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Roula Khalaf, editor of the FT, picks her favorite stories on this weekly newsletter.
The artificial intelligence revolution of the last two years has been a present to investors. It took numerous stocks, all of them winners, and catapulted them higher, creating trillion-dollar corporations and adding to portfolios.
With a lot at stake, it's natural to wonder if it will all end in tears. The echoes of the dot-com bust on the turn of the century are strong, and it’s worrying that a lot relies on such a small group of corporations – Nvidia, Microsoft and the like. A technological, geopolitical or regulatory slip-up could have devastating consequences.
Last week, the European Central Bank joined those urging caution and pointed this out in its regular financial stability review that the “concentration on just a few large corporations raises concerns about the potential for an AI-related asset price bubble.” You generally don’t need to see this “B-word” in such dry publications.
Given the dominance of this theme in US markets and US dominance in global markets, a disappointment in earnings expectations for these corporations poses “the danger of negative global spillover effects” if all the pieces goes flawed, the ECB added. After all, the so-called Magnificent Seven stocks within the USA, consisting of chip designers and hyperscalers, account for around a 3rd of the worth of the whole S&P 500 index. Their value has doubled within the last two years, while the index has increased by around 50 percent.
Of course investors know this. Overcrowding in technology stocks has been at the highest of fund managers' list of market concerns for nearly two years. Nevertheless, investors still assume that balance and harmony will return in some unspecified time in the future. Either the massive stocks stop rising a lot, or the (still perceived) advantages of AI will trickle down into the company world and drive up the market as a complete. Likewise, the gap between the United States, the undisputed champion of the technology race, and the remainder of the world will narrow. There might be a mean reversion, as has at all times been the case previously.
At the beginning of this 12 months, many investors expected exactly that – a waning of US exceptionalism and give attention to technology stocks. Both have actually increased. So it looks like a very good time to ask whether these are features, not bugs, of this recent technological age.
It's hard to say this with a straight face when, frankly, our on a regular basis experiences with this technology fairly often remain nonsense. No, I don't want an AI widget to rewrite my emails or my LinkedIn posts with material from other emails and LinkedIn posts. Thank you, Mr. Customer Service Robot, but I would really like to talk to a human please. It's still a leap of religion to assume that the potential productivity advantages are as enormous because the tech bros tell us.
Believing that the encouraging rise in U.S. stocks can proceed requires some pretty heroic assumptions in regards to the continued pace of corporate earnings growth. Nevertheless, some market observers are wondering whether something fundamental has modified here. One reason for that is that corporations like Nvidia are following suit. Earnings match the hype, meaning the price-to-earnings ratio remains to be quite low, unlike the dot-com boom and bust. “Investors expect less from mega-caps today than they did in 2000,” investment firm GMO said in an announcement earlier this 12 months. “Quite literally, there may be less at stake today.”
Second, at the danger of sounding like a heavy consumer of the cool aids, it is feasible that we’ve entered a brand new paradigm here – a possibility suggested by Jean Boivin, a former central banker and now global head of research for BlackRock Investment , institute was suggested. AI, he says, has the potential to “drive innovation itself.”
Typically, Boivin sees the big and growing gap between, for instance, US and German stocks as a reason to snap up some European bargains. But now: “If this isn’t a cyclical story but a structural story like AI, it isn’t clear that there may be some type of mean reversal that ought to happen.” Likewise, market concentration doesn’t indicate market fragility , but on success in an industry with high barriers to entry.
Assuming that market concentration is weakening or that big tech stocks are collapsing is like “attempting to apply a framework that isn't necessarily true,” Boivin says. “You’re either in otherwise you’re out.”
This may all sound excessive, and if you must be outside, that's nice. But if investors are still talking about strange extremes in AI stocks this time next 12 months, we may need to agree that they aren't strange or extreme in spite of everything.
