DCLA's Sarat Sethi: Big oil companies are good hedges to have in your portfolio

Key Concepts

• Meta (formerly Facebook): Potential to become a major AI infrastructure provider, but facing monetization challenges.
• Oil & Geopolitics: Investment in Venezuela as a potential cost-reducing factor, but with significant geopolitical and reputational risks. Oil as a hedge against global volatility and dollar debasement.
• NVIDIA: High-quality company currently in a “show me” phase, requiring demonstration of execution and sustained demand despite a substantial backlog.
• Magnificent Seven (Mag 7): The group of large-cap tech stocks (including Meta & NVIDIA) and the potential for portfolio diversification beyond them.
• Capital Expenditure (CAPEX): Significant investments made by companies, particularly Meta, in infrastructure.
• Backlog: The total value of orders a company has received but not yet fulfilled, particularly relevant for NVIDIA.

Meta & AI Infrastructure

The discussion began with Meta, focusing on the “bull case” that it could become the “AWS of AI.” This stems from Meta’s potential to leverage its substantial investments in AI infrastructure, initially built for internal use, into a public cloud offering. However, the primary concern for investors isn’t the infrastructure itself, but monetization. The stock’s previous decline is attributed to investor skepticism regarding Meta’s ability to successfully monetize this AI investment. Sarat Sethi highlighted Mark Zuckerberg’s history of large CAPEX expenditures, emphasizing the need to demonstrate a return on investment and a business model that extends beyond reliance on advertising and user-generated content.

Oil, Geopolitics & Investment in Venezuela

The conversation then shifted to oil, specifically the potential impact of President Trump’s meetings with oil executives regarding investment in Venezuela. While investment in Venezuela could potentially lower oil costs, the outcome remains uncertain. Sethi stated, “We don’t know how this is going to work,” acknowledging the inherent risks. He positioned oil as a valuable portfolio hedge against geopolitical risks – referencing potential issues in Venezuela and the Middle East – and dollar debasement, as oil is priced in US dollars. He noted that oil prices haven’t fallen to the expected $50 level, suggesting continued geopolitical pressures. Companies like Chevron, Exxon, and Schlumberger were specifically mentioned as potential beneficiaries, with Schlumberger highlighted for its technological contributions. He cautioned that any investment in Venezuela would involve “big guarantees” and face uncertainty depending on future administrations.

NVIDIA: Backlog, Execution & Valuation

NVIDIA was discussed in the context of its recent stock performance, which saw a nearly 2% decline despite bullish commentary from the company’s CFO regarding a backlog exceeding $1 trillion (higher than previously reported). Sethi described NVIDIA as being in a “show me” phase, similar to Apple, where investor focus is on execution and future demand. He stated, “It’s going to be about execution. What’s the new chip going to be like. What’s the demand going to be like.” Despite being a large position in his portfolio, he indicated he wouldn’t be a buyer at current levels, anticipating better opportunities as the demand and backlog materialize. He emphasized NVIDIA’s high quality and strong earnings but reiterated the need for demonstrable progress.

The Magnificent Seven & Portfolio Diversification

The discussion broadened to the overall performance of the “Magnificent Seven” (Mag 7) tech stocks. Sethi acknowledged NVIDIA’s strong long-term performance and Meta’s slower growth. He advocated for portfolio diversification, suggesting investors explore opportunities in sectors like healthcare, industrials, and financials, which possess “earnings power.” He highlighted Amazon and Google as other strong cash flow generators within the tech sector. He noted a “broadening out” in the market, indicating that opportunities exist beyond the dominant tech companies, particularly given the current economic climate and consumer behavior. He stated, “You can look at healthcare, you can look at industrials, you can look at financials. Those have some earnings power to them.”

Notable Quote:

“It’s a very high quality company and earnings are there. But I think it’s such a show me story that you’re going to get a better opportunity down the road to add more to this.” – Sarat Sethi, referring to NVIDIA.

Conclusion

The conversation underscored the importance of careful evaluation and a diversified approach to investment. While acknowledging the potential of companies like Meta and NVIDIA, the discussion emphasized the need for demonstrable results – particularly in monetization for Meta and execution for NVIDIA. The geopolitical landscape and its impact on oil prices were also highlighted, along with the benefits of hedging against volatility. Ultimately, the key takeaway is that while the Mag 7 remain significant players, a broader investment strategy encompassing diverse sectors is crucial for navigating the current market environment and capitalizing on emerging opportunities.