Bank of England Warns AI Valuations Could Trigger a Sharp Market Correction

The Bank of England has warned that the rapid rise in artificial intelligence focused technology stocks has created clear financial stability risks and could lead to a sharp correction in global markets.

AI Valuations Reach Their Most Stretched Levels In Years

The Bank’s latest Financial Stability Report says equity valuations linked to AI are now “particularly stretched”, with US technology firms approaching levels last seen before the dotcom bubble and UK valuations close to their most elevated point since the 2008 financial crisis. The Financial Policy Committee points out that a relatively small number of AI oriented firms have driven much of this year’s market gains, which means any reversal could have outsize effects.

Shares in companies such as Nvidia illustrate the scale of the enthusiasm. For example, it has become one of the world’s most valuable firms (a $5 trillion valuation!) as demand for its AI chips has surged, lifting its share price by more than 30 per cent this year alone following a period of even steeper growth through 2023 and 2024. The Bank notes that this rapid rise reflects real earnings strength, although it also concentrates a significant amount of market value in a handful of firms.

Not Quite Like The 90s

Andrew Bailey, the Bank’s governor, has stressed that today’s large AI firms aren’t comparable to the loss making companies of the late 1990s because they produce strong cash flows and clear commercial demand exists for their products. Bailey added, however, that this does not guarantee stability, especially as competition intensifies. His view is that AI could well become a general purpose technology capable of raising productivity, although valuations can still run far ahead of fundamentals.

A Five Trillion Dollar Infrastructure Spend

One of the most significant risks highlighted in the report is the scale and structure of investment required to support AI development. Industry estimates shared in the document suggest AI infrastructure spending over the next five years could exceed an eye-watering $5 trillion!

The Bank says that while the largest technology firms will fund much of this through their operating cash flows, around half of the total is expected to come from external financing. Debt markets, rather than equity markets, are likely to play the largest role. This includes corporate bond issuance, loans from global banks and lending from the rapidly expanding private credit sector, which exists largely outside traditional regulatory frameworks.

Growing Reliance on Borrowing

The growing reliance on borrowing matters because it creates deeper links between AI firms and the wider financial system. As the Financial Policy Committee warns, this means that if a sharp drop in valuations were to occur, losses on lending could quickly spread beyond the AI sector and place pressure on banks, credit funds and institutional investors. It also notes the increasingly interconnected nature of AI supply chains, which involve multibillion dollar partnerships across cloud providers, chip manufacturers and data centre operators.

Similar International Warnings

It should be noted here that it’s not just the Bank of England that is concerned. International organisations including the IMF and OECD have issued similar assessments this year. Both have pointed to high asset prices driven by optimism about AI related earnings and have warned of the risk of abrupt downward adjustments if expectations weaken. Senior industry figures such as JP Morgan chief executive Jamie Dimon have also expressed concern about market complacency and the possibility of a significant correction.

Why This Is Not A Simple Repeat Of The Dotcom Era

In its report, the Bank goes to some lengths to distinguish current conditions from the late 1990s bubble. Crucially, many AI firms today have established revenue streams and profitable operations and their valuations are based on substantial real world demand for cloud computing, data processing and AI model development.

Scale and Leverage Is The Real Risk Today

The risk instead actually comes from concentration, scale and leverage. For example, market value is increasingly concentrated in a small group of companies whose performance influences global stock indices, pension funds and retail investment products. At the same time, large amounts of borrowing are now tied to long term AI infrastructure projects that depend on continued investor confidence. These dynamics are different from the dotcom era yet present their own vulnerabilities.

Exposure For UK Savers And Pension Funds

The Bank has also made it clear that the UK is not insulated from an AI related correction. Many UK pension funds hold global equity portfolios where AI leaders now account for a significant share of total value. A fall in these stocks would flow through to savers’ pension pots and stocks and shares ISAs.

This has become more relevant following policy moves encouraging savers to invest more heavily in equities. The Bank’s report notes that a broad market decline could reduce household wealth, lower consumption and place additional pressure on the economy at a time when higher mortgage costs are still filtering through. Approximately 3.9 million UK mortgage holders are expected to refinance at higher rates by 2028, although a third may see payments fall as rates stabilise.

UK Banks Pass Stress Tests As Other Risks Grow

The Bank’s stress tests indicate that, thankfully, major UK lenders are resilient enough to withstand a severe downturn that includes higher unemployment, falling house prices and significant market turbulence. This resilience has led the Financial Policy Committee to propose lowering Tier 1 capital requirements from 14 per cent to 13 per cent from 2027, while still leaving banks with an estimated £60 billion buffer above minimum levels.

However, it seems that other parts of the financial system pose greater concerns. For example, the report highlights growing leverage in the UK gilt market, where international hedge funds have been borrowing heavily against their government bond holdings. The Bank warns that forced deleveraging in a downturn could amplify movements in gilt yields and push up government borrowing costs.

It also points to wider global pressures, including geopolitical tensions, cyber threats and rising sovereign debt burdens, which have created a more fragile international financial environment. These risks add further uncertainty to an already stretched market landscape shaped by the rapid growth of AI.

The Message

The key message from the Bank is really not that AI should be viewed with scepticism as a technology. For example, the report recognises that AI could deliver meaningful productivity gains and long term economic benefits. Its warning instead focuses on how the financial side of the AI boom has evolved and the vulnerabilities that could emerge if valuations adjust sharply.

UK businesses that rely on bank lending or capital markets may face more volatile financing conditions if a correction ripples across global markets. Credit channels linked to technology investment could tighten and firms with higher borrowing needs may encounter more expensive or more selective lending.

The Bank is, therefore, encouraging investors, lenders and corporate leaders to prepare for a period where AI continues to expand as a technology while financial markets remain sensitive to any signs that expectations have become overextended.

What Does This Mean For Your Business?

The central point in the Bank’s warning is really the need to separate enthusiasm for AI as a technology from the financial risks created by how the sector is currently being funded and valued. The report makes it clear that AI can still deliver major economic benefits while markets face periods of sharp adjustment, and those two realities can sit side by side. This places investors, policymakers and companies in a position where they must be ready for genuine technological progress and heightened financial volatility at the same time.

For UK businesses, the implications are already taking shape. For example, firms that depend on access to credit may find that lending conditions react quickly to any downturn in global tech markets, especially as a sizeable share of AI expansion is being financed through debt that links the sector more tightly to banks and private credit funds. Companies planning large technology upgrades or long term capital programmes may also need to consider how external shocks could affect borrowing costs or investment appetite. The same applies to institutional investors, pension schemes and retail savers whose portfolios are increasingly influenced by the performance of a small group of global AI firms.

This backdrop also gives the UK’s financial regulators a little bit of room for complacency. The resilience shown in bank stress tests is reassuring, although the vulnerabilities identified in areas such as leveraged gilt trading and private credit activity underline how market tensions could surface outside the traditional banking system. The combination of elevated geopolitical risk, cyber threats and fragile sovereign debt conditions reinforces the picture of a more complex and interconnected risk environment.

The Bank’s assessment, therefore, seems to lean heavily towards caution without dismissing the long term potential of AI. It is basically signalling that stakeholders should not assume current valuations will hold indefinitely and that preparation for a rapid repricing is now a matter of prudence rather than pessimism. UK businesses, financial institutions and savers all have a direct interest in how well those preparations are made, particularly as the effects of any correction would extend far beyond the technology sector itself.