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Big Tech’s $62bn AI spending fuels pick-and-shovel bets
- Artificial intelligence has been dominating investor consciousness more than any other technology breakthrough in the past 20 years, with tech giants spending tens of billions of dollars per quarter. Only 4% of US workers use AI every day, however, and more than two-thirds say they never do. Some investors are feeling vibes that are reminiscent of the 1990s, when the nascent internet was generating a similar euphoria. AI-related stocks have been responsible for much of the bull market that began in October 2022.
- The tech giants responsible for the massive spending are also the ones that are vastly profitable, and responsible for the bulk of the AI-related revenue at present. In the third quarter of 2024, Alphabet, Amazon.com, Apple, Meta Platforms and Microsoft spent a combined $62bn on capital expenditures. Pick-and-shovel trade investments such as Nvidia Corp are seen as less risky than direct AI investments. With tech giants pledging to continue spending, even bears such as Jim Covello see no reason to abandon the pick-and-shovel trade while the money is still flowing.
- AI payoffs will likely take more than a year or two, as technology adoption requires workflow changes and organisational structures. That means businesses won't fully reap the benefits of even today's generative AI for some time yet.
- The AI boom is not only benefiting tech giants like Nvidia, Meta and Amazon, that are pouring a lot of money into AI infrastructure and global operations, but also tangential sectors such as utilities that are benefiting from AI's electricity-thirsty data centres.
- While AI bears and bulls exchange their bets and weigh up opportunities and risk, some investors are making some kind of bet on AI without even knowing it. If you own an S&P 500 index fund, a third of your money is in eight companies, including Nvidia, Microsoft and Apple, that have parked some of their future funds on AI.
- The models that we have right now for AI systems are still not usable broadly, said Nobel Prize-winning economist and MIT professor Daron Acemoglu. Although some investors are beginning to view the buzz around AI as being similar to the euphoria generated by the nascent internet in the 1990s, the disconnect between stock prices and fundamentals could repeat past mistakes. The pick-and-shovel trade is becoming increasingly attractive than directly betting on AI, and is seen as being less risky than direct AI investments.
- Megacap tech stocks such as the FAANGS are responsible for much of the AI-related revenue and continuing spending. These companies can clearly afford the expenditure, having still generated $76bn in free cash flow. Investors have generally supported Big Tech capital spending because the sector has succeeded in the past.
- Investors should understand the difference between companies creating AI services, such as Microsoft and Alphabet, and the ones providing the infrastructure, such as chips, servers and power, that makes computing possible. Arvind Narayanan, co-author of "AI Snake Oil: What Artificial Intelligence Can Do, What It Can’t, and How to Tell the Difference," says big AI payoffs will take more than a year or two.
- The usually staid stocks of power producers are also on the rise. Vistra Corp and Constellation Energy Corp are among the best performers in the S&P 500 in 2024, helping put an index of utility stocks on track for their best year since 2019. The late ’90s was early in the internet, and that wasn’t the right time to buy, said Michael O'Rourke at Jonestrading. Picking this round's long-term winners might be a fool's errand.
- Some investors may lose their patience with AI investments, if the promises of quick spending returns are unmet. Dave Mazza, CEO of Roundhill Financial in NY, believes AI will still generate enough revenue, but thinks investors may start to reconsider the investment if there is no quick return on the spending, stating, "Investors are probably going to start voting with their feet."
- According to Bloomberg, while a special focus is on the bullish and bearish sentiments about AI investments, both sides should closely watch out for the differences between companies creating AI services and those offering the infrastructure that manages it. Investors should be careful not to blindly follow the bullish sentiments associated with companies investing in AI technologies.
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