AI caramba! The search continues
Artificial intelligence could have a major impact on Google’s core business, writes
At time of writing, the rand has breached R19 to the dollar, there’s not much electricity in these parts and the Nasdaq-100 has added more than 21.5% year to date.
The JSE Top 40 is up 5.7% this year, but that return is measured in a currency that is more fragile than wet singleply toilet paper. What a time to be alive. Things have changed completely from the narrative at the end of 2022, when the market couldn’t stop talking about the cheapness of South African equities and the major drawdowns suffered by US growth investors.
Of course, the price always tends to drive the narrative. Beleaguered growth investors have emerged from their caves, dusty but ready to fight. The Nasdaq-100 is up about 10% over the past 12 months, with the kind of substantial volatility along the way that gets punters excited and keeps trading desks at banks profitable.
Of course, for South
African investors, even a fairly modest return in the US index translates into a substantial return in our battered currency. I would like to remind you that in May 2022, the rand was trading well below R16 to the dollar. It hurts.
The offshore versus local debate is as old as time. Many investors make the mistake of always chasing the hot money, when the right thing to do is the exact opposite.
The juicy returns were found in the tech stocks a few months ago when nobody was touching them. The difference is that all those companies have bright futures. The same isn’t necessarily true for cheap emerging market assets, which are sometimes cheap for very good reasons.
There’s something to be said for an allocation to offshore feeder ETFs, that’s for sure. As an underpin to a portfolio, thematic plays tend to make sense. There are various ways to slice and dice the US indices, including ETFs that are more heavily weighted towards the most important technology companies on the index.
As always, do your research. Of course, the art and science of stock picking remains irresistible for all of us. If you’re reading this, it’s because you love finding gems in the market. Sometimes, it’s about finding the rock that doesn’t have a scorpion underneath it.
The performance of the Nasdaq-100 index over 12 months has been hiding many scorpions at times, frequently carried by the biggest and best tech companies while the rest struggled. This relative performance of big tech versus risky tech can change almost overnight. One of the ways to measure sentiment is to compare the Nasdaq-100 index to the ARK Innovation ETF, Cathie Wood’s finest efforts in finding overvalued companies and buying them at pace.
$ARKK is up more than 27% year-to-date, well ahead of the broader Nasdaq performance. A 12-month view looks different, with a return of just 5% in $ARKK versus a double digit return on the index. This tells you a lot about the strength of the tech sector, as well as the change in sentiment this year in favour of growth stocks.
For years, investors tended to lump the “FAANG” stocks together. The world was learning about platform business models, subscription versus advertising revenue and the growing importance of content. It was difficult in the earlier years to figure out which of the models might work, so many investors bought a basket of the stocks and hoped for the best. This was an effective strategy until the pandemic did an excellent job of separating the wheat from the chaff.
A review of the recent results and management narrative in this industry is a worthwhile exercise. In the wheat corner, we find the giants of the industry who have built almost unassailable moats. No, that doesn’t mean Alphabet (the parent company of Google). If anything, Google is proof that calling anything an “unassailable” moat is probably dangerous.
Artificial intelligence (AI) could have a major impact on Google’s core Search business, with Google responding to the AI movement by pointing out all the features of its existing businesses that are enhanced
There was a time when nobody thought that Facebook could be disrupted
by AI. That’s all good and well, unless people start their search for information on ChatGPT rather than in Google. The “other bets” that Alphabet wasted billions on over the years don’t seem that useful in a ChatGPT world.
When it comes to moats, an Apple a day keeps portfolio losses away. Over five years, the share price has achieved a compound annual growth rate (CAGR) of about 30%. In case you think that’s a fluke, the 10-year CAGR is 27.5%. It’s incredible to see returns of this size from a company that is already so huge.
At a time when the world is excited about luxury goods companies and LVMH has crept into the top 10 market cap list on a global basis, it’s worth noting that Apple’s market cap is around five times the size of LVMH. Every handbag needs a smartphone, but not every smartphone needs a Louis Vuitton handbag.
Not far behind (both in market cap and performance) is Microsoft. Criminally excluded from the FAANG acronym when none other than Jim Cramer coined that concept, Microsoft has demonstrated that the old dog
Every handbag needs a smartphone, but not every smartphone needs a Louis Vuitton handbag
is capable of inventing new tricks, not just learning them.
A few tricks might be needed when dealing with the UK’s Competition & Markets Authority (CMA), with the Activision Blizzard deal hanging in the balance. Perhaps the UK misses having such an influence on the world, as a prohibition of the deal in that market has scuppered the entire thing.
The parties will need to appeal the process, which means it will be a long and drawn-out affair while the UK regulators answer the Call of Duty.
Even without this deal, Microsoft knows how to create shareholder value. The CAGR over five years is more than 26% and the 10-year CAGR is 24.5%, so the company trails Apple, but only slightly. Where Apple has captured the hearts and minds of affluent consumers,
Microsoft has captured the hearts and minds of the corporate IT department. The two most valuable companies in the world are proof that either a B2C or B2B model can work brilliantly — you just have to design and execute the businesses properly.
Circling back to Alphabet, the narrative is suddenly sounding defensive. At a recent conference, the first question to management was unsurprisingly about AI, which has probably become a swear word at Google behind closed doors. The company is behind the curve and has been spending money in the wrong places, which is why the answer related to a need to “durably re-engineer” the cost base to enable long-term investment and growth.
Of course, even if we look through the rhetoric from management and the rather desperate attempts to reassure the market that not all is lost, we cannot assume that Alphabet will be behind the AI curve forever. That would just be silly. The question is how much pain they will suffer along the way, in similar vein to the headache that TikTok caused for Facebook and Instagram within Meta.
There was a time when nobody thought that Facebook could be disrupted, particularly after Google tried and failed to do exactly that. No moat is unbeatable. Google says that they have been using AI in Search for “many, many years ”— and anyone who has ever used Bing will likely attest to this.
For a long time, I’ve been convinced that Bing is only ever used by mistake when people open Edge as their browser instead of Chrome. With heavy investment in that part of the business, Microsoft is trying to change that reality and Google will need to watch out.
For now though, Google is clearly a far superior search engine to Bing, which is precisely why Microsoft jumped at the AI opportunity and took an equity stake in ChatGPT.