The Real Winners of the AI Gold Rush Are Infrastructure Providers
Investors identify themselves in many ways: value, growth, dividend, short-term, long-term, retirement, and more. Despite these different labels, all investors share a common goal: understanding companies better than the consensus.
When it comes to newer technologies, this task can become more challenging. Often, investors may not fully understand the technology and instead try to ride the investment wave it creates.
While we don’t claim to understand technology as well as engineers, today we discuss how the biggest technological development of the last decade will impact the market: artificial intelligence (AI).
Artificial Intelligence has been touted as the next big thing, promising to revolutionize industries and redefine our daily lives. This may very well be true, but who knows how AI will affect us in the next decade?
This brings us to our discussion today: If AI is the biggest development of the decade, should investors buy everything that is exposed to it?
Is AI A Feature Or A Product?
In a recent Wired podcast, the hosts discussed this question. What does it mean? Well, a product is something you can sell. A smartphone is a product. A feature is what makes that product sell; it’s what the product brings to the table.
This discussion is not limited to AI. When TikTok was introduced back in 2016, it was a huge product that was immediately loved by the masses. Shortly after, Instagram announced Reels, WhatsApp announced Status, and many big social media platforms adopted similar features. It was then understood that the concept of TikTok was really a feature, not a product.
Similarly, Clubhouse's popular audio chat rooms were swiftly mimicked by Twitter Spaces and other platforms. Today, Clubhouse has lost much of its user base.
The lesson here is clear: what seems to be an innovative product can quickly become a feature in larger ecosystems. Products differentiate themselves in ways that cannot be easily replicated by others, and that’s why they sell.
This is why AI requires a deeper dive. Investors need to understand if AI is a product benefiting its adopters for years to come or a feature that will be widely adopted by everyone, thus not adding additional value.
There Are Examples For Both
Companies have exposure to AI through different businesses. Some build machine learning models to create applications for their consumers, such as Adobe (ADBE) and Apple (AAPL), while others enable these companies to do so. These enablers include companies building the infrastructure needed for AI, providing integration services, consulting, cybersecurity, and more.
Pioneers of technology have shown that revolutionary applications can be integrated with ease. That is why companies building AI features for their customers may not be able to benefit from it in the long term. AI is not a value driver for these businesses; it is merely a requirement to stay competitive.
Another question is how far away earnings are for companies that hope to build AI features and how easily they can monetize them. Adobe, for example, has been trying to convince its investors that building better features and attracting more users is enough, and they don’t need separate monetization. However, investors seem to care about how much additional value AI can provide through monetization incentives.
Given this dynamic, investors should look beyond companies merely introducing AI-driven products. Instead, the focus should be on those providing the essential infrastructure that makes AI possible. These are the firms selling the proverbial "shovels" in the AI gold rush—companies that build and maintain the backbone of AI technology.
Key Investment Areas in AI Infrastructure
The adoption of AI requires massive investments in infrastructure. Some of these areas are highlighted below:
Data Centers
AI’s hunger for data is insatiable. Massive amounts of data need to be stored, processed, and analyzed. This necessitates robust and expansive data centers. That is why companies, especially big technology companies, invest heavily in data centers that will carry the weight for years to come. Recently, the Dell CEO stated that we might need 100x more data centers to store the data needed for the ultimate AI model.
While big technology still offers many opportunities in this area, data center REITs and companies providing connectivity solutions to data centers might also be intriguing investment ideas.
Semiconductor Companies
A key product required to have data centers is semiconductor chips. AI computations require specialized hardware. Traditional CPUs are being supplemented by more powerful and efficient GPUs and AI-specific chips.
Nvidia (NVDA), for instance, dominates the GPU market, which is essential for AI processing. Their continued innovation in AI chips makes them a crucial player in the AI infrastructure space. That is why the stock price has kept increasing since the beginning of 2023.
Although valuations look high based on historical multiples, based on projected earnings, there might still be investment opportunities.
Cloud Computing Services
The cloud is where AI algorithms live, train, and operate. Cloud platforms offer the scalability needed for AI development and deployment. This is another area where long-term leaders are benefiting the most. Amazon (AMZN), Microsoft (MSFT), Alphabet (GOOGL), and IBM (IBM) are some of these companies.
Network and Integration Solutions
Last but not least, AI applications require seamless integration and high-speed connectivity. Companies providing networking solutions and integration services are vital. Companies like Cisco (CSCO) and Broadcom’s (AVGO) solutions are critical for companies wanting to use AI to offer more innovative services.
Takeaways
When there is a gold rush, it is always safer to identify companies selling shovels compared to picking winners that will find the gold. This is applicable to AI as well. Many companies will try to build the best artificial intelligence model and add the best AI features to their products, trying to make them the preferred option.
It is not easy to pick a winner in this environment. Apple seemed like it was falling behind the competition two months ago, but after the WWDC 2024 event, it is seen as the clear winner.
Companies that will benefit from AI, regardless of who adds the best features, are the ones that are enabling them. As discussed in the article, these include companies building data centers, providing products needed for them, and providing integration and consulting services. These areas might be better spaces to look for investment opportunities.
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