Navigating Sector Rotation in a Post-Rally Market: AI Growth vs. Policy-Driven Retreats

The U.S. stock market closed 2025 with a surge, but beneath the surface, a complex reallocation of capital is reshaping investor strategies. As the rally in AI-driven growth sectors shows signs of fatigue, policy-sensitive sectors like industrials and healthcare are emerging as focal points for strategic asset reallocation. This shift reflects a broader recalibration of risk and reward in a market increasingly influenced by legislative actions, regulatory changes, and macroeconomic uncertainties.

The AI-Driven Growth Paradox

Technology remains the dominant force in the S&P 500, fueled by AI investments that have driven earnings growth and capital gains in 2025. However, valuations have stretched to unsustainable levels, prompting a gradual rotation into other sectors. The One Big Beautiful Bill Act (OBBBA) has amplified this dynamic by introducing tax incentives that disproportionately benefit AI infrastructure. For instance, 100% bonus depreciation and immediate R&D expense deductions under OBBBA have enabled firms like Alphabet, Amazon, and Microsoft to save over $55 billion collectively in 2025. These provisions, while boosting cash flow for large tech firms, also highlight the sector's reliance on policy tailwinds-a vulnerability as regulatory scrutiny intensifies.

Policy-Driven Retreats: Industrials and Healthcare in the Spotlight

As investors seek more balanced exposure, industrials and healthcare are gaining traction. The OBBBA's tax cuts, including a $130 billion boost in incentives for automation and manufacturing, have made industrials a compelling play. Small- and mid-cap manufacturers, in particular, are leveraging 100% bonus depreciation and a doubled Section 179 expensing limit to invest in robotics and automation. This has spurred a resurgence in U.S. manufacturing, with analysts predicting a return to growth in 2026 despite pricing pressures.

Healthcare, meanwhile, is benefiting from a policy-driven retreat. The OBBBA's restrictions on ACA subsidies and Medicaid eligibility-such as 80-hour work requirements for able-bodied adults-have created short-term volatility but also opened opportunities for rebalancing. Extended ACA subsidies and potential tariff rebates could provide a near-term boost to the sector, while its attractive valuations make it a candidate for long-term reallocation.

Strategic Reallocation: Balancing Growth and Policy Risk

Investors are increasingly adopting a dual strategy: capitalizing on AI-driven growth while hedging against policy risks. Small- and mid-cap stocks, as well as international markets, are attracting attention due to their more reasonable valuations compared to stretched U.S. large-cap tech stocks. For example, industrials-related subsectors like electrical systems and HVAC manufacturers are poised to benefit from AI hyperscalers' $130 billion in capital expenditures in 2026.

However, policy uncertainty remains a wildcard. Trump's proposed global trade tariffs and the upcoming Federal Reserve chair transition could disrupt sector rotation dynamics. A 50% increase in defense spending by 2027, for instance, could further tilt capital toward industrials but may also exacerbate inflationary pressures.

Conclusion: Navigating the New Normal

The post-rally market of 2025 underscores the importance of adaptive asset allocation. While AI-driven growth sectors continue to dominate, their vulnerabilities-both valuation-based and policy-sensitive-necessitate a diversified approach. Investors must balance the allure of high-growth tech with the stability of policy-impacted sectors like industrials and healthcare. As OBBBA's tax incentives and ACA adjustments reshape the landscape, the key to success lies in agility: reallocating capital to sectors best positioned to weather regulatory shifts and macroeconomic headwinds.