Falling Correlations Mute July's Crash in AI Stocks

At the end of June, over 40% of the S&P 500 was comprised of stocks with direct exposure to the AI infrastructure build out. Additionally, semiconductors had climbed from a single digit percentage of the index just 5 years ago to almost 20% halfway through the 2026. This meteoric rise made chip stocks the largest industry group in the market. Adding fuel to the fire, leveraged ETF assets tied to the industry surged coming out of the March sell-off. These statistics were glaring for anyone worried about a crash in AI stocks. During the month of July, the semiconductor ETF SOXX proceeded to enter a nearly 30% drawdown, with many stocks tied to AI infrastructure down even more.

Despite this plunge, the S&P only experienced a maximum drawdown of 3.4% during the month. This can be attributed to falling correlations throughout the market. When looking at how healthcare, consumer staples, financials, or even software stocks are moving relative to semiconductor stocks, the correlations have plummeted over the last year. Looking at the correlation of daily returns for 2025 vs. YTD 2026 (as of 8/15/26), the correlations of semiconductors with financials, staples, and healthcare have fallen from an average of 0.29 to an average of -0.20. Additionally, the correlation of semis stocks and software stocks has fallen from 0.79 in 2025 and 0.63 in 2024 to 0.07 for YTD 2026. The below chart narrows in on rolling 60-day correlations and shows the steep dive each of the selected sectors, other than industrials, has taken so far this year.

Correlation of semiconductors (SOXX) with software (IGV), financials (XLF), consumer staples (XLP), real estate (XLRE), and healthcare (XLV).

While Semis and other AI-related stocks fell in July, these sectors picked up the slack. As modern portfolio theory states, having assets with similar long-term target returns and a low or moderate correlation helps to lower portfolio risk, as measured by standard deviation, without sacrificing much return. The S&P 500 in July was a living example of how this principal can work in practice. It also highlights the downside risk investors face when concentrating their investments in the hot stock, sector, or industry of the day: momentum can turn on a dime and quickly leave you down 30% or more. On the behavioral side, higher volatility can play with investors' emotions, sparking biases and unforced investing errors. As we've noted in previous blogs, diversification can protect your portfolio and it may also protect you from yourself.