Stocks were mixed yesterday with the Dow falling once again while debt ceiling talks made slow progress. But the star yesterday was Nividia# which soared over 25% after issuing forward looking earnings guidance far above expectations. Bonds continued to fall as fears of default increased. While few expect an actual default to occur, market disruptions associated with a pending flood of new Treasury issuance are impacting the bond market.
Over the past 50 years there have been very few defining moments. In the technology world, at least in my mind, three stand out. The first was the introduction in the early 1980s of the personal computer. While there were crude devices earlier, IBM’s PC introduction changed the world. Suddenly computing power was available to everyone at an affordable price. The second was the iPhone earlier this century. It is hard to believe the iPhone is barely 20 years old. Cellphones had been around for quite some time but the iPhone converted the portable telephone into a portable computing device. Where would we be today with Instagram, Google Maps or Open Table without the Iphone? The third is just upon us, now capsulized in ChatGPT, the first reasonable substantive version of what has been called generative artificial intelligence. We can see its power. The media also has fun showing its immaturity. But one thing is certain. Generative AI (I’ll use gAI as a short name) is going to open whole new worlds and vastly improve productivity.
The power behind gAI is the high-powered semiconductor chip and the world leader is Nvidia. Just one quarter ago, Nividia reported so-so earnings noting weakness in data centers, gaming and crypto mining. But in just three months, the whole world has changed. Every major tech company that writes software suddenly is racing to incorporate more intelligence into their products. Just as you can tell a computer to write a paper explaining the implications of raising the debt ceiling, a video game creator will be able to offer multiple plots depending on how you navigate the voyage. Search will get more intuitive and accurate. That means Google will be able to charge more for ads because they will target the right recipients more accurately. Every major cloud provider will quickly incorporate gAI tools. The same goes for social media, word processors, animation creators, and photo studios. Early on, gAI will make mistakes, but it will get better over time.
When the iPhone came out, one could see the opportunities. But could you imagine that just by saying the name of your destination, your phone could map out the route, avoid accidents, and point out gas stations along the way? Only the scope of our imagination can limit what gAI can do. Artificial intelligence, a true oxymoron, has been around since the start of computing. As computers have gotten more powerful, they have done more.
But gAI is a leap forward, just as the PC put true computing power on the desktop and the iPhone but it in your pocket. McDonald’s has supplanted order takers with kiosks. Soon you will be able to say, “I want a Quarter Pounder with cheese and no pickle plus a medium Diet Coke” and the machine will tell you “proceed to the next window”. More labor savings; more time savings; lower cost.
As with any new technology, there will be fears. Computers lack a conscience. They will do what you tell them to do. Misuse opportunities are obvious. But they are always obvious when new technology arrives. Just as a huge cybersecurity industry was developed, there will be responses built to rein in unwanted uses of gAI. But that isn’t within the scope of this letter. One thing is certain. Regulators can’t stop technological change. One can’t outlaw fast chips or development tools that save 40% of the time needed to complete a project. When I was a business school student, standard deviation equations were done by hand. Today, I press a button and the answer appears instantaneously. I don’t know the formula but I do know what it means. There will be regulation and constraints. But they won’t stop the rapid development of breakthrough technologies.
What was so stark within Nvidia’s earnings announcement was the speed of adoption. To use gAI requires massive computational power. Nvidia isn’t the only company making fast chips but it is the leader. The largest tech companies, like Apple# and Microsoft#, just to name two, now develop their own customized chips to reduce cost, increase capability, and focus exactly on the abilities they want to solve. To do that, they need the best software design tools. Companies that manufacture these chips (Apple and Microsoft don’t have their own foundries) need better equipment to make chips with line widths as small as 3 nanometers. New software companies will grow up overnight using OpenAI tools. Some will even develop their own. In just two years, there will be a revolution.
There are obvious beneficiaries. Games will get more exciting. Animated movies will come faster and be awe inspiring. Computer applications will get more intuitive and accurate. These and all the other uses you can imagine will need greater computing power and ever faster semiconductors. As more users develop more applications on the cloud, cloud providers will require greater power and better tools. The race has suddenly gotten faster. Literally every software product will announce the incorporation of gAI features. Tomorrow’s leaders may include some of the same names we all know today. But there will be new gAI giants that probably don’t even exist today. Google didn’t invent search and Facebook didn’t invent social media.
The benefits don’t stop with the tech industry. Want to find the perfect home? If you ask the right questions, not just the number of bedrooms and bathrooms, but all the other features in your head, the computer will quickly spell out the answers and show you pictures. gAI will be used in everything with a plug. Tell your oven you want a 12” pizza and it will set the time. The only limits are your imagination.
What I am telling you this morning isn’t new. What’s new is the rapidity of change. Everyone learned that yesterday. I am not telling you what companies will benefit but there are obvious winners. And there are obvious old-line companies that will get left behind. All the companies that made mini-computers died after the PC arrived. With everyone chasing the same stocks, investors will have to make valuation judgments. Stocks don’t go up or down in a straight line. The best opportunities may come from second derivative ideas, companies that incorporate gAI to competitive advantage. The world is changing fast. Investors who want to participate have to anticipate these changes.
Before ending, I can’t ignore the debt ceiling debate. Today starts the long Memorial Day weekend. Negotiators will work on the details all weekend. Right now, consensus assumptions say there will be a deal by the time markets reopen Tuesday. If there isn’t, Tuesday will be ugly. Even if there is, there will be loud screaming from both the far left and far right that their leaders sold out. Getting to the finish line will be a struggle. But they will get there because the alternatives of not getting there are worse. Even if they arrive a day or two late, it won’t be a catastrophe. The issues will be dealt with. That doesn’t mean there aren’t risks. Treasury will have to issue an above normal level of bonds while the Fed keeps reducing its balance sheet. Yields could rise further as a result. Rating agencies might lower the U.S.’s credit rating even if a deal is reached. Default has become a real risk and it’s the job of rating agencies to define those risks. But Armageddon should be avoided. Enjoy the weekend.
Today, Lenny Kravitz is 59. Stevie Nicks turns 75.
James M. Meyer, CFA 610-260-2220