AI Bubble?

I’m a firm believer in AI, and in a broader sense American Capitalism. The market’s recent performance has raised questions if there is a current AI bubble, as valuations have sky-rocketed in AI-related stocks such as Nvidia, which makes the question fair. In my opinion, there are two reasons why there is not an AI bubble. Balance sheets and interest rates.

Balance Sheets

What separates the introduction of AI from the .com bubble is the companies using AI are profitable and have loads of cash on their balance sheet. The .com bubble was filled with IPOs of companies that had no profitability but were able to get funding because of a low barrier of entry coupled with high investor sentiment. Currently, companies like Apple, Microsoft, and Nvidia dominate AI, which implements a huge barrier to entry. These companies and their stockpiles of cash can out-research any start-up or buy any startup as seen in Microsoft’s acquisition of OpenAI.

Interest Rates

I would argue that, through the lens of AI implementation, higher interest rates are beneficial for the companies listed above. Their balance sheets are huge, a Fed funds rate of 6.5% does not matter. Higher fed funds rates make borrowing more costly for AI companies that are not profitable. This adds to the barrier of entry for companies looking to get into the AI space. A rate cut may change this thesis, and why I believe the Fed will be reluctant to cut.

Conclusion

AI is at the forefront of the market and has done a lot of heavy lifting in the markets. This does not fall under the umbrella of a bubble nor is it similar to the .com bubble. Nvidia is the most anticipated stock in regards to AI, and currently has a P/E ratio of 80. It is high, but at the peak of the .com bubble, NASDAQ stocks traded at an average P/E ratio of 200. The market has a ways to go in terms of digesting AI, the ingredients of a bubble are currently not present.

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