Why this strategist doesn't think there is an AI bubble

Key Concepts

• Tech Valuations: The assessment of the worth of technology companies, often based on metrics like price-to-earnings ratios.
• Dot-com Era: The period of rapid growth and subsequent collapse of internet-based companies in the late 1990s and early 2000s.
• Forward Earnings: A company's projected earnings for the next fiscal year, used in valuation calculations.
• AI Trend: The current significant growth and investment in Artificial Intelligence technologies.
• TPUs (Tensor Processing Units): Google's custom-designed hardware accelerators for machine learning.
• Gemini: Google's advanced AI model.
• Waymo: Google's self-driving car company.
• Compute Demand: The need for processing power, particularly for AI and machine learning tasks.
• Solution Providers: Companies that leverage existing technologies (like AI) to offer specific solutions in various sectors.
• Santa Claus Rally: A historical tendency for the stock market to rise in the final trading days of December and the first two days of January.

ECB Warning on Tech Valuations

The European Central Bank (ECB) has issued a warning regarding stretched tech valuations. However, the market, particularly on a Friday, is not showing immediate concern. The argument presented is that current valuations, while high, are not as extreme as during the dot-com era. Data comparing the top three stocks in the S&P 500 during the dot-com bubble (trading at 62 times forward earnings) to the current top three (trading at 31 times forward earnings) suggests that the market is not yet at a bubble peak.

AI Trend and Earnings Growth

A key differentiator from the dot-com days is the tremendous earnings growth underpinning the current AI trend. This robust earnings growth is seen as a fundamental support for the high valuations, suggesting that the market is not solely driven by speculation.

Divergence in Nvidia and Alphabet Performance

There has been a recent divergence in the performance of Nvidia and Alphabet, with Nvidia facing pressure while Alphabet has seen significant gains. This is viewed positively, as Alphabet is considered to have been undervalued for a considerable period. Alphabet's stock has moved from trading at 21 times earnings at the start of the year to 29 times, with potential to reach Nvidia's previous levels of 33-34 times earnings.

Not a Zero-Sum Game: Compute Demand

The discussion emphasizes that the market is not a zero-sum game between companies like Nvidia and Alphabet. The immense compute demand driven by AI means that companies like Meta will utilize chips from both. The current phase of growth is characterized by high demand, making it unlikely for businesses to switch between chip providers easily.

Alphabet's Resurgence and AI Capabilities

Alphabet is highlighted as one of the hottest stocks in the "Mag 7" group, performing strongly due to its advancements in TPUs and Gemini, which has seen significant improvement. Waymo, Alphabet's self-driving car venture, is also mentioned as a potentially huge future development, despite personal reservations about driverless cars.

Nvidia's Response to Competition

Nvidia has publicly acknowledged Alphabet's success with its TPUs and Gemini. This response is interpreted as Nvidia positioning itself as the market leader and addressing concerns about competition, depreciation cycles, and funding. The statement from Nvidia is noted for its careful legal review, suggesting a strategic communication effort.

ECB's Perspective on Financial Stability

The ECB's warning is seen as potentially related to concerns about global financial stability risks. However, the argument is made that the current market situation is supported by strong fundamentals, massive investments by companies, and substantial profits, especially in the early stages of AI development.

Navigating the AI Trade

For investors looking to re-enter the AI trade after recent market stabilization and potential for a "Santa Claus rally," the advice is to focus on the "majors" like Nvidia and Alphabet. Beyond these leaders, the recommendation is to move towards "solution providers," particularly in the healthcare sector, which is considered undervalued and is actively applying AI. Companies in the commercial robotics space, such as Symbotic, are also identified as interesting opportunities, contrasting with Tesla's focus on consumer robotics. The AI trade is projected to be a multi-year trend, not just a short-term phenomenon.