The rise of artificial intelligence (AI) stocks and machine learning technology has been the talking point of stock markets for almost two years. And in fact, many AI stocks have appeared in our round up of the top stocks, funds and trusts investors buy each month.
Generative AI chatbots like ChatGPT and Google Gemini (formerly Bard) triggered a frenzy of investor activity that has driven the stock market, particularly in the US, to all-time highs. Elon Musk, who is the richest person in the world, wants investors to think of Tesla (NASDAQ:TSLA) as an AI stock, and Mark Zuckerberg has pivoted Meta (NASDAQ:META) away from its eponymous metaverse aspirations.
Advocates say that AI will revolutionise nearly everything, from drug discovery to cybersecurity. Detractors, however, warn that it risks putting white collar workers out of work, and caution that its safety, environmental and privacy implications outweigh the potential positives.
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“While AI looks certain to transform many areas of our lives, the stock market winners and losers from it are more difficult to predict,” Ed Monk, associate director, Fidelity International, tells MoneyWeek.
Nvidia (NASDAQ:NVDA), which makes the industry-leading GPUs that power AI technology, has emerged as an early winner, going from a market cap of under $400 billion to the world’s most valuable company at over $3.6 trillion in just two years.
However, these elevated valuations leave “less room for gains in the future”, according to Monk. Buying at elevated valuations is the key risk AI poses to investors.
The bullish argument is that, as George Lee, Goldman Sachs Global Institute co-head, told CNBC in September, the AI boom is still in its early innings. As the theme matures, more stocks will come into focus, offering new avenues for investors to grow their wealth.
Grand View Research valued the total global AI market at $196.63 billion in 2023, and projects a compound annual growth rate (CAGR) of 36.6% from 2024 to 2030.
Disruptive technology investor ARK Invest outlines four layers of the AI value chain:
- Compute (chips) – the products that provide the computing power for the training of AI models;
- Infrastructure-as-a-service (IaaS) – the cloud services that allow businesses to access AI resources remotely and on-demand;
- Platform and infrastructure software (PIS) – the tools and platforms that enable developers to build, deploy and manage AI applications;
- Software-as-a-service (SaaS) – the AI applications that are used by end users.
“For AI, the hardware phase laid the groundwork, but software advancements in areas like PIS and SaaS now play a crucial role in delivering value,” say Rahul Bhushan, Managing Director at ARK Invest Europe, and Thomas Hartmann-Boyce, Client Portfolio Manager at ARK Invest.
Here, we showcase four stocks, from outside the ‘Magnificent Seven’ group of AI-linked megacaps, that could be the big winners from the next phase of the AI cycle.
4 AI stocks to consider
1. Palantir
Palantir (NYSE:PLTR) was one of the most-traded stocks on US election day, according to AJ Bell, and ARK Invest singles it out as a key example stock for investors hoping to play the PIS trade.
Palantir is a data management and analytics company by trade, but over recent years it has built a strong level of automation and AI-driven insight into its product suite. Businesses use its software, for example, to wrangle large, unstructured datasets.
Additionally, Palantir has extensive contracts with the US military. In this sense it is a play on the defence sector; this could explain why the stock received so much attention as markets digested the geopolitical implications of a second Trump term.
Equally, however, co-founder Peter Thiel and advisor Jacob Helberg were both strong supporters of Trump’s Vice President-elect, JD Vance. Investors may have been betting that its business will benefit from having someone so closely connected in such a senior role from January.
Fundamentally, though, Palantir “is positioning itself as the operating system for government and enterprise AI applications”, says ARK Invest.
One catch: the stock has nearly tripled over the past year, and currently trades at 143 times expected earnings.
As Monk points out, high valuations don’t mean they can’t prove worthwhile investments, “only that earnings have to come through as expected” and continue growing years into the future.
Everything seems stacked in Palantir’s favour, but at its current valuation it is a risky play that should be approached with the very-long term in mind.
2. Vertiv
Vertiv (NYSE:VRT) has also gained nearly 180% over the past year, but this has brought its forward P/E to a comparatively reasonable 35.46. A five year price to earnings growth ratio of 1.14 is also reasonable for the AI space.
Vertiv provides power, cooling and infrastructure services to data centres, which are the engine rooms of the AI juggernaut.
Whilst still an infrastructure play, Vertiv stands to benefit from the expected increase in data centre demand that the AI boom is driving, without being directly affected by potential semiconductor supply disruptions in the way Nvidia could be.
3. Palo Alto Networks
When it comes to cybersecurity, AI has a dual impact.
Sadly, it is as readily available to fraudsters and cyber criminals as anyone else. Phishing and voice cloning using AI-augmented tools are two forms of AI scams that the technology makes possible. The upshot is that AI’s existence makes the need for strong cybersecurity services greater, and this effectively increases the demand for cybersecurity products.
On the other hand, the producers of cybersecurity products can themselves harness the power of AI in combating these threats, and Palo Alto Networks (NASDAQ:PANW) is a perfect example of this.
It uses AI to identify what normal activity looks like in a given IT system, and then to flag and identify discrepancies immediately as they happen.
4. Volex
The UK has some skin in the AI game too. Arm (NASDAQ:ARM) is a Cambridge-based semiconductor company with a strong reputation in the AI chip industry, while cybersecurity firm DarkTrace is, like Palo Alto, a leading exponent of AI-driven cybersecurity. Sadly, though, Darktrace de-listed from the LSE in October when it was acquired by Bidco, so its shares are no longer publicly traded.
UK investors looking for a UK-listed AI play might therefore consider Volex (LSE:VLX). Volex produces cable equipment, including power cables and cords for use in data centres. Like Vertiv, then, Volex offers exposure to any potential increase in data centre demand without being directly at-risk from semiconductor supply issues.
Volex is attractively priced compared to its US counterparts, too, currently trading at less than 12 times expected earnings.
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