Why AI stocks aren't in a bubble

- Signs of green shoots in deal-making # # --------------------------------------------------------------- The key takeaways today: - Investors are navigating a fragile global economy - AI stocks aren't in a bubble 📈 - A conversation with the CEO of Renaissance Technologies - Most small rural businesses don't have the resources they need to grow - A lack of investment in metals could hinder the energy transition - Investor survey shows lingering worries about inflation - Brainteaser: Small businesses have a big impact Was this newsletter forwarded to you? ([Sign up now.]( --------------------------------------------------------------- As investors navigate a fragile economy, green financial shoots are emerging The transition to a higher interest rate environment is affecting large companies, private equity firms, and institutional investors in different ways, but they're all facing a trickier and more fragile global economy, according to Goldman Sachs' Jim Esposito, co-head of Global Banking & Markets. The private equity industry — which grew to about 40% of global merger volumes from about 20% a decade ago because of ample and cheap funding — is struggling to monetize portfolio companies against a weak IPO market and more-expensive financing environment, he says on the latest episode of [Goldman Sachs Exchanges](. The firm's corporate clients, however, are faring “incredibly well,” as their businesses do better than expected. Meanwhile, institutional investors, who started the year defensively positioned for a recession, are frustrated at missing the equity rally, as the economy and markets have shifted from a hard to a soft-landing narrative, he says. “The big thing on everyone's mind is: Can we come out of this period where central banks did things to markets that were never seen before?” Esposito says, referring to the immense stimulus that flowed from central banks following the financial crisis. “So far, so good, but I think we're still not all the way through with that project and until we get a little further along, I think there's going to be a certain amount of cautiousness and a certain amount of trepidation amongst the investing crowd.” A particularly uncertain geopolitical environment is also complicating matters. “When you look at the global economy, it's not performing in lockstep,” Esposito says. “There are big differences between how the US, Europe, Asia, China specifically, are performing at the moment. And so our corporate clients are having to navigate a much trickier and a much more fragile global economy compared to prior years.” Lately, though, companies and investing clients are starting to take on more risk. “We're just starting to see, call it green shoots of activity with financing conditions getting better and corporates starting to come to market,” he says. “And if these current deals go well, I do think between now and year end, you could see a material pickup in the deal calendar.” --------------------------------------------------------------- Why AI stocks aren't in a bubble The explosion of interest in artificial intelligence has fueled a major rally in technology stocks, with a concentrated group of large US companies leading the market higher. This slate of “early winners,” including makers of semiconductors needed to build AI technology and cloud service providers with the computing infrastructure to commercialize it, returned roughly 60% through the first eight months of 2023. [Even though these stocks rose, they don't appear to be in a bubble, Peter Oppenheimer, chief global equity strategist in Goldman Sachs Research, writes in the team's report.]( The valuations of the stocks leading the market are not as stretched as in previous periods, such as the dot-com bubble that collapsed in 2000, and the companies have unusually strong balance sheets and return on investment. These companies are already profitable and generate cash, so they can invest even in an environment of high interest rates. “We believe we are still in the relatively early stages of a new technology cycle that is likely to lead to further outperformance,” Oppenheimer writes.  While the success and eventual impact of an innovation can't be known at the outset, examining prior technology waves can help investors understand where winners and losers might be created as generative AI technology evolves. Goldman Sachs Research's PEARLs framework, which groups companies as Pioneers, Enablers, Adapters, Reformers, or Laggards, can help make sense of a technology cycle that is just beginning. --------------------------------------------------------------- A conversation with Renaissance Technologies CEO Peter Brown  In this episode of [Goldman Sachs Exchanges: Great Investors, Peter Brown, CEO of Renaissance Technologies]( shares his perspectives on his career, the role that machine learning and early generative language models have played in Renaissance's growth, and how the firm has navigated the market's most difficult and volatile periods.  Brown had an early interest in generative AI models. “I just fell in love with the idea that through mathematics, it might be possible to build machines that do what humans do,” Brown says. “I just loved the idea of exposing human intelligence to be nothing more than robotic computation.” After a stint at IBM, where he built an early version of a generative pre-trained language model, he joined Renaissance Technologies in 1993 with little experience in money management. From there, he and his partner Bob Mercer introduced modern computer science to Renaissance, starting with equities trading before branching into other parts of the business. Brown and Mercer continued to work closely until Brown took over as sole CEO in 2017. Renaissance Technology CEO Peter Brown Brown also describes what it was like at Renaissance during major market crises. In March 2000, after suffering losses on internet stock positions, Brown offered his resignation to Renaissance's founder and then-CEO, Jim Simons, who refused to accept it, saying that Brown was now “far more valuable” to him and the firm after having lived through that experience. “That response really tells you something about Jim Simons,” Brown adds. The flash crash, meanwhile, “was just another lesson in staying calm,” he says. “We saw trades being executed at absurd prices. We also noticed large delays in the price feeds. So, we sat out for a little while waiting for sanity to return. It did. And then we went back to business.” Brown explains how the firm almost exclusively hires people with zero background in finance. “We find it's much easier to teach mathematicians about the markets than it is to teach mathematics and programming to people who know about the markets,” he says. Looking forward, Brown expects markets to become more automated. “I'm pleased to see the plan to go to one-day settlement. I wished they'd move to continuous settlement. I'd love to see around-the-clock trading in all kinds of instruments. I'd like to see more securitization, tokenization, and more digital contracts.” --------------------------------------------------------------- Quoted at GS “In rural areas, people embrace you because you're an involved part of the local community. We do flavors for nonprofits nearby, we're part of the local festivals, we cater to numerous other businesses. Having that access to our neighborhood and communities is invaluable.” — Sally Mengel, Loblolly Creamery Small businesses are the backbone of rural communities, and yet they're often overlooked. According to a [Goldman Sachs survey]( 86% of small businesses in rural communities have plans to grow their business, but only 7% believe they have enough private-sector resources to do that. To help support these firms, Goldman Sachs' 10,000 Small Businesses program [is investing $100 million]( in rural communities across the country, enabling them to take part in the program's business education curriculum and helping to improve access to capital. --------------------------------------------------------------- Can the world transition to clean energy? Not without critical minerals A lack of minerals could prevent the world from reaching its emissions reduction goals, according to [Goldman Sachs Asset Management portfolio manager Vikrum Vora](.  Slashing carbon emissions would require two global shifts, Vora explains. The first is the widespread electrification of transportation, industrial processes, buildings, and heat. The second is the transition from fossil fuels to clean power sources like solar, wind, bioenergy, and nuclear energy. The problem? Both clean energy and electrification require more minerals than conventional energy, Vora says. “Electric cars need six times more minerals than gasoline vehicles, and solar and wind power are up to nine times more mineral-intensive than natural gas power,” he notes. The mineral requirements are staggering. In order to make enough progress to reach net zero emissions by 2050, production of lithium, copper, nickel, and aluminum will need to increase sixfold from 2022 production levels, according to Vora. While adequate reserves may well exist, “investments are lagging because of heightened geopolitical, operational, and financial risk,” he says. Vora says a three-part solution is required. “We need better policies at the country level, more efficient mineral use, and higher mineral prices.” --------------------------------------------------------------- September QuickPoll: Investors expect a soft landing as inflation worries persist Investors increasingly expect the US to avoid recession, but there are persisting concerns about inflation, according to the latest Marquee QuickPoll results, which surveyed about 1,000 institutional investors in early September. Almost half of the respondents expect the core PCE price index to fall below 3.6% by the end of the year, compared with July's 4.2% reading, though most investors recognize that sticky inflation is still a key risk. “The market will require both falling inflation and no weakness in consumption data to keep the [soft landing] narrative intact,” says Goldman Sachs' Oscar Ostlund, global head of content strategy, market analytics, and data science for Marquee in Global Banking & Markets. “An extension of the recent oil rally, in particular, could add pressure to both inflation and consumption prints,” he says. Investors also increasingly expect that economies in China and Europe will continue to slow, which could lead to outsized market reactions if there are positive economic data surprises out of EMEA or if the Chinese government announces more aggressive stimulus measures, Ostlund says. --------------------------------------------------------------- Briefings Brainteaser: Small businesses with a big impact Goldman Sachs' 10,000 Small Businesses program is investing [$100 million in US rural communities]( to help accelerate small business growth and job creation. What percentage of establishments in rural communities are small businesses? A) 50% B) 63% C) 75% D) 85% [Check the answer here.]( --------------------------------------------------------------- Goldman Sachs in the news [CNBC]( September 13 [Client sentiment and recent M&A data give us optimism in deal activity, says Goldman's Mehrotra (4:15)]( [CNBC]( September 12 [Stock market pricing in ‘soft landing' environment, says Goldman's David Kostin (4:26)]( --------------------------------------------------------------- --------------------------------------------------------------- Some of the images used in this newsletter are sourced via Getty Images. The data provided in this newsletter is for information purposes only and should not be construed as investment or tax advice nor as a recommendation to buy, sell, or hold any particular security. Goldman Sachs believes the data in this newsletter is accurate, but does not verify its accuracy independently and does not warrant or guarantee that it is accurate or complete. 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