Evolution or Revolution: The AI Era Through the Eyes of an Investor

David Nelson, CFA CMT
Artificial intelligence is capturing the hearts and minds of investors. And why not? Real intelligence on so many levels is missing in action. As humans we seem to stumble from one bad decision to the next. What could be more exciting than a new technology that takes some of the burden off our shoulders?
“It’s different this time”

Bloomberg Data

Most market peaks come on the heels of an irrational mindset over some technology or investment theme that screams it’s different this time. Who can forget the dot.com era and bust that followed or the mania over home prices as flippers minted money on their way to the financial crisis.

Nevertheless, all of these themes or bubbles last longer than bears think, even if they ultimately end in tears. The key for investors is riding that wave for as long as you can. Of course, pulling out just before the wave crashes on shore presents its own set of challenges.

I know what you’re saying. It can’t be done. Let’s find out.

Bubbles can last a long time

The good news is that these technological achievements can drive investments and economic activity for long periods of time. I remember bears saying that Cisco (CSCO), Intel (INTC), Microsoft (MSFT) and of course AOL were in bubble territory in 1996. The party lasted another 4 years with their biggest gains yet to come. 

You’ve Got Mail

The first origins of the internet go back as far as the 50’s as academia and the military explored new communication technologies. Arpanet was the first real network to run what they called packet switching in 1969. Lots of advances followed but I think most would agree the beginning of the internet mania started with the birth of America Online in 1989. The first photo was shared on the internet a year later and the first webcams were introduced in 1991.

By 2000 investors were rabid dogs ready to invest in anything that could be associated with the net. Analysts that covered internet stocks were being offered $millions in salaries and bonuses. Every week had another IPO minting fortunes for those who could get shares. Wall Street was flying.

I was at Lehman Brothers during that time, and I can tell you having access to syndicate internet offerings was like being made. Life was sweet.

It probably would have gone on for a while longer if it hadn’t been for Y2K. With the fear that life would end as we know it once we crossed the millennium, corporate America scrambled to upgrade their technology. The rush to replace computers that couldn’t handle the change in date pulled forward a lot of business.

Ends in Tears

Bloomberg Data

Three months later the dot.com bust was triggered as companies started lowering expectations. The selling frenzy fed on itself. It took just over two years for many of those high-flying shares to bottom. Investors swore they would never go down that road again.

The Fourth Wave

Memories are short. Many investors from that era are leading players in today’s artificial intelligence push. AI has taken the venture capital community by storm and from my vantage point looks to be the fourth wave.

Wave 1 – The push for persnal computers in the 80’s and early 90’s.
Wave 2 – The internet and the birth of the dot.com era,
Wave 3 – Mobile! Who can deny the iPhone hasn’t changed the way we view communication?
Wave 4 – Today, AI and related themes have become the biggest draw for private and public capital

The beginnings of the bubble are already forming as company after company announces an AI initiative.

It’s understandable that both Alphabet and Meta mentioned AI nearly 50 times on recent conference calls. It won’t be long until retailers, steel companies, travel agencies you name it will tout how they are using artificial intelligence to enhance their business. Bloomberg points out there has been a 77% pickup in the mention of AI in earnings calls with 1,072 mentions in just the S&P 500.

In the months to come those numbers will rocket higher as the media and CEOs push the technology as the next big thing.

Don’t get me wrong, the AI push is fabulous and I use it extensively in my work and writing. This is one of the great research tools of our time not to mention what it can do in the world of science and medicine?

Evolution or Revolution

Humans first walked the earth 2 1/2 million years ago. You can bet when cave men first figured out how to tie a stone to a stick and make a tool, the excitement must have been off the charts. How about FIRE! OMG what could top that?

Maybe the closest thing to the internet and dot.com bust was the age of radio in the 20’s and the market crash of 1929.

Today, AI investors focus on Nvidia which builds the silicon brains behind many artificial intelligence platforms. Back in the 20’s RCA, a manufacturer of radio sets and leading broadcaster of programing was the darling of Wall Street.

It doesn’t take long for the most basic of human emotions Greed to play a role. Once that kicks into gear you’re off to the races with investors and entrepreneurs scrambling to throw money at anything that is remotely associated with the next sensation.

All of this can drive market and economic activity for longer than you believe and equity valuations higher than you think.

Hope is a Strategy

The narrative surrounding the potential growth of a technology platform is clearly a driving factor in equity valuations?

If it was all about earnings, cash flow and dividends, Nvidia would be at 85 and Microsoft would be cut in half. They say hope isn’t an investment strategy. Maybe that’s true but humans have been buying into hope for the last couple of hundred years and I expect nothing different from the rage over artificial intelligence.

A lot of bad companies are going to be formed in the next 5 years but along with the AI wannabees there will be true technology innovators that develop products and services, changing the way we live our lives.

According to PitchBook which is something of a financial database for Venture Capital, VCs have steadily increased their positions in generative AI, from $408 million in 2018 to $4.8 Billion by 2022.

All In

If you want to get a sense of the excitement over this hot technology and where it might be going listen to the All In Podcast with Venture Capitalists David Sacks, Chamath Palihapitiya, David Friedberg and Jason Calacanis. They clearly believe this is the next big wave. I think 2023 and 2024 will dwarf what’s already been spent.

Think it can’t drive the market? Just look at the market cap swings in Alphabet a leader in search and AI this year.

GOOGL Market Cap Swings

Bloomberg Data

Microsoft introduced their $10 Billion investment in ChatGPT in late January catching Alphabet CEO Sundar Pichai by surprise. Adding insult to injury Alphabet’s initial AI application flopped in a demonstration triggering a more than $200 Billion rout in the shares. Finally, after getting their marketing act together along with the introduction of an updated BARD, Google investors who held on or bought the stock picked up a cool $350 Billion.

There is nothing better than a bubble to drive a bull market narrative and I expect AI looks to be the next catalyst.

Has the bubble already started? Of course it has but we’re just in the early stages of blowing up the balloon.

*At the time of this article some funds managed by David were long NVDA, MSFT, META and GOOGL