Analyst Petr Lajsek: Another bubble, AI bubble, may be emerging in the markets
There is one new trend prevailing in the markets, the AI boom, which is the focus of analyst Petr Lajsek, who told me the reasons why we may be experiencing an AI bubble.
I'm going to ask you to give a short introduction for our investor community, as this is the first interview with you for our website.
Hello, first of all I would like to thank you for requesting this interview. I've been following Bulios for a long time and I'm happy to see how you've managed to grow. I've been in the financial markets since 2014, first I started by trading forex according to technical analysis, then gradually I also started investing in stocks and ETFs. I am a senior analyst at the broker Purple Trading. We can boast that our clients are among the most profitable in the EU in the long term. As a result, in 2021 and 2022 we were named among the top 3 brokers in the Czech Republic, Slovakia and Poland.
You recently tweeted: "Is an AI bubble coming?" This thought has been on my mind lately as well, could you tell us something about it?
Yes, I will definitely recommend readers to follow my twitter @petrlajsek. First, I'd like to mention that I'm really very surprised at how quickly AI is being adopted. The launch of ChatGPT seems to have started a huge revolution in this field and many more people and companies are interested in this field. The amount of new tools is growing like mushrooms after the rain and a certain bubble is probably already forming in the stock markets and among startups. My post on Twitter was about how easy it is to get seed investment from VC funds if you are in the AI business. Just put on LinkedIn that you dropped out of Stanford, studied IT and are now starting an AI company. Then the offers from funds just pour in... That was all hyperbole, of course, but there may be some truth to it.
C3.ai, Inc.
AIMoreover, stocks of companies that add "AI" to their name are experiencing a huge boom. A "shining" example is C3.ai $AI-0.9%, a company that creates artificial intelligence software. Its stock is up more than 100% since the beginning of the year, and the peak was even higher than 300%. Other rocketing stocks from the AI world include SoundHound AI $SOUN+3.7%, BigBear AI $BBAI-1.8% and GuardForce AI $GFAI. Also popular will be companies that manage to make significant cost savings through AI, such as Buzzfeed $BZFD-3.7%. So far, it's reminiscent of a similar frenzy during the heyday of Wall Street Bets. It's quite possible that a similar investor tip is behind this.
"Quite possibly, though, we have another bubble emerging in the markets."
Could the AI bubble fuel the giant interest of investors who want to be invested in the sector at any cost?
Absolutely, big stock bubbles generally have 5 important phases. The first is some event that causes a revolution - like the internet in the dotcom bubble, CDOs in the great financial crisis. The next is the media stirring up that revolution, followed by FOMO among investors who want to snap up cheap stocks before they become, say, the next Alphabet $GOOGL-2.0%. The penultimate phase is the loss of rationality - skyrocketing valuations of companies that "just rub off" on that revolution. The last one is the inevitable collapse.
What stage do you think we are in now? Is the revolution just beginning or are we already in phases 2 and 3?
Maybe we're in all phases at once. The moment when AI companies start proliferating among the Super Bowl commercials could be a pretty interesting indicator. Then maybe it's time to put our feet on our shoulders. Implementing AI into companies like Microsoft $MSFT-2.4%, Alphabet $GOOGL-2.0% and Amazon $AMZN-1.7% is certainly a big plus and could help them thrive for the rest of the century. AI development can also be "gamed" through chip makers like Nvidia $NVDA+3.7%, who will be key to the industry's development. However, I would be very cautious with lesser known companies that have newly added AI to their name or just entered markets through, say, SPACs. And in my opinion, there will be a lot of them coming very soon. There may even be some thematic ETFs purely focused on AI. For many companies, unfortunately, there is not even enough information for proper due diligence. So it's better to allocate a smaller part of capital to something like this and treat it more as pure speculation.
Do you see any similarities in this regard that predate, for example, the dotcom bubble?
Yes and no. The dotcom bubble was quite specific, at that time, virtually all companies that were on the internet were growing massively. The really big and profitable tech companies were like a bunch of saffron back then. Giants like Google and Amazon were still in their infancy then. Companies like Facebook didn't even exist then. So between 1995 and 2000, the Nasdaq Composite rose by almost 500% (some stocks even rose by thousands of percent during 1999 alone) and the peak P/E was as high as 200. That's miles away from current values, with the Nasdaq's current P/E being around 24. While the index also rocketed before the end of 2021, so did the earnings of the largest tech companies. The situation could change significantly as interest rates fall and risk-on sentiment returns more strongly to the markets. The dotcom bubble, after all, was created because too many people wanted to invest in the internet too quickly. Then I would expect that just the valuations of companies around AI may rise significantly and a bubble of sorts may form.
If we're talking about a bubble, do you think that the aggressive Fed policy, the banking crisis and maybe the commercial real estate crisis may accelerate this whole process?
As far as the banking crisis is concerned, there were several banks that failed and were not well prepared for interest rate increases. On the other hand, the big US banks have benefited from this and have seen a large influx of deposits. If we look at their Q1 results, most of them are very positive. In a few places I have seen comparisons to the great financial crisis, but that is not very accurate. Then the banks' problems were on the asset side, now they are on the liability side, with a huge outflow of deposits from small and medium-sized banks. As far as Fed policy is concerned, it can certainly be described as aggressive, but the aggressiveness was misplaced. But more on that in the next question. However, I don't think these factors will somehow precipitate the bursting of a potential bubble. There is, of course, a question as to whether a bubble is forming in the market at all.
Moving on to the macroeconomics now, we have seen inflation (CPI and PPI) surprise with slightly better than expected results. However, the labour market remains relatively strong. Do you think the Fed can bring inflation down without crippling the labor market or causing a recession?
Headline inflation in the US is definitely receding at a satisfactory pace, but the core one has a harder core as expected. Thus, it is currently even higher than the headline one on a YoY comparison, clearly showing that the drop in inflation was related to the fall in energy prices. For interest rates, I expect just one more 25bp hike, and the market agrees. Unlike the market, however, I think the Fed will keep interest rates high for longer. While most of the market expects 2-3 cuts by the end of the year, that would surprise me a lot. The labor market is definitely still very overheated, even though there are signs of cooling here too - see the decline in the pace of wage growth and higher unemployment claims. The Fed itself probably needs to paralyse the labour market a bit to bring inflation down to target. For example, the NY Fed's John Williams expects unemployment to hit 4% this year and as high as 4.5% next year. As for a recession, the Fed may already be counting on a mild one in the second half of the year. At least those are the hints in the latest Fed minutes. The question then is what is meant by a mild recession. If we are talking about two consecutive quarters of negative GDP growth, we already had such a situation in the first half of last year. During the second half, there was considerable volatility in US equities and the S&P 500 then ended the year at similar levels to the half-year.
Do you think the Fed will get to its inflation target later this year? And could the recent oil production curbs by the OPEC+ group once again weigh on the US and its battle with inflation?
I see this as highly unlikely. Around 2% inflation in the US could be around in the second half of next year. It was OPEC+ that dealt the US a blow when it deepened its oil production cuts. We have thus seen a significant rise in oil prices in the market, which is gradually feeding through to fuel prices and thus having an inflationary effect. In this case, the US Michigan Inflation Expectation Index, which is regularly produced by the University of Michigan, is interesting. It relates to households' inflation expectations over a 12-month horizon. It is because of oil prices that this index rose significantly to 4.6% at the end of March, whereas 3.5% was expected. Oil is thus once again a political weapon that makes the Fed's job more difficult and casts a bad shadow over the Joe Biden administration. So I would expect another release of oil from the US strategic reserves soon to bring the oil price down slightly. The problem, however, is that the Americans don't have much left to take - strategic reserves are at 40-year lows.
I would move on to earnings season, where the big US banks recently reported their numbers. I was (at least for myself) pleasantly surprised by the solid growth. How was it possible that the big banks excelled so much while the smaller banks suffered recently during the crisis?
Yes, with the exception of Goldman Sachs, the results so far have been more than positive. Quite often the rule of thumb is that as US banks report, the whole earnings season follows. Let's see :) I'm not too surprised though, especially the big commercial banks are now benefiting from the high level of interest rates and the influx of new deposits. Ironically, it was the crisis of smaller and medium sized banks that was a plus for the big ones. Clients used them as safe havens, and it is precisely because of these "runs" that the smaller banks are in trouble. Virtually all segments, including investment banking, have done well for the big banks, which is quite surprising. But it's true that 2022 was pretty subdued from that perspective, and a lot of IPOs and M&A operations waited until this year.
Do you think we can expect similarly good results from smaller banks, or are there still lingering risks and uncertainties?
I think the deposit outflow in March must have had at least a partial impact on the results of smaller and medium-sized banks. At the very least, interest income will be lower than it would be in a normal situation. As I mentioned above, I do not think that the banking crisis will become a national or even global crisis. Rather, there has been a separation of the 'weaker pieces' from the herd. As for Credit Suisse $CS+1.0%, it has been in trouble for quite some time. Among the smaller and mid-sized banks, I would perhaps expect to see mergers to pick up in the coming quarters. At the moment, however, ordinary investors need not panic.
In the last section, I'd like to focus on your portfolio and your investment approach. Can you describe it for us?
I would divide my investment approach into three categories. The first one is long-term equity positions - I try to build a portfolio where I have both large technology stocks, dividend titles, also some defensive stocks. Next, I actively trade, especially in a swing way. I tend to move on higher time frames and I hold trades for the long term as well. The most interesting market for me here is definitely oil, where there is huge volatility and something is always happening. Since I regularly follow world events and fundamentals, it gives me quite an interesting edge. I trade US indices or forex in a similar way from time to time. Recently the pairs with CZK have been quite interesting due to its appreciation and high interest rate differential. It's also a form of hedging for me. From time to time I also enter some speculation on the rise or fall of a particular stock. Then the third category is regular purchases of ETFs that are focused on US indices. I choose funds that reinvest dividends - over the longer term this can make for quite interesting yield increases or dampen declines.
Finally, I'd like to ask you what is your favorite stock and why is it that it ranks among your top?
My favorite stock is probably Occidental Petroleum $OXY+0.8%, which I have held for almost 3 years. I have to say it's also one of my most profitable positions. I bought in the second half of 2020 and since then the capitalization has multiplied several times. At the time I was doing research for an article I was writing on Forbes and OXY literally jumped out at me. It was a combination of an interesting valuation, the expectation of a better tomorrow in the post-coronavirus oil market, and the company's privileged position itself in the Permian Basin, where it is the largest producer after buying Anadarko Petroleum. I was further reassured in my decision by Warren Buffett, who has been buying up OXY shares heavily of late and there are even rumours of his full takeover of the company. Currently, the stock is almost 20% below its yearly high and continues to look attractive thanks to the interest of the "Oracle of Omaha" himself. In addition, I expect higher demand for oil in the second half of the year, and the still limited OPEC+ production may mean that black gold will rise back above USD 100 per barrel. OXY shares would of course benefit from this.
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Please note that this is not financial advice.
