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Goldman Sachs Unveils Roadmap for AI Boom: Nvidia Just The Beginning

Last Updated March 20, 2024 1:46 PM
Giuseppe Ciccomascolo
Last Updated March 20, 2024 1:46 PM

Key Takeaways

  • Goldman Sachs has categorized the artificial intelligence (AI) revolution into four distinct phases.
  • Goldman sees semiconductor-related firms, and software and services companies getting a huge boost from AI.
  • Nvidia leads AI sector but its forward price-to-earnings ratio has remained relatively stable over the past two years.

While Nvidia has undoubtedly been a standout performer in the artificial intelligence (AI) investing surge, soaring 73% this year, the realm of AI encompasses far more than just this prominent green-logo chipmaker.

In a report , Goldman Sachs outlines that the AI trade will evolve through four distinct phases, with Nvidia merely representing the beginning. GS has outlined four phases of the next AI boom, thus calming voices about an imminent bubble burst.

Nvidia Is The King

The AI boom era commenced less than a year and a half ago with the introduction of OpenAI’s ChatGPT, a generative AI bot that took the world by storm. This ignited a surge in demand for shares of Nvidia, whose AI-driven computer chips positioned it as the clearest beneficiary in the near-term AI landscape.

Despite the substantial surge in Nvidia‘s share price, its current valuation, as indicated by its forward-looking price-to-earnings ratio, has remained nearly unchanged. This is largely due to the rapid increase in its estimated earnings per share.

Nvidia cumulative change since 2022
Graph illustrates Nvidia’s share price returns (dark blue). Forward earnings per share estimates are in light blue. Forward price-to-earnings ratios are in gray. l Source: Goldman Sachs

While the current outlook appears promising, Goldman Sachs cautions that as companies grow larger, they often encounter challenges in sustaining rapid growth and maintaining high margins.

However, for now, it’s reasonable to enjoy the investing journey. Just bear in mind that even Nvidia will eventually experience a slowdown in its growth trajectory.

AI Infrastructures

Consider AI as a distinct ecosystem, bustling with various firms essential to its infrastructure. This encompasses semiconductor companies, whose chips serve as vital components for both training and utilizing AI. Within semiconductors, there are specialized segments including design firms like ARM, and fabless designers such as Broadcom and Advanced Micro Devices. Additionally, memory companies like Micron, and semiconductor manufacturing equipment providers like Applied Materials and ASML play crucial roles.

Beyond semiconductors, data center companies like Equinix own and operate physical spaces housing servers necessary for AI operations. Hardware and equipment providers like Vertiv supply the essentials for building and maintaining these data centers.

Utilities such as Duke Energy deliver substantial amounts of electricity to power these data centers, while cloud giants like Microsoft, Amazon, and Alphabet offer computing and data storage solutions vital for AI operations. Security firms like CrowdStrike focus on safeguarding data integrity.

Goldman Sachs analyzed these firms’ EPS estimates and P/E ratios three years ahead. It considered various unforeseen variables and recognized the multitude of factors influencing valuations and stock prices. The analysis uncovered promising investment opportunities among companies positioned below the ‘best fit’ gray diagonal line, indicating higher expected profit growth relative to P/E valuations.

Growth and valuation for median stocks
Growth and valuation for median stocks in the “Phase 2” categories. l Source: Goldman Sachs

For example, ‘foundry and integrated device manufacturers’ like TSMC, Intel, and Global Foundries show promising setups with strong expected EPS growth and modest valuations, positioned at the bottom right of the chart. Conversely, security stocks in the top right face challenges due to their high valuations exceeding 50 times earnings. Utilities, positioned at the bottom left, offer intriguing opportunities due to their undervalued status. But regulatory constraints may limit substantial gains.

Boosting AI Companies Sales

At this stage, companies poised to thrive are those seamlessly integrating AI into their product offerings to enhance their market offerings. Many of these are software and IT services firms, including Meta, MongoDB, Intuit, Nutanix, ServiceNow, and Uber.

Numerous software and IT services companies have already outlined their strategies for leveraging AI. Goldman Sachs surveyed the industry, identifying companies with high beta (or volatility) share prices that have been trending upwards alongside Nvidia’s.

Further narrowing their focus, they honed in on firms whose executives explicitly discussed AI in their most recent quarterly earnings calls with investors. This process yielded a curated list of top 15 companies.

Investors can opt to invest in individual firms or gain exposure to a diversified portfolio of software and IT services companies through an ETF. An example is the iShares Expanded Tech-Software Sector ETF  (ticker: IGV; 0.4% is the expense ratio).

AI Improves Productivity

In due course, the AI trade will pivot towards companies utilizing AI to enhance productivity across various industries, particularly those with higher labor intensity.

Software and IT services, as well as commercial and professional service companies, stand to gain the most. A significant portion of their workforce, comprising well-paid employees, could potentially be replaced by AI automation. This may leading to substantial reductions in labor costs. Match Group and News Corp. are highlighted as notable examples in Goldman’s report.

Phase four represents the broad adoption of AI across diverse sectors, promising significant shifts in operations. Goldman identifies software and IT services, along with commercial and professional services, as the sectors most affected. Here, the AI adoption drives labor productivity improvements and substantial wage cost reductions. The following chart illustrates the potential productivity gains across various sectors and industries.

The six-month median share price performance
The six-month median share price performance and forward valuation in Goldman Sachs AI portfolio strategy. l Source: Goldman Sachs.

To capitalize on AI’s fourth phase, investors can revisit the 15 companies identified in phase three. Or they might increase exposure to the iShares Expanded Tech-Software Sector ETF.

It’s crucial to recognize that we’re still in the early stages of AI development. While phase one standout Nvidia has delivered exceptional returns, gains have been witnessed across stocks from all phases of AI.

While higher risk may offer higher returns, choosing individual stocks and sectors involves more risk than investing in broader market indexes. Given AI’s potential to enhance productivity across various sectors and the economy, holding the S&P 500 via ETFs like SPDR S&P 500 ETF Trust  (ticker: SPY; expense ratio: 0.09%) or Invesco S&P 500 Equal Weight ETF  (ticker: RSP; expense ratio: 0.2%) could be profitable long-term strategies.


Please note that the contents of this article are not financial or investing advice. The information provided in this article is the author’s opinion only and should not be considered as offering trading or investing recommendations. We do not make any warranties about the completeness, reliability and accuracy of this information. Any investor, trader, or regular crypto users should research multiple viewpoints and be familiar with all local regulations before committing to an investment.

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