Macro

Goldman Strategists Warn of Investor Concerns Over $357B AI Spending by Big Tech

Big Tech's $357B AI Investment Raises Investor Concerns Over Profitability and Sustainability

By Barry Stearns

7/11, 05:24 EDT
S&P 500
iShares 20+ Year Treasury Bond ETF
iShares 7-10 Year Treasury Bond ETF
Amazon.com, Inc.
Alphabet Inc.
Meta Platforms, Inc.
Microsoft Corporation
NVIDIA Corporation
article-main-img

Key Takeaway

  • Goldman Sachs strategists highlight investor concerns over $357 billion AI spending by tech giants like Amazon, Meta, Microsoft, and Alphabet.
  • Amazon's capex is projected to rise to $63 billion in 2024 from $53 billion in 2023, with record spending expected from Meta and Alphabet.
  • Despite AI-driven stock rallies, strategists warn that profitability risks and sales revisions could impact valuations similar to the dot-com crash.

Concerns Over AI Spending

Investors are increasingly worried about the substantial investments US technology megacaps are making in artificial intelligence, according to Goldman Sachs Group Inc. strategists. Companies referred to as "hyperscalers" — including Amazon.com Inc., Meta Platforms Inc., Microsoft Corp., and Alphabet Inc. — have collectively spent approximately $357 billion on capital expenditure (capex) and research and development (R&D) over the past year. A significant portion of this expenditure has been directed towards AI, accounting for nearly a quarter of the S&P 500's total capex and R&D spending.

"Today's hyperscalers will eventually be required to prove that revenues and earnings will be generated from their investments," said Ryan Hammond, a strategist at Goldman Sachs. "Early signs that may not be generated could lead to valuation de-rating." Amazon alone is expected to spend $63 billion on capex this year, up from $53 billion in 2023, while Meta and Alphabet are also set to reach record spending levels in 2024.

AI's Impact on Stock Performance

The excitement surrounding AI has driven US stocks to record highs this year, with Nvidia Corp. being one of the biggest beneficiaries. However, some investors are beginning to question the sustainability of this trend. While the AI frenzy is expected to continue influencing the market in the second half of the year, there is a growing belief that sectors such as infrastructure providers and utilities may lead gains for the remainder of 2024.

Despite the substantial investments, current AI spending "still pales in comparison" to the capex levels seen during the dot-com crash, according to Hammond. At the peak of the tech bubble, tech, media, and telecom stocks were spending more than 100% of their cash flows from operations on capex and R&D. Today, that figure stands at 72%.

Profitability and Sales Revisions

Expenses related to depreciation could pose a risk to profitability, Hammond noted. "As demonstrated in the tech bubble, sales revisions will be a key indicator for investors to assess the durability of the AI trade," he said. The upcoming second-quarter earnings season will be a critical test for the level of optimism built into investors' expectations. For instance, Nvidia's valuation remains above its 10-year average, despite analyst expectations that revenue growth will decelerate from 265% in Q4 2023 to 25% by Q4 2025.

Citi analysts also recommend that investors consider taking profits in high-flying AI stocks. "While, in aggregate, the group looks like it can meet high expectations, nearly 60% of the market cap weight of the basket have longer-term sell-side estimates that lie below what markets are pricing in for growth," said Drew Pettit, an analyst at Citi. This discrepancy could lead to increased volatility if companies fail to meet or exceed expectations.

Street Views

  • Ryan Hammond, Goldman Sachs (Cautiously Optimistic on US technology megacaps):

    "Today’s hyperscalers will eventually be required to prove that revenues and earnings will be generated from their investments. Early signs that may not be generated could lead to valuation de-rating."
    "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. Today, the total bill stands at 72%."