Written by Jack Peglar, Investment Research Analyst, EFG Harris Allday.
The potential of artificial intelligence (AI) has captured the imaginations of investors and helped to fuel a £3.2 trillion rally in technology companies over 2023.
The technology dominated Nasdaq index has reached its highest level since Q3 of last year with chip designer Nvidia the latest to join the $1 trillion market capitalisation club. This speed and scale of the recent rally has divided investors as to whether the magnitude of price movements is justified by the potential opportunity, or if we are seeing the latest in a speculative buying frenzy that is more reminiscent of a mini-bubble.
The concept of artificial intelligence and machine learning is not a new one. The earliest successful AI program was written in 1951 by Christopher Strachey, with the program running on the Ferranti Mark I computer at the University of Manchester. By the summer of 1952 the program could play a complete game of checkers at a reasonable speed. Progress in AI has been a series of step-changes since then with notable milestones including the first chatbot, ‘Eliza’ in 1964, IBM computer programme ‘DeepBlue’, which beat chess Champion Garry Kasaprov in 1997 and over the previous decade the advancement of voice recognition and virtual assistant AI systems such as Apple’s Siri and Amazon’s Alexa. More recently, GPT-3 (short for generative pre-trained transformer) was introduced into the world, another revolutionary tool that can be used for automated conversations and requires minimal input texts to develop sophisticated responses.
Over 2023, AI has become a key topic and growing area of focus for companies and investors alike. Monopolistic mega-cap technology companies in particular have emphasised the integration of AI into their products and communicated commitments to large investments into the space for coming years. In his recently published seven-page letter titled “The Age of AI has Begun,” Microsoft founder Bill Gates outlined the areas in which AI could bring transformation, including healthcare, education, and the workforce. With the widespread adoption of AI expected to greatly enhance industry efficiency, enable businesses to further optimise their processes and ultimately boost profitability, it is easy to see why this has attracted investor’s attention.
We currently remain in the earlier stages of the next paradigm shift in AI which will undoubtedly change our lives and disrupt entire industries. In the near term, we believe that the integration of AI, as well as the optimisation of semiconductor production, are areas of technology that will enable the widespread adoption of AI and, consequently, benefit from its implementation. However, we believe it is crucial for investors to weigh up this potential with valuations and be wary of chasing performance at times where shorter-term exuberance is inflating prices. With many technology companies now trading on above 10x price to sales (over 30 of the S&P 500), there is little margin for error.
Recent price movements have been in more obvious industries, however companies with forward thinking and innovative management teams across broader sectors will also be well placed to leverage AI to their advantage. Companies will need a clear strategy to incorporate AI if they want to remain a market leader over a longer time frame, and for investors, avoiding companies left behind will likely be as important as identifying the emerging beneficiaries. While we favour secular growth themes and believe this will be an enduring structural growth trend, we will continue to be selective on price, employing active management to uncover opportunities and generate performance over the long-term.
