The biggest driver of headlines across the technology sector over the past year or so has been the proliferation of artificial intelligence (AI). Many of the world's biggest companies see a vast opportunity resulting from AI and are investing accordingly to stake their claim in the AI revolution. What some investors weren't prepared for, however, is the level of spending necessary to reap the windfall that AI is expected to unleash over the next few years.
With that as a backdrop, Microsoft (MSFT 0.17%) slumped 3.4%, Amazon (AMZN 1.00%) was off 2.5%, and Alphabet (GOOGL 1.98%) (GOOGL 1.98%) fell 2.2%, as of 1:05 p.m. ET on Thursday.
To be clear, there was very little company-specific news driving these so-called "Magnificent Seven" stocks lower today (more on that in a bit). This supports the conclusion that investors are reacting to the quarterly results reported by Meta Platforms (META 1.59%) and what it means for other big players in the AI space.
Image source: Getty Images.
You have to spend money to make money
Meta Platforms released its first-quarter report after the market closed on Wednesday, and while the results were better than expected, there was one revelation that caught investors off guard.
The company reported revenue of $36.4 billion, up 27% year over year. Expenses advanced at a more modest pace, growing just 6%. This benefited operating margins, which surged to 38%, up from 25% in the year-ago quarter. This also helped expand Meta's profits, as earnings per share (EPS) of $4.71 soared 114%.
The results easily surpassed expectations, as analysts' consensus estimates forecast revenue of $36.14 billion and EPS of $4.32. However, it was an update to the company's full-year spending plans that sent the stock reeling.
NASDAQ: MSFT
Key Data Points
Like its Magnificent Seven counterparts, Meta has been at the forefront of generative AI, eager to earn its part of the trillions of dollars the technology is expected to generate over the coming decade or so. However, "there ain't no such thing as a free lunch," as the saying goes, and these systems are costly to develop. Not only is there the cost of the AI models themselves to consider, but the data center infrastructure necessary to maintain them.
Meta has already created its large language model Meta AI (Llama) AI system, which is recognized as one of the top AI systems in the world -- but this is just the beginning. As CEO Mark Zuckerberg noted, "We're investing and scaling a new product, but aren't yet monetizing it."
As a result, Meta increased its full-year forecast for capital expenditures to between $35 billion and $40 billion, up from its previous expectations of $30 billion to $37 billion. Meta said, "We continue to accelerate our infrastructure investments to support our AI roadmap." Meta also expects capital spending to be even higher in 2025 as it works to capture the AI opportunity.
NASDAQ: AMZN
Key Data Points
United in the pursuit of AI
So what does this have to do with Microsoft, Amazon, and Alphabet? The common thread that weaves these tech stalwarts together is their AI aspirations, and each of the three has also been spending heavily in order to reap the rewards of AI. Fair-weather investors took Meta's AI announcement as an indication that big tech's AI-induced spending spree will negatively impact results -- but we don't yet have evidence to suggest that's the case.
Microsoft and Alphabet are scheduled to report their quarterly results after market close today, and Amazon is up next week, so some investors were selling preemptively in the event these stocks might sell off as well. Investors with a long-term outlook, however, will recognize that this is just the beginning of a multiyear profit opportunity, and volatility is the cost of admission.
Company-specific news for our trio of stocks was decidedly mixed:
- UBS analyst Stephen Ju maintained a buy rating on Amazon stock, but raised his price target to $215, which suggests 22% upside compared to Wednesday's closing price. The analyst sees potential for improvement in a broad cross-section of Amazon's business interests this year. This follows two price target increases by other analysts yesterday.
- Chinese hackers accessed U.S. government emails last year, something Microsoft could have prevented, according to a report by the Cyber Safety Review Board. The company has lost face and is working to rebuild trust in its systems, according to numerous reports.
- The potential for a TikTok ban, which was signed into law today by President Biden, could benefit Meta Platforms, Amazon, and Alphabet, according to a report in The Washington Post.
Investors would do well to step back and look at the big picture when it comes to AI. Analysts at Goldman Sachs Research suggest that as AI makes its way into business systems and the rest of society, it could generate as much as $7 trillion over the next 10 years. That's quite a windfall for the companies positioned to participate, which include Microsoft, Amazon, Alphabet, and Meta Platforms.
Data by YCharts
When viewed in the context of this significant opportunity, their valuations are compelling. Microsoft, Alphabet, and Meta Platforms are selling for 33 times, 23 times, and 22 times forward earnings, respectively, while Amazon is trading for roughly 2 times forward sales. Furthermore, all four stocks have easily outpaced the performance of the S&P 500 over the past five years.
Microsoft, Alphabet, Amazon, and Meta Platforms are all industry leaders on the cutting edge of AI. Investors should ignore the short-term volatility and buy the dip.
