By Jacob Sonenshine
It's no secret that Wall Street has tons of questions about Big Tech's opportunity in artificial intelligence. The reality is that the likes of Microsoft and Google parent Alphabet aren't going to stop pouring billions into chatbots.
Ultimately, owning the usual suspects -- Big Tech stocks -- is the right move.
The market didn't love Nvidia's earnings last week. The stock remains a few dollars below the level it was trading at just before the chip maker reported third-quarter results on Wednesday.
Profits did grow, but Nvidia's margins on its new Blackwell AI platform were a tad lower than the market had preferred, possibly indicating pressure on chip prices because of the emerging AI rival Advanced Micro Devices.
This is on top of the fact that some are concerned about the billions poured into generative AI by Microsoft and Alphabet as well as Amazon.com, Facebook parent, Meta Platforms, and other big names.
For the nervous camp, the returns have been simply too low. A handful of the powerhouse software and cloud companies -- Adobe, for instance -- are trying to monetize their AI-powered offerings, but may not be fully there yet. The AI revenue they rake in isn't always obvious in their earnings results.
And yet, tech's spending is still going strong. Sure, the percentage increase will slow down, but it won't stop growing.
Alphabet, Microsoft, Meta, and Amazon all want AI chips. Alphabet wants to protect Google as the No. 1 search engine by creating AI-generated results and to grow its cloud business; Meta wants to attract advertising dollars; Amazon wants to personalize product recommendations; and Microsoft wants to help users of its cloud products.
Analysts expect the four companies to increase their capital investments by double-digit percentages annually to almost $300 billion by 2027, according to FactSet.
Tech companies are investing because their corporate customers across the world want AI technology. About 10% of all large firms now use some form of AI, up from a bit below 5% earlier this year, according to according to Evercore strategists. And they estimate the rate of adoption will hit 25% by the end of next year.
Consequently, AI chips are in demand -- and selling a lot of them is Nvidia. Third-quarter sales for data-center chips, for example, more than doubled to a record $30.8 billion.
To state the obvious, the forecast is sunny for the big software providers and chip makers.
Analysts expect sales for the Magnificent Seven -- Nvidia, Microsoft, Amazon, Meta, Alphabet, Apple, and Tesla -- to grow in the double-digit percentages over the next few years, in aggregate.
For some, that means higher margins and especially aggressive earnings growth. Nvidia can increase its margins -- chip prices aside -- from the sheer volume of chips it sells. Sales will easily outpace its operating costs.
For a user of AI chips, of course, the sales growth comes in other ways. Meta, for instance, expects to grow sales from advertisers that pay top dollar for space on Instagram and Facebook. Sales growth should outpace expense growth for the next few years, which should push up earnings faster than sales.
The upshot: The Mag 7 can still go higher, despite outperforming the S&P 500's percentage gain this year by just over twofold.
Overall, the group of seven trades at about 27 times expected earnings per share for the coming 12 months, according to Evercore. That's down from over 30 times earlier this year and near the middle of its range since 2016, giving investors an opportunity to buy more if they'd like.
Don't listen to the naysayers. Stick with these stocks. The proof is in the numbers.
Write to Jacob Sonenshine at jacob.sonenshine@barrons.com
This content was created by Barron's, which is operated by Dow Jones & Co. Barron's is published independently from Dow Jones Newswires and The Wall Street Journal.
(END) Dow Jones Newswires
November 25, 2024 14:45 ET (19:45 GMT)
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