The Philadelphia Semiconductor Index capped a 101% surge for the first half of 2026 — the steepest climb since the peak of the dot-com bubble in 1999. Then this week happened.
Semiconductors fell for a second day in a row. The VanEck Semiconductor ETF dropped 3%, led by 12% declines in Teradyne and KLA. Nvidia shares pulled back 1.8%, while Micron lost 5%. The Roundhill Memory ETF is tracking to end the shortened holiday week down nearly 15%.
Here’s where I’m at on this. The sell-off is real. The rotation is real. The AI thesis is not broken, but the leverage inside the trade is — and that is a different problem than people are treating it as.
What happened
The surface-level explanation is valuation fatigue after a historic run. The VanEck Semiconductor ETF lost 5.5%, while the Philadelphia Semiconductor Index dropped 6.3% following what had been its best quarter on record. Semiconductor stocks climbed over 80% during the first six months of 2026, and the pullback reflected investors locking in gains after that extraordinary run.
But the bigger driver is structural, not fundamental. The semiconductor trade became the most leveraged, most crowded sector position in recent equity market history. The semiconductor trade became so popular and so heavily leveraged that when sentiment turned even slightly, forced selling took over. What should be a normal pullback turns into something that looks much more alarming than the fundamentals justify.
Levered ETFs like SOXL compound the move on the way down. When the index drops, these products have to sell into weakness to maintain their leverage ratios — which pushes prices lower, which triggers more selling from the next fund. The businesses haven’t changed. The plumbing is what’s amplifying the noise.
The rotation reading
What’s interesting is where the money went instead. “The ‘Great Rotation’ trade persists into the third quarter as the blue boring names of the Dow Jones Industrials continue to attract inflows directly from recent profit-taking money from tech stocks,” said Jeff Kilburg of KKM Financial. “This is extremely healthy and underscores the broadening breadth of equities for this continued bull market in its fourth year.”
The Dow scaled to a record high Thursday as investors reacted to a weaker-than-expected nonfarm payrolls report for June. The 30-stock average added 335 points. The index hit a new all-time intraday high of 52,805.
The S&P 500 was essentially flat, despite 354 holdings in the index advancing — a 70% win rate — buoyed by strength in healthcare, consumer staples, and utilities. Most of the market is fine. The AI chip trade is being repriced. Those are not the same thing.
What the AI thesis actually requires
Capital spending by hyperscalers like Google, Microsoft, Amazon, and Meta is expected to increase 63% to $670 billion this year. That spending has created an overpowering tailwind for the markets, particularly benefiting companies on the receiving end of that capital.
That number has not changed. The capex cycle that drove the semiconductor rally is not turning. What is turning is the willingness to price in that cycle at 80–100x earnings multiples with no margin of safety. “This is a rotation potentially out of a sector that’s been red hot for the last few months and into other areas, but I also do think that there’s a little bit of a revaluation of the AI trade in itself,” said Anshul Sharma, CIO at Savvy Wealth.
Those two things — a healthy spending cycle and a necessary valuation reset — can coexist. They usually do.
The part people are skipping
Software stocks are regaining favor as capital rotates out of semiconductors after an extended run, with fundamentals remaining robust despite recent sell-offs. This is the second-order trade. The SaaSpocalypse punished software names earlier this year on AI disruption fears. Now some of those same fears are showing up as cost concerns inside the hyperscaler capex model — semiconductor demand is threatened by inefficient AI token usage and cost concerns, reducing GPU and chip needs and benefiting entrenched software providers.
If AI inference efficiency improves faster than raw compute demand grows, the chip-to-software ratio shifts. The dollars don’t disappear. They move.
Bull / Base / Bear
- Bull: Chips stabilize around current levels, the leverage flush completes by end of July, and Q2 earnings from Nvidia and AMD confirm the H2 data center order book is intact. SMH retraces to prior highs by August.
- Base: Semis trade in a wide, choppy range through July earnings season as the market waits for HBM demand confirmation and Fed rate clarity. Rotation into industrials and healthcare continues but doesn’t become a rout in tech.
- Bear: Hyperscaler capex guidance softens in Q2 earnings calls, inflation proves sticky enough to delay Fed cuts further, and the leveraged ETF unwind extends. Philadelphia Semiconductor Index gives back 30% from its June highs.
Memory and storage companies led the first-half rally, with SanDisk soaring 857%, Micron jumping 300%, and Intel climbing 257%. Those gains are not coming back in a week. The question is whether investors treat this as a needed exhale inside a structural spending cycle, or the beginning of something worse.
The spending cycle is real. The leverage inside the trade was not sustainable. Those are two different sentences, and keeping them separate is how you avoid the wrong trade on both sides of this.
For informational purposes only.
