The AI effect: Time to rethink your technology exposure?

As the second half of 2024 gets underway, artificial intelligence remains a key topic of interest to asset owners. Will it meet high market expectations? Will it continue to drive market concentration? How should portfolio exposures evolve to capture AI opportunities and manage the risks? For some answers, Head of Multi-Asset Strategy Adam Berger spoke recently with Brian Barbetta, global industry analyst and co-head of our technology sector team. 

Adam: To gauge the market impact of AI, investors need to understand its impact on our everyday lives and how that is likely to feed into the economy. What’s your view there?

Brian: I think you have to start by looking at how things have evolved over the past decade. We find ourselves at a point where there’s far more time being spent on digital surfaces than ever before and that’s likely to continue. At the enterprise level, we’re seeing more benefits in terms of efficiency and that’s also likely to continue, as the science advances and is applied to solve problems for both people in the workforce and consumers.

Thanks to AI, I would say that right now there is more potential than at any point in recent history for technology to enable breakthroughs in our understanding of fields such as physics and biology. There are no guarantees, but if new research capabilities continue to emerge, I think we could see the technology really accelerate and lead to a future that looks a lot different than it does today.

Adam: Given the wide range of possible outcomes, how worried are you that the market has gotten ahead of itself with AI enthusiasm?

Brian: One lesson I’ve learned during my career is that at any given moment in time, the market is ahead on some things and behind on others. Take the case of Apple. After the company announced its AI plan earlier this year, the stock was up 10%. Yet Apple’s plan had previously been very well rumored, so I think you could argue the market was late to price that in. 

That said, there will be some companies benefiting from the AI excitement that turn out to have been overvalued — situations where they have a hard time actually bringing their technology to market, for example. But there are also many real businesses with real products and revenue. This is not a meme-stock rally or a case of the market getting caught up in purely speculative technology.  

Adam: I want to get your perspective on the narrow set of winners we’ve seen in the market, led by the technology sector. As an investor who is focused on that sector and thinking a lot about AI, do you expect that trend to continue?  Could we see the market become even more concentrated in the years ahead?

Brian: The ingredients that have allowed for a handful of companies to lead the market certainly remain in place today. The businesses that are best able to leverage the technology we’re talking about tend to have a lot of users, a lot of data, and a lot of opportunities to iterate on the technology. So, much of what has happened over the last decade seems likely to continue.

That said, we’ve recently seen a shift from talk of the Magnificent Seven to the Magnificent Six, which I think reflects the fact that not all companies will benefit equally from the technology. As in past cycles, some companies will get the technology wrong, while others will get stronger and provide opportunities to generate alpha along the way.  

Adam: How is progress in AI impacting your views across different subsectors of technology today?

Brian: Broadly speaking, I’m very focused on underappreciated winners and the market’s tendency to underestimate how long trends can persist. I think some businesses and subsectors are being cast aside as potential non-beneficiaries of AI. Software is an example — I actually see some really interesting ideas to own companies that are building the applications that will be needed to bring this technology to market.

Conversely, there are areas of the technology sector that are likely to be pressured as some of the more advanced generative AI tools arrive. Take companies that do business-process outsourcing for large organizations, for example — I think that’s some of the first work that’s likely to be automated by AI.  

I think we also need to bear in mind that AI’s impact will go well beyond the technology sector. I see opportunities in a variety of sectors and industries where companies are leveraging innovation to take share in an existing market or create a new market. I expect to see high levels of industry disruption from AI in areas like media, health care, retail, financial services, and transport. 

Adam: Given your outlook, what guidance would you give asset owners on the role of technology in their portfolios?

Brian: I think technology is an area that will continue to grow faster than the overall market. It currently trades at a premium to the market, but in the past, it has actually traded in line or even at a slight discount at times — despite offering better margins, returns on invested capital, and growth. Today, many of the biggest changes taking place in the economy are being invented by these companies. I continue to think that over the course of a cycle, asset owners will be well served by being overweight technology. I’d also note that technology is a sector with very high dispersion, and I think that lends itself well to active management.  

Adam: What are your thoughts on the regulatory outlook for AI?  

Brian: Overall, I really don’t expect regulations to slow down the pace of progress. Regulators tend to be late to act when it comes to technology, as they want to see the impact and then try to set rules accordingly. It’s also difficult to regulate a technology once it’s out in the market. But I do think we’ll see the large technology companies try to help lawmakers, regulators, and law enforcement combat misuses. For example, I think we’ll see companies start to build deepfake detection technology into social media platforms. Data privacy is another area where we’re likely to see a lot of regulatory activity, with governments around the world taking different approaches.

And of course, the upcoming US election will have an effect, though at this stage it’s not clear to me that the Democrats and the Republicans have obviously different agendas for AI. Democrats do have more of a focus on regulating big tech, so if they win, we could see the government double down on some of those efforts. With a big win for Trump and the Republicans, I think we would probably see more restrictions on chips going to China, which would have a significant impact across the technology sector.

Read more on Brian Barbetta’s AI views here.