Democrats' sweeping victory on Tuesday has called the AI earnings narrative into question

Tech stocks were leading a market rout on Thursday.

A punishing selloff in the tech space was dragging the stock market sharply lower on Thursday, one day after equities saw a big bounce after the Democrats swept Tuesday's midterm vote.

"Nobody knows whether this selloff is going to get worse before it gets better," said Michael O'Rourke, chief market strategist at Jones Trading.

Market veterans including Damped Spring Advisors' Andy Constan and BCA Research's Peter Berezin have cautioned that if an artificial-intelligence bubble exists, the vulnerability lies less in stretched multiples and more in Wall Street's high earnings expectations.

As analysts aggressively upgraded their earnings forecasts, hot tech stocks and other names tied to the AI bottleneck trade struggled to keep up. That caused valuations to compress, even as share prices largely continued moving higher. Some interpreted this as a sign that investors were taking Wall Street's lofty expectations with a grain of salt.

Now, those concerns are finally being validated, O'Rourke said. Democratic control in the House of Representatives and the Senate, as well as key victories in governor's races in Texas, Ohio and elsewhere, has thrown the entire AI buildout narrative into question.

Two companies - Micron Technology (MU) and Nvidia (NVDA) - are key drivers of S&P 500 SPX earnings growth. Now, those earnings expectations are being called into question as investors wait for more clarity on the Democrats' policy agenda.

"You can no longer have confidence in those earnings estimates - the companies probably don't have visibility themselves right now," O'Rourke said.

Faltering tech heavyweights in the Nasdaq-100 NDX were pulling that index lower by more than 5%, at last check. The index already fell into a correction on Tuesday, defined as a drop of at least 10% from a recent peak. The rout was getting a lot worse Thursday; the Nasdaq-100's larger sibling, the Nasdaq Composite COMP, was on track to join it in correction territory.

"Almost all the trades that were working yesterday aren't working today," said Steve Sosnick, chief strategist at Interactive Brokers, in a phone call Thursday. "

As tech struggled, investors were rotating into other parts of the stock market that could benefit from lower oil prices (CL00) (BRN00) and rates, and moving away from the leading tech giants. Yet with tech playing such an outsize role in this four-year-old bull market, that was no longer enough to prevent sharp losses on the main stock indexes.

"We are way overdue for a real correction," Sosnick said.

Shares of the "Magnificent Seven" tech giants MAGS were all down in recent trade - with shares of Tesla (TSLA) and Nvidia leading the way lower for the group, which also includes Microsoft (MSFT), Amazon.com (AMZN), Apple (AAPL), Alphabet (GOOG) (GOOG) and Meta Platforms (META).

The carnage was worse in chip stocks and other beneficiaries of the AI spending spree, which already has been estimated at about $1 trillion a year.

In a sign of just how far the selling pressure had spread, even the equal-weighted version of the S&P 500 index XX:SP500EW - seen as a barometer of how the average stock is faring - was down sharply on Thursday. The Invesco S&P 500 Equal Weight ETF RSP, which tracks the index, was down 1.8% in recent trade, according to FactSet data.

-Joy Wiltermuth -Joseph Adinolfi