(Bloomberg) — After 30 years on Wall Street, Jim Covello has learned how painful it can be to bet against a booming tech bubble. The market has a way of getting richer, month after month, even when it’s clear that the latest breakthroughs aren’t going as planned.
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That’s what happened with dot-com companies in the late 1990s and more recently with cryptocurrencies. And Covello, head of equity research at Goldman Sachs Group Inc., says it’s likely to happen with artificial intelligence, too, making it dangerous, if not downright stupid, to start betting against companies like Nvidia Corp.
And yet he has no doubt that the time for reckoning will come. It may not be this year, or even next year, but at some point, he says, it will come. The hundreds of billions of dollars that companies are pouring into AI, he says, will not spark the next economic revolution, nor will it rival the benefits of the smartphone and the internet. And when that becomes clear, all the stocks that have soared on that promise will fall, too.
“Most technological transitions in history, especially the transformative ones, have seen us replace very expensive solutions with very cheap solutions,” said Covello, who first made his name at Goldman as a technology stocks analyst. “Potentially replacing jobs with extremely expensive technologies is fundamentally the exact opposite.”
Covello is emerging as a leader of a small but growing cohort of market watchers who are casting doubt on a crucial tenet of the rally that has added nearly $16 trillion to the S&P 500 since late 2022: the idea that the dazzling power of big-language models will usher in the next great stage of capitalism, one in which corporate profits explode as more and more work is handed over to intelligent machines, increasing efficiency and accelerating growth.
There are many believers. Jamie Dimon, the chief executive of JPMorgan Chase & Co., has expressed confidence that AI will unleash extraordinary changes, potentially as transformative as those wrought by the printing press, the steam engine and electricity. Michael Arone, the chief investment strategist at State Street Corp., has said AI will unleash a “prolonged and unprecedented productivity miracle.” Even within Covello’s firm, global economist Joseph Briggs estimates that AI will eventually automate a quarter of all work tasks and drive the pace of economic growth.
That speculation has in turn sparked a concrete boom, with the world’s biggest tech companies investing heavily to extend their dominance into the new field. That’s been a boon for companies like Nvidia, Broadcom Inc. and Super Micro Computer Inc., which provide the hardware needed to power AI models. Even utilities have seen sales surge because of growing demand from power-hungry data centers.
The problem, skeptics say, is that commercial hopes for the technology may be greatly overblown, creating the risk of a stock market correction if tech Goliaths reconsider their massive investments.
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David Bahnsen, founder and chief investment officer of the Bahnsen Group, has been preparing for this scenario. He has avoided Nvidia and other big tech stocks, anticipating what he sees as a potential “disaster.”
“We make money by not being out of pocket when the last investor puts Cisco on the shelf in March 2000,” he said, referring to the computer hardware company’s stock plunge after the dot-com bubble burst. “A lot of people are going to lose money if they don’t get out.”
So far, there have been few signs of that. While technology stocks fell Wednesday on concerns that chipmakers could be drawn deeper into a U.S.-China trade war, they remain near all-time highs. Nearly half of the S&P 500’s gains since its October 2022 low have been in just six stocks: Apple Inc., Microsoft Corp., Nvidia, Alphabet Inc., Amazon.com Inc. and Meta Platforms.
Nvidia, which alone has added nearly $2 trillion in market value this year, remains one of Wall Street’s most popular stocks: 64 of the analysts who follow the chipmaker continue to advise clients to buy it, even after it has risen nearly 140% this year. Only one advises to sell.
However, the results of all these investments in AI have so far been relatively modest.
Microsoft, Alphabet, Amazon and Meta have collectively invested more than $150 billion in capital expenditures over the past four quarters, much of it for compute capacity to train their own large language models and run workloads for customers.
Microsoft, which has integrated OpenAI technology across its product line, said in April that AI services contributed 7 percentage points to a 31% expansion in sales of Azure and other cloud services in its fiscal third quarter, without providing a dollar amount.
Amazon, which is expected to have sales of more than $600 billion this year, has said only that its AI business will generate “multi-billion dollars in revenue.” On Alphabet’s first-quarter earnings call, CFO Ruth Porat acknowledged “an increasing contribution from AI” to Google Cloud’s revenue.
For bulls like Adam Gold, whose largest stake is in Nvidia shares, it’s premature to focus on some of these numbers. The Katam Hill chief investment officer notes that companies like Meta, which doesn’t charge users, are already seeing sales growth by using AI to improve ad placement and engagement algorithms.
“They are the best and smartest allocators of capital in the world,” he said. “They are building these data centers to increase their profitability over the next few years.”
For some customers of the cloud computing giants, the gains are less clear. In May, shares of Salesforce Inc. fell after the software maker reported its slowest quarterly sales growth in history, despite long touting AI’s potential to drive sales. Fewer than half of companies investing in AI have yet to see a significant return, according to a study by San Francisco-based Lucidworks.
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Covello doesn’t believe most people ever will. He has followed the ups and downs of the technology sector since joining Goldman in 2000 after stints at SG Cowen and Smith Barney. He specialized in semiconductor equipment companies, racking up accolades as the sector’s top analyst year after year, before being promoted in 2015 to director of equity research for the Americas.
To get an adequate return on the roughly $1 trillion investment in AI infrastructure he expects to see over the next few years, companies would need to be able to use it to solve increasingly complex tasks.
AI has shown it can make some jobs, like coding, more efficient, he said, but not enough to justify the expense.
If meaningful uses don’t start to emerge within the next year and a half, the stock market will reverse course, Covello warns. But he doesn’t think we’re there yet, as continued development should continue to draw investors to stocks like Nvidia.
“One of the most important lessons I’ve learned over the last three decades,” he said, “is that bubbles can take a long time to burst.”
–With the assistance of Alexandra Semenova.
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