Deep Blue Legacy
Deep Blue
Legacy
As the world, or certainly the investment industry, obsesses over Artificial Intelligence (AI) it's important to remember that AI isn't a recent phenomenon. In 1997, the world witnessed Deep Blue, an IBM-developed chess-playing computer, defeat Garry Kasparov, the reigning world champion. This wasn't just a game; it was a watershed moment for AI.
Deep Blue wasn't a model of general intelligence. It couldn't think independently or learn new games. Instead, it relied on brute force, evaluating millions of chess positions per second thanks to its massive parallel processing power. However, Deep Blue's victory proved a crucial point: AI could surpass human capabilities in specific, well-defined tasks.
Deep Blue's success sparked a surge in AI research. The underlying techniques used in the chess program, like search algorithms and parallel processing, found applications in various fields. Financial modelling, drug discovery and weather prediction all benefitted from AI's ability to analyse vast datasets and identify patterns.
AI is essentially as old as the World Wide Web. When the Web came into existence in the late 1990s, it transformed how we accessed information, ushering in an era of unprecedented connectivity.
The late 1990s and early 2000s saw a shift towards user-generated content and social interaction. Platforms like Bebo and Myspace empowered users to become creators, paving the way for social media giants like Facebook and Twitter to emerge and foster online communities - fundamentally changing how we connect.
Today, the influence of AI is undeniable. Machine learning algorithms power ‘intelligent’ searches, personalise our online experiences, and even generate ‘creative’ content. In our homes many of us have virtual assistants like Siri and Alexa that understand natural language and respond to our queries (most of the time). AI is transforming industries, from healthcare to finance, with its ability to analyse vast amounts of data and make predictions.
AI focused markets
The strength of the US equity market is heavily AI dependent. Using the “Magnificent 7”, all heavily tech and AI focused companies, versus the rest of the S&P as a gauge demonstrates this. The chart below shows how AI focused this market rally has been. This outperformance compared to the broader S&P index underscores the market's current reliance on the success of AI. Year to date the S&P 500 has returned 17%. The Magnificent 7 has delivered 49% compared to the 8.9% from the rest of the market. For completeness, Global Equities excluding the US have returned 7% over the same period.
Magnificent 7 versus the S&P excluding the Magnificent 7: Shows just how reliant the US market rally has been on Tech/AI stocks
Source: Artorius, Bloomberg
A Window into Time
Today's main beneficiary of the AI revolution is Nvidia. But let's look back at a similar story from the internet boom: Cisco Systems. Throughout the 1990s and early 2000s, Cisco rode the wave of the internet boom. High demand for networking equipment fuelled the company's growth.
However, in 2000, investor confidence in many internet-related companies began to wane. Many dot-com startups were based on speculation and hype rather than sustainable business models. This triggered a domino effect, leading to a sharp decline in tech company stock prices, including Cisco's.
The tech crash highlighted the dangers of over-inflated valuations in a rapidly growing market. Cisco survived by diversifying its business beyond just hardware and focusing on new markets like security and collaboration software, demonstrating its ability to evolve. But Cisco never regained the share price highs seen in 2000, despite delivering good revenue and profits growth over the past 24 years.
Cisco Systems during the Internet Boom versus Nvidia today: Striking similarities and a warning to remain vigilant around investment decisions
Source: Artorius, Bloomberg
Start date for data is shown in brackets and taken from the start of the year when the large price rises first started.
While history isn't a crystal ball, it can be a valuable teacher. The story of Cisco serves as a warning and a reminder to maintain a diversified portfolio. Companies can become so dominant in a booming market that their success seems preordained – but the tech crash demonstrated that even seemingly invincible companies can be vulnerable to unforeseen circumstances. It also highlights that markets often over-extrapolate the stunning growth rates seen early in a new technology and so inflate valuations to levels that can’t be supported by future reality.
In fact, Goldman Sachs recently published a report titled "Gen AI: Too Much Spend, Too Little Benefit?" highlighted the vast sums large tech firms are set to spend on AI in the coming years. Yet, there's little sign of AI development being truly transformative for the general public any time soon. Generally, AI remains a divisive topic. Some hail it as a revolutionary breakthrough, while others expect an economic crash similar to the one seen in the 2000s.
There is a hope that AI will deliver greater economic and business efficiencies, which may result in higher economic growth. Of importance for investors is the combination of elevated valuations of some of the AI focused companies and their long-term profitability.
Price versus Revenue: Nvidia’s share price and revenue (right hand side (RHS)) have both been growing, but will revenues continue to rise at the same rate?
Source: Artorius, Bloomberg
One of our main concerns is around Nvidia's revenue and earnings. Currently, rising revenues and earnings are supporting the price. However, there is a real question around whether the company can maintain such growth, especially if the AI story bursts or even begins to slow down. Then, the current momentum behind the stock's price may well be a negative turning point for equity markets.
““If something cannot go on forever, it will stop””
The story of AI is far from over. As we move forward, it's crucial to strike a balance between embracing innovation and maintaining a healthy investor scepticism. By remembering AI's long history and learning from past industry booms and busts, its future can be viewed with both excitement and caution.
For transparency (as we believe it is the right thing to do), this article was co-written by AI. As AI continues to develop, responsible collaboration like this will become key to driving productivity. Just like the internet enabled different business structures (the way people access information moved from page to screen), so it is likely that AI will change how we use that information.
*Any feedback provided can be anonymous
Le grand mystère
It would be remiss not to comment on Sunday’s second and final round of voting in the French elections. Despite expectations of a right-wing National Rally win, they actually came in 3rd in terms of seats (despite gaining the most votes) with the left-wing New Popular Front coalition winning overall. A combination of tactical voting and more than 200 candidates (who saw themselves as part of a "republican front") pulling out of the second round so that a better-placed rival could stop National Rally candidates from winning, achieved its goal.
The end result is a hung parliament, with (at the time of writing) confusion over who will become the next Prime Minister. Current options include a technocratic government, where the government is composed of technical experts and not politicians. This is unlikely and would likely be a stop-gap option leading to another election in the near future. A second option would be a government composed of moderate parties, again an option that would likely not last as this would require an alliance spanning the entire political spectrum. A third option could see Macron appointing a Prime Minister from the party with the highest number of seats in the National Assembly, the left-wing alliance of the New Popular Front, and asking the new PM to form a government.
Regardless of the final outcome, it will take some time for the new government’s policies to become clear, meaning investors hoping for a quick resolution and obvious direction of travel will have to remain patient for now.
Josh Young de Ferrer
Portfolio Manager
Important Information
All expressions of opinion reflect the judgment of Artorius at 12th July 2024 and are subject to change, without notice. Information has been obtained from sources considered reliable, but we do not guarantee that the foregoing report is accurate or complete; we do not accept any liability for any errors or omissions, nor for any actions taken based on its content. The value of an investment and the income from it could go down as well as up. The return at the end of the investment period is not guaranteed and you may get back less than you originally invested. Past performance is not a reliable indicator of future results. Nothing in this document is intended to be, or should be construed as, regulated advice. Artorius provides this document in good faith and for information purposes only. Reliance should not be placed on the information contained within this document when taking individual investments or strategic decisions.
Artorius Wealth Management Limited is authorised and regulated by the Financial Conduct Authority. Artorius is a trading name of Artorius Wealth Management Limited.
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