Motley Fool Hidden Gems Investing - Chinese AI Just Made History

Starting point is 00:00:00 Chinese AI just made history. We're listening to Motley Fool Hidden Gems Investing. Welcome to Motley Fool Hidden Gems Investing. I'm your host today, John Quast, and I am joined by Foolish contributors, Matt Frankel and Rachel Warren. Today on the show, we have multiple topics. We're going to be talking about that lead Chinese AI. We're also going to take a question from the mailbag regarding digital advertising. But first, we want to talk about what happened yesterday. Millions of soccer fans around the world watched Spain defeat Argentina in the World Cup final. And I think that we were all just moved throughout the tournament as many people from around the world visited North America and shared their experiences online. That was so much

Starting point is 00:00:49 fun. But one of the things that maybe we didn't hear about was how much the World Cup has really propelled adoption for the predictions markets. Kalshi specifically said that they got 3 million new users during the World Cup. So clearly that is pushing this whole space forward. And Rachel, I want you to talk about where we're at competitively in the prediction market space, because you have companies such as DraftKings and FanDuel out there, but you also have Meta looking to get in on this space. So what can you tell us about how this market is growing and how these companies want to profit

Starting point is 00:01:28 from it? The trading activity that we saw around the World Cup final with Spain's victory over Argentina, that was one of many examples we've seen that sort of are serving as proof of concept for sports event contracts, which if you're not familiar, these essentially treat match outcomes like peer-to-peer financial derivatives rather than traditional sport wagers. So Kalshi, which you mentioned john they cleared about 1.9 billion dollars in trading volume on the final match alone so to understand exactly how this works and where it differs from say traditional gambling so traditional gambling tends to involve an individual wagering directly against a bookmaker for example who profits from their losses event contracts like these operate as an exchange where peers trade

Starting point is 00:02:12 financial derivatives against each other and then the platform collects a flat transaction fee so calci for example now because these contracts are legally classified as commodities they actually fall under the jurisdiction of the commodity futures trading commission or the cftc instead of state gaming boards and that's a very important distinction because it essentially allows these prediction markets to bypass the state-by-state licensing laws and heavy gaming taxes that the traditional sports books have been forced to navigate obviously there are some vulnerabilities in these business models you know you tend to see trading volumes and even liquidity plummet once some of these cultural events wind down.

Starting point is 00:02:50 But you're seeing a lot of the big tech and legacy sportsbook players deploy kind of their own opposing strategies to try to capture and retain the user engagement that they're seeing these platforms like Kalshi and others capitalize on. So talked about recently how meta platforms, they're entering the space with their internal application

Starting point is 00:03:08 that they code named Arena. This is essentially an AI-driven non-monetary framework. And because of that, they're able to bypass really strict financial compliance rules and capture engagement data from their billions of users and avoid a lot of the regulatory friction. You've got the traditional players like DraftKings and FanDuel, which you also mentioned, John, they're dealing with severe margin compression right now. They're launching their own low fee event contract products to try to really protect those embedded customer bases from churning to those lower cost financial

Starting point is 00:03:42 platforms like the Kalshi's of the world. So we're seeing this shift towards event contracts, if you will. That's the term. Very much this asset light exchange model. I mean, this is a market that's expected to approach a trillion dollars by the end of the decade. So there's a lot happening in this space and a lot to watch whether or not you participate in it. Matt, I wanted to bring this topic to the table today because of a Kalshi study that came out fairly recently, and it really bothered me personally. So according to the study that Cauchy released, 89% of people say that buying stocks or mutual funds isn't gambling. Okay. Now that's fine. But the majority of the people in the study also felt like predicting on the outcome of events, like what we're talking

Starting point is 00:04:27 about, such as Spain versus Argentina, predicting the outcome. Most people also view that as not gambling. And that's such an interesting thing. So for most people out there, according to this study, they would view it fundamentally the same, investing $100 in the stock market and betting $100 on the outcome of an event, such as Spain winning. And what I want to talk about here with you is what do you think about that? Is it fundamentally the same thing or is it different? Because I think for some people, the idea is I have to research the two teams that are involved in the game. So there's an element that I don't know the future, but I've researched to make an educated opinion about the outcome of the event. So for some people, that's no different than

Starting point is 00:05:13 investing in a stock. I understand why people might feel that way. And I understand the appeal of the projection markets, especially after watching that game. I mean, 115 minutes with no scoring, you need a way to make it interesting. I understand why people feel that way. But at the same time, the key difference is whether the underlying asset you're talking about is expected to compound in value over time, rather than just kind of settle in a binary zero-sum matter. buying a share of a business it gives you a claim that hopefully not always but hopefully will grow earnings they'll reinvest capital they'll create value for you over time even if you're wrong about the next quarter your investment goes on on the other hand the stock market it's a positive sum

Starting point is 00:05:53 game so economic growth productivity innovation reinvestment they can all make everybody richer over time and over the past they have on the other hand a prediction market it's a peer-to-peer market it's a zero-sum game. For every dollar someone won betting on Spain, or excuse me, predicting on Spain, someone lost it on Argentina. No new value was created there. If anything, value was lost because Robinhood and Kalshi take their cut. Money just kind of moved around sideways. So the general rule here is if you can lose 100% of your money because of a single expected event, an event that's going to happen one way or the other, you're speculating, not investing, regardless of what Robinhood or Cauchy might call it. And that's true in the stock market as well.

Starting point is 00:06:39 If you buy an out-of-the-money call option, it's a binary event. It's the same idea here. So yes, they are securities in that sense, but they're dependent on one binary outcome event. And that's the really big difference between buying a stock and predicting on the outcome of an event. Yeah. And to anyone listening, there is some entertainment value perhaps in the prediction markets. And certainly we wouldn't want to tell anyone out there that you should definitely avoid it at all costs. Maybe there's a case where you can use it responsibly. But I think for me, it's really important to remember that we are talking about two fundamentally different things and to keep those separate in our minds. In one category, we're investing for the future. In

Starting point is 00:07:21 another category, we're maybe playing around with a little bit of money. That could be okay, but they are different things. So keep that in mind. When we come up after the break, we're going to talk about how China is disrupting the AI market. You're listening to Motley Fool Hidden Gems Investing. head, don't change your morning. Let your morning change you. Discover Coffee Plus on Nespresso.com. Welcome back to Motley Fool Hidden Gems Investing. So in the last week, something massive has happened in the AI world. According to Arena.ai, a model called Kimi K3 has jumped to the top spot among AI models. So it's ahead of Anthropix Fable 5. It's ahead of OpenAI's GPT 5.6.

Starting point is 00:08:30 Rumors are that it is three times cheaper to run than other models. And that claim alone right there is absolutely astounding. Rachel, here's my question. Does this change the game in AI? Because from my perspective, if businesses can use a cheaper and better model out of China, then of course they were going to adopt it. And if they adopt this model, then that means that they're moving away from other models. And maybe that impacts the economics of some of the top AI providers in the game right now. I'm not going to downplay the fact that we're seeing immense technological and AI advances coming out of China. We've seen a lot of really impressive models rolled out in recent months. But I do think it's an oversimplification to look at the launch of Kimi K3 and say that that might defeat the likes of open AI and the Silicon Valley backed players. And there's a few reasons for that. I think a lot of the focus has been on the fact that the blueprint behind Kimi K3 is essentially free, but there's also very much the physical laws of economics and computing power. Hardware is still the key bottleneck here, right? Not the software.

Starting point is 00:09:41 And Kimi K3 is an absolute data monster with 2.8 trillion parameters. The fact that Moonshot AI, which launched this model, they had to freeze new user signups just 48 hours after launching because their servers literally hit a physical limit. I think it continues to prove that the computing power behind all of these models that we're seeing continues to be a finite, scarce resource. So even when that software blueprint, if you will, is free, running it safely at scale can be really difficult. It can be really expensive. And I think we're still seeing a lot of CTOs are still going to want to pay a reliable, secure subscription fee to the likes of Anthropic or others to handle that key infrastructure challenge. So, yes, you know, we're seeing that a lot of the raw AI intelligence is becoming a cheap commodity. I think that that will be increasingly so in the years ahead. But the cloud infrastructure required to run it, not so. I think that that could change through the years. But a lot of the business models, I think, for these closed providers like OpenAI, like Anthropic are safe because they're really selling the stable ecosystems that make that software usable for big businesses. And that's not something that's going to change anytime soon. That being said, I think there are a wide range of useful models out there. I think democratizing the space is important, but I do think it's important to understand that this is not going to just disrupt the dynamic of OpenAI and Anthropic overnight. One thing that I would add

Starting point is 00:11:02 is that having a capable AI model is one thing. Having a cheaper AI model is one thing, but having enterprises trusting in your product is another thing altogether. Cheaper inference for tasks, it doesn't automatically hurt companies like OpenAI and Anthropic. The highest value cases for AI need more than just raw text generation. The selling points are how these ecosystems are safety tested. They're reliable. They have other key features that enterprise clients want, like how Rachel described selling the ecosystem. I mean, the bottom line, I don't think this changes the game for OpenAI, Anthropic, and all the other ones. I mean, having a capable but capacity constrained rival, it really kind of underscores just how the hyperscalers that have these large

Starting point is 00:11:46 pipelines of compute that keep growing still have the clear advantage in this space yeah and that's an interesting point to bring up here both of you have alluded to it already but let's just make it explicit kimi actually had to pause new subscribers so it had basically when the news came out that it was now the top model and some of the people started coming out saying hey look at what we're doing and look at what it's costing us compared to the other models there was such a surge in subscriber demand that the GPUs from Kimi could not keep up. And so they actually had to say, listen, we can't actually even take new subscribers right now. We're going to have to hit the pause button. We're going to invest in compute so that we can meet all this demand that

Starting point is 00:12:29 we're seeing. That's a really interesting thing to think about. But what I got to thinking about in this was NVIDIA. And I know we're the hidden gems team. And I know that NVIDIA is either the largest or second largest stock in the world, depending on the moment, but it trades at just 22 times forward earnings. That's actually kind of cheap. And just last week, it started shipping H200 chips to China, which isn't really in the calculus right now. Now you have a Chinese model saying, hey, we're going to actually need to invest more in compute. NVIDIA just now starting to ship to China. Can we shift here to NVIDIA stock for a second and say, is there a case that NVIDIA stock is actually a good buy right now? Yeah, I think that NVIDIA looks like a really

Starting point is 00:13:13 strong buy right now for a variety of reasons. I mean, going back, this bottleneck that is obviously affecting players across the industry, but forced Kiwi K3 to freeze subscriptions. I mean, that key pain point is where we're seeing that global backlog of guaranteed revenue for NVIDIA come from. I mean, companies trading at just about 22 times forward earnings last I checked. I would say personally, I think the market's priced in a lot of the AI fatigue, the geopolitical risk. I do think it's a really healthy entry point into a company that's still really healthfully growing its data center revenue. You know, it's interesting that newly approved shipment of H200 chips to China. I do think that there's a nice regional tailwind

Starting point is 00:13:52 there. I mean, NVIDIA's broader growth engine is still the insatiable demand from the Western cloud giants that are racing to host this huge multi-trillion parameter models. So I think if anything, we're seeing that NVIDIA is continuing to dominate the market as this tollbooth for the entire AI industry. I don't think that's going to change anytime soon. And it is operating off an incredibly robust financial foundation, really profitable cash-producing business, which I think also very much lends itself to being a good buy for long-term shareholders. I agree with Rachel that NVIDIA, by most valuation metrics, looks very cheap, considering you said 22 times forward earnings, that growth rate that it keeps posting,

Starting point is 00:14:32 and the H two hundreds to China, it's a real growth lever and could be a serious near-term tailwind for it. But I don't own NVIDIA in my portfolio, not directly anyway. I have plenty of exposure through ETFs. And there are a few reasons for it. First things like comparing that PE of 22 to the massive growth rate assumes that the growth is going to continue. That's what the whole basis for comparison is. It's not a realistic growth rate to maintain forever for any company, not just, you know, one of the largest in the world. Second, NVIDIA has a lot of customer concentration. They sell to hundreds of thousands of customers, but a lot of their revenue comes from the big hyperscalers. The hyperscalers themselves are starting to make in-house chips

Starting point is 00:15:10 a lot of times with the stated goal of reducing dependence on NVIDIA. So long-term, who knows what that's going to mean. And then the China approval, it's a policy decision. And as we've seen many times, policy decisions can be reversed and put back on and reversed and put back on several times. So I'm not saying that NVIDIA is not a great investment or a great business. I couldn't fault anybody for buying NVIDIA right now, but it's not a risk-free investment and it's important to put the attractive valuation into context before you buy. It's hard to argue with that, Matt. Thank you for always reminding us to think soberly about the stocks that we invest in. So I'll definitely keep that in mind, but I am eyeing NVIDIA right here myself personally.

Starting point is 00:15:51 After the break, we're going to take a question from our mailbag about digital advertising. You're listening to Motley Fool, Hidden Gems Investing. New from Nespresso. Blend wellness into your coffee routine with the Coffee Plus range, infused with functional benefits. Choose the coffee you love with added B vitamins, like Coffee Plus B12 to help support immune function and Coffee Plus B6 to keep your day moving. Or go with the flow and choose Ginseng Delight, our new double espresso with ginseng extract. Whatever lies ahead, don't change your morning. Let your morning change you.

Starting point is 00:16:25 Discover Coffee Plus on Nespresso.com. Welcome back to Motley Fool Hidden Gems Investing. One quick note, we want to make you part of the conversation, so if you have a stock or investing question for anyone on this show, you can send those in to podcastatfool.com. Our preference is that you keep them short, keep them foolish, and remember that we can't give personalized investing advice, so generalized questions are better. but if you have a question for us send those in at podcast at fool.com podcast at fool.com this question today we did like and it goes like this some of the largest companies alphabet and meta make money mostly from advertising has that come from them taking market share of the advertising industry from newspapers and television or has the total amount of advertising as a share of the U.S. economy grown a lot in recent years. Rachel, let's start with you here

Starting point is 00:17:21 because this is a really interesting question. Alphabet and Meta are indeed advertising powerhouses combined. You're looking at a $6 trillion market cap. So just how big are the digital advertising businesses for these two massive companies? It's really interesting because obviously this is what we know Alphabet and Meta for, but I don't think we often talk a lot about how that came to be. And these are companies that combined generated hundreds of billions of dollars in revenue from ads in 2025 alone. Alphabet and Meta control about half of the entire global advertising market. For Alphabet, advertising accounts for about 70% of its total business, give or take in a particular year. Meta relies on advertising for about 98%

Starting point is 00:18:05 of its entire revenue. Now, what's interesting is you think about where all of this business came from. And, you know, you go back a few decades, it was sort of a mix of a few different factors. It'd be very much, of course, drawing off a growth from legacy media, but also very much expanding the total economic pie, if you will. I mean, if you look back over the last couple of decades, we have seen digital platforms carve out a lot of the local newspapers and television by offering these very highly precise data-driven targeting solutions that traditional media just couldn't match. And the total amount of advertising as a share of the economy has also grown significantly because platforms like Alphabet and Meta also kind of invented a brand

Starting point is 00:18:47 new marketplace. I mean, they lowered the financial barrier to entry. So Alphabet and Meta, yes, they obviously work with these huge brands, but they also allowed millions of small and medium sized enterprises who could have never afforded multimillion dollar TV commercial, for example, or a major print campaign. They allowed those players to buy these highly targeted hyperlocal ads. And that's also been really, really critical to the growth of those businesses over the last few decades. Well, certainly the targeting capabilities of digital advertising is it changed the game in advertising. It's no longer just a billboard on the highway that you have to count on whoever drives past it and looking at it and making a decision off of that. Now we can

Starting point is 00:19:27 actually target online with intent, all of that. It certainly changed the game. But Matt, my question here for you is, did this actually increase the pie or is it just that the pie shifted to digital channels? Well, first of all, don't count out billboard advertising. One of the companies that offers it, Outfront Media, has been doing great lately. And I've said before, it's the one type of advertising you can't click away or turn the page from. You're literally forced to look at it. So it has some advantages. But to answer your question, it's both. The pie got bigger. Global ad spending just as a percentage of GDP has risen significantly recently. The reason is a lot of what rachel talked about because digital ads are generally more valuable to advertisers they target

Starting point is 00:20:06 better and they're just more efficient they took a lot of market share as tv and print ads have kind of been declining for the past two decades or so and understandably so alphabet and meta didn't just win the old pie they baked some new pie as well and they become the pie's primary baker to kind of use your pie analogy there okay so here's a question for each of you i want you both to weigh in here. Based on the fact that you're saying, Matt, that the pie actually did get a little bit bigger here. I mean, it did shift, but the pie also did get bigger. Does the digital advertising pie keep getting bigger from here? And if it does, does that benefit these top two players? Or is AI going to come in here now? Many of these AI companies are looking to get into the

Starting point is 00:20:51 advertising game. Is AI going to come in here and shift the whole digital advertising market and shift who the winners are? Rachel, you're up first. I think it's a combination of things. I absolutely think the pie will keep getting bigger, but I think that you're still going to see the top players dominate. And AI is fundamentally rewriting how ad money is spent. It's shifting a lot of the winning growth to who controls the backend consumer data. Now, of course, that means that We're seeing the likes of Meta and Alphabet succeed immensely because they have these, you know, huge capital reserves required to build the AI automated ad infrastructure that these businesses rely on to survive. But also they have all of the data to fuel that growth. So there's been a lot of fear.

Starting point is 00:21:35 There had been these companies would see their business models completely crushed. But in fact, the AI driven targeting tools have actually triggered an advertising boom. Now, one thing I'll note, I mean, AI is changing the landscape in terms of how search and discovery works. You know, we're in a time where conversational AI search tools are compressing the traditional process of scanning links. We're seeing generic web traffic shrinking. We're seeing a real reallocation of ad dollars towards those more high intent channels with direct transactional data. Again, you go back to the big players that we're talking about here. So I do think you'll see new AI startups will capture a piece of the conversational search market. But I think that we're still going to see, at least for the medium term, the alphabets and metas of the world remain the dominant winners because their ecosystems and platforms are very well insulated against AI disruption and also closest to where consumers are making buying decisions and leaving that data that grows that AI flywheel in the first place. On the near and medium term, I agree with most of what Rachel just said, but I'd push back a little bit on that duopoly framing. So just a few things to add here. So number one, don't count out Amazon. Amazon's ad business, it's still not the biggest part of their business, obviously, because they have AWS, they have their e-commerce revenue. It's rapidly becoming really a third

Starting point is 00:22:49 major player in ads and its ads sit a lot closer to the actual purchases you make than either Google or Facebook ads do. Not only that, many traditional retailers that have big e-commerce presence like Walmart, like Target, have also been kind of quietly growing their own sponsored ad revenue. But the real wild card here is agentic AI when it comes to shopping. It has the potential, but it's not really guaranteed to, ultimately disrupt the concept of a sponsored link entirely. The question of who gets paid when an AI agent clicks buy, there's not really a clear answer there just yet. Who did the advertisement really go to? For a few reasons, I question whether Alphabet and Meta's leads are going to be permanent, but directionally, Rachel's right.

Starting point is 00:23:31 You know, and that is a huge implication here. If sponsored ads are going to go the way of the dinosaur, because there are a lot of platforms that rely on that, but I'm afraid we're going to have to hit that topic on another day because we're out of time. As always, people on the program may have interest in the stocks they talk about, and The Motley Fool may have formal recommendations for or against, so don't buy or sell stocks based solely on what you hear. All personal finance content follows Motley Fool editorial standards and is not approved by advertisers. Advertisements are sponsored content and provided for informational purposes only.

Starting point is 00:24:04 To see our full advertising disclosure, please check out our show notes. Thanks to our producer, Christy Waterworth, and the rest of the Motley Fool team. From Matt, Rachel, and myself, thank you so much for listening to our show today, and we will talk to you again next time.

Motley Fool Hidden Gems Investing - Chinese AI Just Made History

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