Competition driving technology advancement
Competition driving technology advancement
In last week’s note we discussed the benefits of diversification following Nvidia’s market value dropping by $593bn in a day, a record for any company on Wall Street. This week we are delving into some of the AI related sector implications, noting that Nvidia was not alone and many other AI related stocks were also impacted. This included well-known tech names as well as a number of companies with less obvious AI exposure, such as energy companies (AI development uses large amounts of energy in its data centres). Constellation Energy and Vistra are two examples we have included in the chart below.
Recent share price performance of selected AI exposed companies
Source: Bloomberg, Artorius
DeepSeek the disruptor
The share price fall for Nvidia and others was due to the potential implications following the launch of the Chinese AI engine – DeepSeek-R1, and the related mobile app - DeepSeek AI Assistant. The app provides a chatbot interface for DeepSeek-R1 and, soon after launch, the app hit the top of Apple's App Store chart, surprisingly outranking OpenAI's ChatGPT mobile app.
The implication is that DeepSeek’s AI Assistant app has at least comparable performance to the likes of ChatGPT but has been developed at a fraction of the cost. Particularly interesting is that it has been achieved through a combination of using lower performance Nvidia computer processing chips (due to the export restrictions from the US to China), and new innovations to train the R1 Model in a more efficient way.
Time will tell how accurate the cost difference in development between DeepSeek and OpenAI is. However, the simple view at this point is that OpenAI cost hundreds of millions of dollars to develop while DeepSeek, according to the company, cost less than $6m. Hence, markets and investors took notice.
Jevon’s Paradox
Technological advancement is generally a driver of greater efficiency. This has been seen throughout history. What is also interesting is that sometimes greater efficiency means a lower amount of a resource is required to support a process, but ultimately, the resulting effect is that the overall need for that resource actually increases at a market level. This is because the cost of the process becomes cheaper, which in turn drives greater overall demand for the product and therefore demands greater resource. This is known as Jevon’s Paradox. William Stanley Jevon first made what is now known as the ‘Jevon’s Paradox’ observation in 1865 when he noted that as technological advancements made the use of coal more efficient in steam engines, the overall demand for coal increased rather than decreased. We could be seeing another example of Jevon’s Paradox in the world of AI.
Competition is good. What are the implications?
There is no doubt that DeepSeek has disrupted the AI universe. It has certainly surprised the market but is that a bad thing? The answer to that question is likely to depend on where you sit in the AI ecosystem. For Nvidia it suggests some weakening in its monopolistic position.
What that looks like going forward is unknown, but if less powerful processing chips can be used to achieve competitive results in AI, then we see the potential for margin pressure on the likes of Nvidia. For the companies using AI chips to build AI capability the game seems to have changed. Does this mean that some companies have overspent on AI investment historically? That is potentially true, but going forward returns should benefit from the now lower investment costs required.
Judging from recent company results announcements, there does not appear to be a dampening in AI investment plans from the major tech companies. Meta confirmed on 29th January 2025, in its full year 2024 results, that it expects to spend $60-65bn on capital expenditure in 2025 driven by its investment to support its AI capabilities. Similarly, Alphabet announced plans to spend $75bn on capital expenditure in 2025 in its results announced on 4th February 2025.
DeepSeek seems to have shown that less computing power is required to produce similar results from those provided by current providers such as ChatGPT. In the longer-term, we believe this efficiency improvement will likely increase the use of AI overall and therefore also the required resources to enable it, which includes the processing chips AI requires for development.
Trade wars and geopolitics
Away from Nvidia and AI, albeit not entirely, it would be remiss not to highlight the ongoing posturing from the US in its use of trade tariffs. The US President, Donald Trump, has followed through on his election promise with the announcement of trade tariffs for Mexico and Canada of 25% (excluding the heavy oil the US relies on which has a tariff of 10%). However, on Monday 3rd February 2025 tariffs were suspended for 30 days in return for concessions on border and crime enforcement. The President’s end goals remain unclear but his rhetoric is strong saying, for example, he would like to see Canada become the US’s 51st state. He has since moved onto China, announcing sweeping 10% tariffs on all Chinese exports to the US. China has pushed back with its own targeted tariffs as well as putting several companies on notice for possible sanctions including Google. What is ultimately implemented remains to be seen.
What this means for markets is, in short, uncertainty and that is unhelpful. As it stands, the entire financial impact is impossible to quantify given the actual tariff positions are still subject to change. What is evident already is that this is starting to be played out in company guidance to markets. For example, Diageo, the world’s leading spirits maker, withdrew its medium-term sales guidance this week due to the ongoing tariff situation. The company has material exposure to the US, Mexico and Canada in terms of sales and manufacturing.
We continue to monitor the potential implications of the US trade negotiations closely but on the economic front the US macro picture continues to be robust.
Bank of England cuts rates
Domestically, the Bank of England (BoE) cut rates yesterday to 4.5% which was largely expected. Accompanying the announcement, the BoE halved their growth forecast for the UK to just 0.7% for 2025, while increasing their inflation forecast – an unattractive combination. The weak growth outlook suggests that interest rates should be cut to support the economy but above target inflation (particularly in the service sector) is limiting the BoE’s ability to ease policy. However, the market still expects 2-3 further interest rate cuts this year. If the UK falls foul of the US’s tariff policy, this will only get more challenging for policymakers.
Phil Carroll
Head of Alternatives
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