A golden age for stockmarkets is drawing to a close
Despite a slowdown in China— whose sagging markets are an exception to the global trend— the IMF has been nudging up its global growth forecasts, too.
Adding to investors’ bullishnessistheiroptimismaboutartificial intelligence (ai). This is not a ChatGPT-like hallucination. The event that propelled stocks into the stratosphere was the publicationonFebruary22ndof earningsbyNvidia,whichhasan irongriponthemarketforchips that are critical for training ai models. In October 2022, just beforeOpenAIreleaseditsnowcelebrated chatbot, Nvidia earned around $3bn in gross profits each quarter, mostly from selling graphics cards to gamers. In the three months to the end of January 2024 Nvidia earned $17bn in gross profits while enjoying a margin of 76%. The company’s share price has climbed five-fold over that time, butitsearningshavegrowneven faster.Inotherwordstheenthusiasm that has lifted Nvidia close toastockmarketvalueof$2trnis not built on dotcom-like hype, but cold, hard profit.
Judging the boom to be justified, though, does not make it wise to rush out and buy stocks. Whathappensnextisunlikelyto fill investors with glee. That is partly because the extreme excitement about ai extends beyondNvidiatoothermembers of the “Magnificent 7” group of tech stocks, such as Microsoft, whose eventual commercial strategies in the ai era are still far from clear. These firms are hoarding Nvidia’s chips in the belief that, one way or another, their AI businesses will boom. However, it remains to be seen howtheywillresolvebasicissues withtheirlargelanguagemodels. Plentyofstartupswanttoeatthe Big 7’s lunch, and competition willkeepprofitsincheck—even, eventually, at Nvidia.
Techno-optimism is also the basis, in some quarters, for bullishness about economy-wide productivity growth. The lesson from other fundamental technologies is that it takes time to work out how to exploit them. Businesses talk non-stop about generative ai but it remains at the experimental stage. As a result, even if ai is destined to transform societies utterly, today’s investors may struggle to pick which companies will make money. Believers in the dotcom boom were not wrong about the transformative power of the internet—but they still lost their shirts.
If things stay sane this time, valuations will not climb much further. The trend of rising profits, as a share of the economy, also looks spent. Their outsize growth in recent decades was a one-off, caused by the falling cost of borrowing and taxes. As inflation lingers and governmentfinancesremainstretched, that fall cannot be repeated; it may even be reversed.
Under realistic assumptions aboutwhatwillhappentovaluations, interest and taxes, to generate even modest real equity returns of 4% a year over the next decade, America’s firms would need to increase their underlyingprofitsbyaround6% a year, close to their best ever post-warperformance.Nowonder Warren Buffett, a veteran investor, sees “no possibility” of super returns for his fund.
The long and grinding road
Equities could underwhelm in many ways. Perhaps ai-exhilarationwillcauseadotcom-style bubble that pops. Another war or crisis could lead to a crash. Or prices may stagnate in a gentle bear market that takes years to reverse. Whatever the path to disappointment, in ten years’ time nobody will be repeating the obvious conclusion of today: that investors in equities—especially American ones—have enjoyed a golden age. (With inputs from Samiksha Goel)