Rachel Reeves wants Brits investing — just as the City fears an AI bubble

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LONDON — The U.K. government is going all-out to get Brits putting their money in stocks and shares. The timing could definitely be better.

Lead policymakers and City of London analysts are increasingly warning of an artificial intelligence-fueled correction in equities just as the U.K.’s top finance minister prepares a major new policy to push Britain’s savers into the stock market.

Chancellor Rachel Reeves has made upping retail participation in stocks and shares a high priority, launching a campaign earlier this year to unite financial firms in an advertising blitz extolling the benefits of investing. At next month’s budget, she’s expected to push changes to the tax system that would encourage investors to swap their steady, tax-free cash savings products for a stocks and shares ISA.

With AI stocks soaring, it’s caused some raised eyebrows in the City.

AI stocks in the U.S. account for roughly 44 percent of the S&P 500 market capitalization, and Nvidia just became the first company in history to become worth $5 trillion. The meteoric rise in has led some experts to warn there’s only one way out: The bubble will burst.

“It would, unfortunately, be poetic timing if a major correction arrives just as the government is trying to get more people into investing,” said Chris Beauchamp, chief market analyst at IG.

Atlantic influence

This week, City broker Panmure Liberum found that 38 percent of the U.S. stock market’s value is based in a “speculative component” that AI companies will continue to build out data centers and spend billions more on chips — by no means a sure bet.

“While this capital spending could deliver substantial productivity gains that might eventually spread to the broader market, there is still no clear evidence that this is happening and is difficult to forecast the size of an eventual impact,” said Panmure analyst Susana Cruz in a research note.

The “Magnificent Seven” group of tech giant composed around 20 percent of the S&P 500 at the end of 2022, but now make up more than a third of it, having tripled in size over just three years. The American index’s price-to-book ratio (meaning a company’s market cap compared to assets and liabilities) is at an all-time high, with 19 of the 20 valuation metrics tracked by Bank of America more expensive than the historical average.

Despite the vast valuations, an infamous MIT study published earlier this year found that 95 percent of companies using generative AI were getting zero return.

In early October, the Bank of England’s committee which monitors risks to financial stability warned of a “sudden correction” in markets, saying that “equity valuations appear stretched” as valuation metrics reached levels comparable to the peak of the dotcom bubble that unfolded in the early millennium, when the Nasdaq fell 77 percent from its peak, wiping trillions of the stock market. It took 15 years for the index to recover.

The U.K. central bank’s warning came a month after global body, the Bank for International Settlements, issued a similar caution. Kristalina Georgieva, head of the International Monetary Fund, has also drawn comparisons with the dotcom bubble.

Even Jamie Dimon, chief executive of U.S. banking giant JP Morgan, has said he’s seriously worried about a market correction.

Over most periods investment beats cash, as long as individuals are willing to lock their money away for several years. Savers could have doubled their money over the last decade by putting their cash in the stock market rather than keeping it in a savings account, according to Schroders.

“No one can time the market, definitely not a bulky institution like the government,” Oliver Tipping, analyst at investment bank Peel Hunt, said. “Big picture, the government is right to try to stimulate more retail investment.”

But if an individual decides to put their hard-earned savings into stocks they perceive as doing particularly well — Nvidia, for example, is up 13 percent this month alone — rather than an index fund which tracks hundreds of stocks, they stand to lose a lot of money if things go sour.

“If you think about your average Joe, they’re not going to go into a safe index fund, they’ll put all of their money in Nvidia or Facebook and could get in at the wrong time,” one financial analyst, granted anonymity to speak freely, said.

Yet even an index fund, like a global equities tracker, is made up of close to 20 percent of the “Magnificent Seven” companies, due to the massive size of the American stock market compared to the rest of the world.

While these funds have suffered significant drops in the past — U.S. President Donald Trump’s threat of tariffs in April caused a drop of 10 percent in a week — they have then recovered over a period of months or years. That’s good news for investors willing to wait for the market to correct any possible downturn — but if retail investors panic and withdraw their funds at the first sign of a loss, they could end up with less money than they put in, possibly wiping out emergency savings.

“There is clearly a risk here that government is pushing people to invest when maybe they don’t have enough of a cash buffer in order to do that, that you’re going to be setting up problems for the long term, and it’ll be interesting to see who’s on the hook for paying that compensation,” said Debbie Enver, head of external affairs at the Building Societies Association.

Once bitten, twice shy

City analysts also express concern that investors entering the stock market for the first time could be forever turned off from shifting their cash over to equities if an immediate correction is nigh. Only 8 percent of wealth held by U.K. adults is in stocks and funds, four times lower than in the U.S., according to data from asset manager Aberdeen.

“There is no doubt that the government would find it much harder to drive retail investment in a period of financial turbulence,” added Chris Rudden, head of investment consultants at Moneyfarm. “Appetite to invest is linked to strong recent market performance. If there was to be a bubble that bursts in the coming few months, then it could make their job impossible.”

IG’s Beauchamp argued that the government would need to pursue a broader education plan “to help people through the inevitable pullback” and prevent them from avoiding the stock market permanently. “How you do that without scaring people witless is a Herculean task,” he added.

Laith Khalaf, head of investment analysis at AJ Bell, suggested investment platforms could encourage regular incremental savings in the stock market, known as dollar cost averaging, rather than throwing one lump sum in, which he said “mitigates the risk of a big market downdraft.”

One solution that appears to be under consideration by Reeves as part of the autumn budget is to introduce a minimum U.K. stock shareholding in ISAs — which she could argue would protect British savers from a U.S. downturn and pump more money into local companies.

This too is not without risk. The FTSE 100 derives nearly 30 percent of its revenue from the U.S., according to the London Stock Exchange, and U.K. markets are generally incredibly sensitive to macroeconomic shifts across the Atlantic.

Meanwhile, if an AI-induced stock bubble isn’t enough cause for concern, worries of trouble in the private credit sector exploded this month after the collapse of sub-prime auto lender Tricolor and car parts supplier First Brands left some U.S. banks with significant losses, causing a spillover onto public markets.

BoE governor Bailey recently drew similarities between risks in the asset class and the 2008 global financial crisis, saying it was an “open question” if the event was “a canary in the coal mine” for a market meltdown.

If one domino falls, they all could — and that would leave Britain’s chancellor in a real bind.

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