Artificial intelligence (AI) has become one of the market’s most talked about investment themes, fueling both bold optimism and some skepticism across different investors. Depending on who you listen to, it may have the potential to drive long-term economic growth that transforms the way we live and work. Or it may be forming a bubble that may pop.
Whatever your perspective, AI is most definitely a complex, evolving topic with real risks, uncertain timelines, and notable volatility. Whether or not you decide to invest in it—and how much you ultimately decide to allocate toward it—should be based on a firm understanding of its investment potential, risks, and an understanding of how it may (or may not) help you achieve your goals.
Is AI a bubble?
Though AI has been a big driver of market growth over the last few years, there are many investors who feel they’ve seen this story before and know exactly how it ends. But at Strategic Advisers LLC, portfolio managers are more optimistic about the state of the market today.
“The ‘dot-com’ bubble of the late 1990s, where enthusiasm for the early internet eventually led to a significant decline in technology stocks, certainly influences people’s perception of the current AI boom,” says Naveen Malwal, institutional portfolio manager with Strategic Advisers. But he sees important differences between that late-90s market and today.
“First, let’s compare recent valuations to what took place in the early 2000s. If you look at the price-to-earnings ratios of technology stocks today, you can see that they are much lower than what we saw at the peak of the internet boom in the year 2000,” says Malwal. “And even though these stocks may be slightly overvalued relative to the S&P 500 at present, they are nowhere near as high as they were back then.” Malwal also notes that the expectations around earnings growth for the technology sector likely justify the higher-than-average valuations we are seeing.
“Ultimately, investors who are overly concerned about the potential of an AI bubble may be missing out on an important source of potential growth that could benefit their portfolios,” says Malwal.
What are the risks of investing in AI?
While there does appear to be potential value here for some investors, that doesn’t necessarily mean you should go all-in on artificial intelligence. The portfolio managers at Strategic Advisers are mindful of possible headwinds that could stifle AI’s ability to provide a meaningful increase in economic productivity.
“There are still a few potential obstacles to overcome here,” says Malwal.
“First of all, there’s a risk that the infrastructure necessary to facilitate AI development—the energy generation, the data centers—don’t get built quickly enough, delaying the economic impact of the technology.”
“Second, it appears that integrating AI into your business appears to be pretty complicated,” says Malwal. Right now, the companies making headlines are all larger, well-capitalized firms who have the budget to take a big initiative like this on. But most small- to mid-sized businesses don’t currently have the funds to make this shift or the human capital necessary to make it work.
“Lastly, there are the regulatory risks involved. We are beginning to see pushback against the construction of new data centers and power plants, as well as fear about the effects that AI may have on jobs. It’s possible that increased regulation as a result of these sentiments might slow or dampen the development of AI capabilities further.”
Given these potential concerns, Malwal suggests that though AI may be able to play a role in your portfolio, it may be incorporated into a well-diversified asset allocation. Balancing these investments with other domestic and international stocks and bond investments may be able to help mitigate some of these risks.
Learn more: 3 steps to building a more resilient investment portfolio.
How can someone invest in AI?
AI-related investments are a bit of a moving target and comprise more than just the big-name companies you may be reading about in the news.
“For the average person, it may be hard to pin down the appropriate investments,” says Malwal. “It’s not necessarily enough to just invest in big name tech stocks like the Magnificent 7 companies. That probably won’t provide you with comprehensive exposure to the whole AI story.”
There’s an entire constellation of related sectors and industries that contribute to the development of AI products and technologies including the utility companies that provide the energy necessary to power new innovations, industrials that build and support data centers and other infrastructure, and many others that may not be immediately obvious. To adequately gain exposure to “AI” as a theme may involve a substantial amount of research.
Who should consider investing in AI?
How much you decide to invest in these companies will depend substantially on your personal goals and situation.
What exactly are you trying to accomplish with your investing? Is there a clear objective you have in mind that you believe AI investments can help you achieve? Do you understand the potential risks involved in these investments and are you prepared to take them on? And does the timing make sense—is your time horizon long enough to reap the potential benefits from such an investment, or might you be disrupting a portfolio that’s already on track to meet your needs?
Mulling over these questions before you act may be critical. Just because an investment looks good doesn’t necessarily mean it’s good for you.
So what kind of investor might find the most benefit from AI-related investments?
If your objective is capital appreciation and you hope to help ensure that your portfolio has enough growth potential to reach your long-term goals, it may be wise to include some amount of AI-related investments in your portfolio. “AI-related companies have been a significant contributor to market growth in the last few years and are expected to continue to offer strong growth potential in the years to come,” says Malwal.
But the emphasis here is on the long term. The impact of artificial intelligence on the economy may not be felt for some time—perhaps years, or even decades. While some AI boosters are predicting an imminent economic transformation, many analysts expect it to be a more gradual process. Research from Fidelity’s Asset Allocation Research Team has found that, historically, the adoption of new technologies has been slow and methodical, especially when those technologies required workers to develop new skillsets and businesses to modify their business practices. In some cases, it took as long as 20 years for a new technology to achieve just 50% adoption.
In the short term, investors should be prepared to endure regular bouts of volatility among AI stocks. There is still a lot of uncertainty about the implementation of artificial intelligence and whether it can deliver the economic and productivity gains that some are predicting. As new models are developed and new innovations come to the fore, money may flow in and out of different companies as the market seeks to find the most viable investments.
The bottom line on investing in AI
“If you are seeking portfolio growth, have a long time horizon, and a high tolerance for risk, then it may make sense to include some exposure to AI-related companies in your portfolio,” says Malwal. “However, it may not be as simple as just picking a few companies and calling it a day. The AI market is constantly evolving. And while you could try to stay on top of all the changes, this may be a place where the guidance of a financial professional may be worth considering.”