-
According to Vanguard, investors are too optimistic about the near-term prospects of AI.
-
Companies would need to achieve 40% annual earnings growth over the next three years to meet valuations, the company said.
-
“This is twice the annual rate of the 1920s, when electricity lit the country,” Vanguard wrote.
While tech companies are still pushing the boundaries of artificial intelligence, the market seems endlessly excited about it.
But this enthusiasm expects too much from the technology in too short a time, Vanguard wrote on Thursday.
Wall Street is awash with optimistic predictions about what AI could do for the economy and corporate profits, most of which are tied to an American workplace revolution and a productivity boom.
That optimism has contributed to a surge in stock prices: the benchmark index, the S&P 500, is up 18% this year through Thursday.
However, Joe Davis, chief economist at Vanguard, thinks expectations are too high, saying stocks are overvalued even if the AI boom plays out as expected.
He estimates that U.S. corporate profits will need to grow 40% annually over the next three years to justify where the stocks are trading now. For comparison, the S&P 500’s trailing one-year earnings growth through the second quarter of 2024 was 10.9%, according to FactSet data.
“I am optimistic about the long-term potential of artificial intelligence to drive big gains in worker productivity and economic growth,” wrote Joe Davis, global chief economist. “But I am pessimistic that AI can justify high stock valuations or save us from an economic downturn this year or next.”
He continued: “This is double the annual rate of the 1920s, when electricity lit up the country — not to mention boosting economic output and corporate profit and loss accounts.”
Such a historic surge in corporate performance looks even less likely if the economy slows next year. Vanguard expects GDP to grow by just 1% to 1.5% in 2025.
It’s not that the investment firm lacks confidence in AI’s potential — its research suggests a 45% to 55% chance that AI will spark an explosion in labor productivity. That could drive 3.1% annual growth in real terms in the U.S. between 2028 and 2040.
But investors should abandon any ideas that this will happen immediately, Davis said. While companies have invested billions to improve their position in the sector, some market players are mistaken if they think AI investment will reach $1 trillion in the near term:
“$1 trillion in AI investment by 2025 would require 286% growth. That’s probably not going to happen, which means we’re unlikely to see an AI-driven economic boom in 2025,” he said.
Some on Wall Street are much more pessimistic. BlackRock has said there’s a strong chance that heavy AI spending will trigger higher inflation before a manufacturing boom can happen, which could undermine corporate profit growth.
Read the original article on Business Insider
