The US stock market appears calm on the surface: the index is just one step away from a new high, but almost all sectors have been hit hard.

The US stock market is experiencing a rare "two-sided market": the S&P 500 is less than 2% away from its all-time high, but beneath the surface, almost all interest rate-sensitive sectors have been severely impacted. The 10-year US Treasury yield has climbed to 5.34%, a new high since 2002, quietly eroding stocks that have failed to ride the artificial intelligence narrative.

This apparent calm is highly deceptive. Over the past month, the median number of stocks in the S&P 500 has fallen by 5%, while the index itself has remained largely unchanged—the only support coming from the semiconductor sector's roughly 6% gain over the same period. Meanwhile, the ratio of the equal-weighted S&P 500 ETF (RSP) to the S&P 500 index has just hit a record low , and the equal-weighted S&P 500 index has fallen for seven consecutive weeks, a phenomenon previously only seen twice before, during the bursting of the dot-com bubble in 2002 and the bear market in 2022.

An even more alarming signal is that , in 17 out of the past 18 trading days, the number of S&P 500 stocks hitting 52-week lows exceeded the number hitting new highs, a phenomenon that has persisted for 12 consecutive days. According to Bloomberg data, in previous instances of similar situations, US stocks were near post-sell-off lows before subsequently rising—but this time, the S&P 500 is hovering near historical highs.

iCapital Global Investment Strategist Dan Suzuki stated:

"Most sectors in the market have fallen at least 5% from their highs, with some sectors falling by more than 15%, largely due to rising interest rates and the resulting tightening of financial conditions."

Tech giants prop up a "hollow" index, with market breadth reaching an all-time high.

The S&P 500's seemingly solid performance relies almost entirely on the strong showing of a few AI-related tech giants. The equal-weighted S&P 500—which assigns equal weight to each of its constituent stocks—is facing its seventh consecutive week of declines. According to Bloomberg data, this has only happened twice in history: after the bursting of the dot-com bubble in 2002, and during the bear market of 2022.

Michael Purves, CEO of Tallbacken Capital Advisors, wrote in a research report:

“We do not see the current distorted market breadth as a reason to be bearish on the S&P 500, but rather as a manifestation of a strong bull market, partly due to major technological disruptions taking place.”

He has a year-end target price of 8,500 for the S&P 500, which represents an upside of about 11% from current levels.

However, this optimistic assessment rests on the premise that the AI narrative continues to be delivered. Eric Diton, President and Managing Director of The Wealth Alliance, stated:

" The stock market can currently withstand relatively high yields—provided that economic and earnings growth remain strong. However, the biggest risk to the stock market is setbacks in the development of AI. A significant downward revision of earnings expectations would trigger broader market pain. "

Small-cap stocks are approaching correction territory, with "zombie companies" accounting for more than one-third of the total.

Rising interest rates have a particularly direct impact on small-cap stocks. The Russell 2000 index just experienced its second-worst quarterly performance relative to the S&P 500 since 1999, underperforming by nearly 10 percentage points and falling 8.5% from its record high on August 14, nearing a technical correction.

According to Bloomberg data, over one-third of the Russell 2000 constituent stocks are so-called "zombie stocks"—companies that struggle to cover debt interest payments with operating profits . These companies face far greater debt repayment pressure than large corporations in a high-interest-rate environment, and their survival will be further squeezed if financing costs continue to rise.

The small-cap index has a high weighting in cyclical sectors such as finance and industrials, which are under pressure in the current environment, in stark contrast to the technology-dominated structure of the S&P 500.

Bank stocks fell into correction territory as pressure intensified from competition in the AI sector.

Despite robust U.S. consumer spending and active corporate lending, bank stocks have failed to benefit. The KBW Nasdaq Bank Index—which includes 24 major banks—has fallen more than 12% from its mid-August high, entering a technical correction, and is up only 3.3% year-to-date, far behind the S&P 500's 12% gain.

Capital One Financial, Wells Fargo, and Huntington Bancshares are the worst-performing members of the KBW index this year, down 20%, 14%, and 12% respectively. Citigroup fell as much as 4.6% on Thursday, its biggest one-day drop since July.

In addition to interest rate and credit pressures, Meta's Muse AI Agent is also seen as a new threat to financial stocks—the product could end the "habitual behavior" of consumers keeping funds in low-interest current accounts for extended periods, thereby eroding banks' low-cost funding sources.

Utilities are nearing a bear market, and their "safe haven" status is being eroded by interest rates.

The utilities sector is one of the hardest hit by this round of interest rate shocks. The S&P 500 Utilities sector has fallen by about 17% since its February high, approaching bear market territory.

High yields have fundamentally diminished the appeal of utility stocks: when short-term Treasury yields significantly outpace utility dividend yields, the logic of the latter as a "stable yield alternative" becomes untenable. In the third quarter, both power companies and the power utility sub-sector fell by more than 10%, making them the worst-performing sub-sectors in the entire sector, with only Constellation Energy and AES recording positive returns.

At the same time, the sharp rise in interest rates has also increased the financing costs for the renewable energy transition, further suppressing the long-term investment logic of this sector.

High-risk assets retreat across the board; AI narratives become the last line of defense.

Even the most speculative corners of the market are not immune to pressure. According to Bloomberg data, a basket of loss-making technology companies tracked by Goldman Sachs—including Roku and Peloton Interactive—fell 11% in the third quarter, marking the second-worst third-quarter performance since records began in 2014.

Data from Goldman Sachs and Bloomberg shows that companies with the most fragile balance sheets and heaviest debt burdens saw their share prices rise by only 1.9% in the third quarter, the smallest quarterly increase since the Federal Reserve began its current rate hike cycle in early 2022.

Jimmy Lee, CEO of Wealth Consulting Group, said he is buying financial and industrial stocks as valuations have fallen, and believes the surge in bond yields will not get out of control. However, he also warned:

" The biggest risk to the S&P 500 is the unexpected collapse of AI trading. "

The current market vulnerability lies in the fact that the core logic supporting the index is highly concentrated—once the expectations for AI profitability crack, the widespread damage that has been masked by the halo of tech giants will surface in a more violent way.

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