Ask Me About the AI Bubble

“Jim, you’ve been around these markets for a long time. Do you think AI is a bubble the way the dot-com was a bubble?”

I’ve received a version of this question multiple times over the past few months, and the question is of growing and legitimate concern for the future of markets. I say that, because for the past several years, the promise of Artificial Intelligence (AI), along with its potential existential game-changing effects, has been the main topic of conversation among not only market participants, but also by nearly every thoughtful human.

Indeed, it seems as though everyone has an opinion on AI and the future of humanity, and rightly so. I mean, think about this for a moment: If there was something that was orders or magnitudes “smarter” than any human, and it possessed a sense of agency that humans were unable to comprehend, do you think humans would be able to control it?

This is the big fear of AI, and particularly superintelligent, artificial general intelligence of the sort that science fiction writers have postulated would destroy humanity (think 2001: A Space Odyssey and The Terminator). Unfortunately, most serious scholars and technologists think that there is a very real possibility that so-called “agentic” superintelligent AI could end civilization as we know it, and within our lifetime.

For a sobering yet imminently fascinating exploration of this issue, I recommend watching this episode of The Diary Of A CEO podcast, featuring AI safety expert Dr. Roman Yampolskiy. It will bend your mind, possibly permanently.

Now, while the issue of AI as an existential threat to humanity, and what, if anything, we can do about it, is a compelling question of the greatest importance, it’s not what most investors are thinking about. What most investors want to know is an answer to a version of the “AI bubble” question, i.e., are we in a bubble, and is that bubble about to burst the way the dot-com bubble did in the early 2000s?

The answer, as with most answers in life, is rather complex. That complexity stems from the hoards of capital being shunted into the AI build out, a build out that requires exponentially increased computing power fueled by sophisticated semiconductors made by Nvidia (NVDA), AMD (AMD), Micron (MU), etc.; data center components, cloud computing, cybersecurity software and the energy required to run it all.

The billions and billions in capital expenditures to build out AI and to train massive, large-language models (LLMs) is truly staggering, and the enormity of the cap-ex here is very “bubble like.” Add to that the presence of so-called “circular finance agreements,” which are basically companies paying their vendors to buy their products, and you get a very creepy and familiar sense of bubble mania.

Yet, the answer to whether AI is in a bubble, and more importantly, whether that bubble will soon burst and cause stocks in the sector and the entire market to crumble, is actually more basic — and in my view, that answer is an emphatic “no.”

I say that, because unlike the early 2000’s dot-com bubble, the AI bubble is not based on valuation. Rather, it’s an issue of continued capital expenditures into the AI build out. The reality here is that there’s so much money being spent (and so much more promised to be spent) on AI infrastructure that it has become a large part of the U.S. economy and the biggest driver of the multi-year bull market.

That driver isn’t going to stop anytime soon, and the only thing that will stop it is if companies fueling the build out decide to pull out and exit the AI race. But stopping the AI race will mean seeing your share price fold, and no CEO capable of funding AI cap-ex is likely to pull out of this race anytime soon. Could they do so eventually? Yes, but I don’t think we’re anywhere near that yet.

So, how will we know when the bubble is about to pop? Well, when major tech firms such as Alphabet (GOOGL), Amazon.com (AMZN), Meta Platform (META), Microsoft (MSFT), Oracle (ORCL), etc., announce that they intend to reduce cap-ex, that is when the air will start to come out of the bubble, and that would bring about the onset of an AI bubble “pop” (i.e., a sharp slide in the price of stocks in the segment).

Conversely, if these same companies, and others, double down on the AI infrastructure spend, it means the money is still flowing, and the sector is still ripe with investable possibilities. Right now, the money is flowing, and the AI bubble’s membrane is still very much intact. So, if you own AI names, keep owning them, as this equity bubble can deliver a lot more upside to your portfolio.

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The Price We Pay

“Grief is the price we pay for love.”

–Queen Elizabeth II

Grief is a powerful force. It can envelop your very being and shroud your world with a darkness so profound that it blankets everything illuminating your existence. But the reason why grief is so potent is because it’s a natural reaction to the deep emotional connections we make. Think of grief as a necessary and rational response to losing something very valuable.

In fact, I would argue that the deeper one’s grief, the deeper the meaning. And the deeper the meaning, the deeper and richer the life. So, embrace your grief (hey, it’s going to come anyway) and consider it a privilege, and the price we pay for love.

Wisdom about money, investing and life can be found anywhere. If you have a good quote that you’d like me to share with your fellow readers, send it to me, along with any comments, questions and suggestions you have about my newsletters, seminars or anything else. Click here to ask Jim.

In the name of the best within us,

Jim Woods