AI Revolution in Early Stages: Horizon Investments CIO

Key Concepts

• M&A (Mergers & Acquisitions)
• Public Market Valuations
• Hyperscalers
• AI Revolution
• Deep Sea (Potential Economic Downturn)
• Tariffs
• Infrastructure Layer (AI)
• Application of AI
• Return on Equity
• Margin Expansion

1. Market Valuations and Sustainability

• The discussion begins with the observation of phenomenal valuations in the public market, referencing a new $4 trillion company and the $400 billion private valuation of SpaceX.
• The key argument is that these valuations are sustainable because companies are "growing into" them, unlike the dot-com bubble of the 1990s where companies lacked the earnings to justify their valuations.
• Current tech companies have earnings in the "thirties," which is considered a sustainable valuation metric.
• Return on equity is still healthy, indicating that valuations are not excessively high.

2. Earnings Season and Hyperscaler Spending

• The upcoming earnings season is crucial to validate the current valuations.
• A key question is whether Hyperscalers (major cloud service providers) will commit to the spending that drives companies like NVIDIA.
• Continued growth, margin expansion, and better execution on the business side are necessary for companies to sustain their valuations and potentially increase them further.
• The expectation is that the AI revolution is still in its early stages, suggesting continued growth potential.

3. Impact of Tariffs and Geopolitical Factors

• Despite concerns about "deep sea" (potential economic downturn) and tariffs, the market has shown resilience.
• The market is becoming "numb" to tariff headlines, with a diminishing return in terms of shock.
• The market seems to have developed a playbook for dealing with tariffs, expecting negotiations to eventually lead to deals acceptable to all parties.
• The lack of a viable alternative to NVIDIA in certain sectors has contributed to the recapture of all-time high valuations.

4. Winners and Laggards in the AI Era

• The market is increasingly divided between winners and laggards, with Apple being cited as a company facing challenges.
• The focus is shifting from the "infrastructure layer" (AI hardware and foundational technologies) to the "application of AI" (companies using AI to improve their businesses).
• The expectation is that late 2025 to early 2026 will be the period when companies that effectively use AI to increase profit margins and productivity will emerge as the major winners.
• Verizon is actively researching which companies and sectors will be able to leverage AI effectively.

5. Investment Strategy and Sector Allocation

• The investment strategy involves broadening the portfolio and increasing overall allocation towards AI-related sectors.
• This involves taking profits from "prior winners" in the infrastructure space and reallocating capital from lagging industry groups, such as industrials, utilities, and consumer staples.
• Healthcare is identified as a sector with significant potential for AI applications, particularly in speeding up drug development.
• The speaker acknowledges that the specific applications of AI and the ultimate winners are still uncertain, emphasizing the importance of research and staying "front footed."

6. Notable Quotes

• "These companies are growing into the valuations that the market is placing upon them."
• "We are still early stages of the A.I. revolution."
• "The ultimate winners in the space which which are always the use of the technology rather than the makers of the technology."
• "I don't know what I don't know. And that's actually what some of the most exciting parts about this is."

7. Synthesis/Conclusion

The discussion centers on the sustainability of current market valuations, particularly in the tech sector, driven by the AI revolution. While concerns about tariffs and potential economic downturns exist, the market has shown resilience. The focus is shifting from the infrastructure layer of AI to its application across various industries, with the expectation that companies effectively leveraging AI will emerge as the next wave of winners. Investment strategies are adapting to this shift, with capital being reallocated from lagging sectors and prior winners to companies poised to benefit from the widespread adoption of AI. The future remains uncertain, but the potential for AI to transform industries like healthcare is a key area of excitement and research.