicated on paper. The problem for investors and RIAs is a psychological one, not an analytical one.
When disciplined investing runs into behavioral psychology
There's a well-known clip of two capuchin monkeys doing the same task for a reward. They both get walnuts for completing their tasks, and they’re both stoked. That is, until one monkey watches the other one get a grape for identical work. Suddenly the walnut is an insult, and the first monkey is hurling it back at the researcher. That's keeping up with the Joneses, and it's the exact pull that makes diversification so hard to keep.
When a client's neighbor is bragging to them about big gains on a concentrated AI bet, sitting in a diversified portfolio can feel a lot like being handed the walnut (even when the walnut is doing precisely the job it was chosen for).
There's an asymmetry here that's easy to underrate. Owning the AI trade is easy, because it's already there. Diversifying away from it takes deliberate effort, and it gets harder precisely as valuations climb and the fear of missing out peaks. In our experience, the pull to walk away from the plan tends to peak right when the plan is doing the work it was built for... which is the worst possible moment to give it up.
We don't know whether this is a bubble, and we're wary of anyone who claims they do. What we do know is that the exposure is already there in nearly every portfolio, and the diversification meant to offset it is the part that has to be built on purpose (and held onto when the concentrated bet is the thing everyone at the dinner table is bragging about).
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