Goldman Strategists - AI Spending by Big Tech Worries Investors

Investors are growing increasingly concerned that US technology megacaps are spending too much on artificial intelligence, according to Goldman Sachs Group Inc. strategists.

Hyperscaler Spending on AI

Companies referred to as “hyperscalers” — including Amazon.com Inc., Meta Platforms Inc., Microsoft Corp., and Alphabet Inc. — have utilized about $357 billion for capital expenditure and research and development in the past year, the team led by Ryan Hammond said. A “significant portion” of this spending was on AI and represents nearly a quarter of the S&P 500’s total for capex and R&D, the strategists noted.

Future Revenue and Earnings

“Today’s hyperscalers will eventually be required to prove that revenues and earnings will be generated from their investments,” Hammond wrote in a note. “Early signs that may not be generated could lead to valuation de-rating.”

Specific Company Expenditures

Amazon is expected to utilize $63 billion for capex this year, an increase from $53 billion in 2023, according to data compiled by Bloomberg. Meta and Google-owner Alphabet will spend record amounts in 2024.

Impact on Stock Market

The buzz around AI has powered US stocks to record highs this year, with Nvidia Corp. among the biggest beneficiaries. Investors broadly expect the frenzy to remain a key feature of a rally in the second half, although some are betting on sectors such as infrastructure providers and utilities to lead gains for the remainder of 2024.

Comparison to Dot-Com Crash

Even so, the strategists said that current AI spending “still pales in comparison” to capex levels seen during the dot-com crash. At the height of the tech bubble at the turn of the millennium, the group of tech, media, and telecom stocks was spending more than 100% of cash flows from operations on capex and R&D, Hammond said. Today, the total bill stands at 72%.

Risks to Profitability

Still, expenses associated with depreciation could represent a risk to profitability, the strategist said. “As demonstrated in the tech bubble, sales revisions will be a key indicator for investors to assess the durability of the AI trade,” Hammond said.

AI Adoption Skepticism

Investors grow concerned that AI isn't being adopted fast enough to justify the hype. The stock market's red-hot mania for artificial intelligence is increasingly detached from reality as adoption of the burgeoning technology appears slower than expected, according to Goldman Sachs. "Our conversations with investors have been defined by skepticism about latter stages of AI adoption," Ryan Hammond of Goldman's portfolio strategy research team said in a recent note to clients.

Phases of AI Adoption

Phase three — home to those software providers — calls for companies to incorporate AI tools to boost their revenues, and in phase four, companies begin to see enhanced productivity from AI adoption.