The Dividend Cafe - Artificial Intelligence and The Lessons of DotCom

Episode Date: December 1, 2023

Today's Post - https://bahnsen.co/3GnL8pE Rarely have I hyped up a Dividend Cafe so much and set you all up for such disappointment. The topic I write about today is one that has been on my mind and in my research orbit for a long time, and on a couple occasions I actually teased up that it was coming, only to pull the plug and defer publication to a later date. Well, that later date is today. We know the huge hype around Artificial Intelligence in 2023 – not merely in stock prices, but throughout society. On a daily basis we hear of some reference to how AI may change education or business or politics or, my favorite, farming. And as is always the case, this “hype” has a foundation to it – there is a profoundly interesting evolution in technology playing out that will change the way a lot of things are done. It will involve policy adaptations, cultural pushback, misallocations, great advancements, and, yes, certain negatives. All of these things are par for the course in a world that grows – that is, a world that was created to see human beings innovate around the raw materials they were given. Someone should write a book! But fundamentally, artificial intelligence is a big deal, even if the early years of its introduction will be filled with misunderstanding and wrongly directed reactions. But people do not read Dividend Cafe for my assessment on the technological or even cultural context of new innovations. Rather, our job here is to assess a whole host of subjects for their economic and market impact – particularly for investors (and to be more particular than that, for our investors, that is, clients of our firm – or those of you who will be clients of our firm). The Artificial Intelligence story is an investor story, too, and that requires a sober reflection on a lot of things. Today’s Dividend Cafe is that sober reflection. Let’s jump into the Dividend Cafe … Links mentioned in this episode: TheDCToday.com DividendCafe.com TheBahnsenGroup.com

Welcome to the Dividend Cafe, weekly market commentary focused on dividends in your portfolio and dividends in your understanding of economic life. Well, hello and welcome to the Dividend Cafe. I am recording here Friday morning from my hotel in San Francisco. I will be speaking at an event tomorrow that I speak at every year. This is my 23rd year at this conference. And in the meantime, I got to wrap up this Dividend Cafe that I've been working on for several months this morning. And so that is our subject today is the Dividend Cafe I've been working on regarding artificial intelligence, one of everybody's favorite topics. to do, which is evaluate potential societal risks, privacy concerns, governmental controls, some of the kind of moral ramifications of this complicated topic. There's a lot there. I don't think that there's a lot of good material there or good perspective there. I think most of what I hear is either rather shallow or driven towards

something dystopian, but not necessarily super intelligible. But be that as it may, it just isn't in the category of what I'm after today. I want to do an investment commentary on the state of artificial intelligence and what this means for investors. And as I am prone to do, evaluate in the context of what historical lessons may exist. So the hype around artificial intelligence right now, particularly as people think about it from an educational or political point of view, is pretty high. But there is an investment hype that is kind of my bigger interest or concern today. And if I get to a point where I think people read Dividend Cafe for my assessment of technological innovation, then perhaps we'll add more to this. But I'm going to stay in my lane and hope that you find some benefit. I think that we're going to start off, by the way, when I say I'm doing Dividend Cafe on the

investment ramifications of artificial intelligence, I want to first point out that you cannot invest in artificial intelligence. You can invest in a company that is marketing artificial intelligence. You can invest in a company that is contributing to the platform of artificial intelligence that makes chips that help feed artificial intelligence, that are related to big data, that are related to the infrastructure. There's any number of particular ways that one can invest in a company, in a public or private company, in debt or equity, in a fund. All of those things are on the table. But this is not a point I'm making about artificial intelligence. It's a point I'm making about narratives in

general. Throughout my whole investing career, we have talked about people have a thematic approach. Themes exist. Themes cannot be invested in. We are investors in the world of midstream energy, but we don't really start investing by talking about midstream energy, by talking about some of the story, by talking about what the sector opportunity may be going forward. You don't have an investment until you have bought with money a company. And it could be debt, equity, public, private. There's other variables that help make it a more particular investment. But fundamentally, we invest in companies, and narratives are not investable. I think that there is a long history of people utilizing narratives, companies utilizing narratives for a marketing advantage, and maybe not even a discernible one. Maybe it's

just a Hail Mary. You know, I recall off of the 405 freeway in Orange County, California, I recall off of the 405 freeway in Orange County, California, throughout the late 90s going in the early 2000s, seeing signage on the various companies that were there around Jamboree, MacArthur, in the kind of Newport, Irvine, Costa Mesa area, companies I had seen off of the freeway for years. All of a sudden, the same company, same logo, same sign, with the.com added to it. And for some, it may have made sense. Maybe it was a print magazine that was becoming a digital magazine,

but I mean, there were things that were just absurd, you know, that were, were going to try to exploit a narrative about.com. And this, this was true in recent years with with crypto, with with companies trying to take on an angle of something that wasn't coherent, wasn't intelligible, but nevertheless, tried to create an attachment to a narrative. But it's not investable. And this is the thing that we're going to start our conversation with is the reinforcement that it is not sufficient for an investor to say, hey, I'd like to invest in artificial intelligence. You then have to go execute, and therein lies the rub. And execution around a narrative requires companies. And so we're

starting off our analysis with a tale of two very specific companies that I think lay out what is fundamentally the major risk, not the risk of AI failing, not the risk of there not being a real use for artificial intelligence. That stuff's out there too. I'm going to talk about some of that. But I'm right now starting off analysis with a tale of two companies just to make the point of how things can go badly if they go perfectly. If they go really well, you go, what in the world is this guy talking about? So at DividendCafe.com today, there is a chart of NVIDIA, which is a company I'm using as an example that has been an extraordinary performer. I'm not saying anything positive or negative about buying it, and it's not a name that we own.

It's for illustrative purposes. There's a link attached to some of this stuff at Dividend Cafe. The company has grown its revenue 40% per year. More specifically, 37.6% per year, but who's counting, will round up 40% per year almost for five years in a row. Massive revenue growth. And of course, the stock price has gone up an awful lot as well. I then produced a second chart. It's another company that for five years grew revenue 40.3% per year. Actually, even a little bit more per year than NVIDIA has done. NVIDIA being at the very apex of the artificial intelligence moment,

producing chips and software that are so pivotal to feeding and serving AI models. The company that I'm referring to that has a five-year compound annual growth rate of 40%, their top line revenue, is the company Cisco. And yet the period of time I'm referring to is from 1996 to 2000. At that point, they grew 5% or 40% per year as well. So an almost identical revenue growth number, an almost identical period of time, albeit 25 years apart between Cisco and NVIDIA. And then I have another chart. And again, at DivenCafe.com, you can see all these. And it is Cisco's stock price since 1992. And you see that Cisco had been between $0 and $10 from 1992 up until about 1997. And then it went up very, very quickly over a couple of year period from roughly 10 to nearly 80, and then dropped back

down to nearly 10. And now 22 years later is sitting there around 50. So it's up 400% from its bottom 22 years ago, but it's still down, call it 50% from its high 1999. And you could think for a moment, well, wait a second, maybe they just failed. It didn't work out. They didn't do what they said. But in fact, what you see is a company that actually has gone from 22 billion in revenue when it was that high to 57 billion now. Earnings that have quadrupled from when it was at that high to where it is now. So mathematically, logically, economically, there's only one thing that happened, a preposterous price level to enter at that point of time. You take out that moment in which it bubbled up that high. You really just have a trend line of a company that's revenues have grown, profits have grown, and the stock price has grown from 10 to 50 if it hadn't gone from 10 to 80 to 10 to 50.

You follow me? And this, to me, is the risk. It's not to make a comparison that NVIDIA will do the same. It's not to say anything good or bad about Cisco. It's not to say anything good or bad about NVIDIA. It's to make a point. Cisco happens to be one of the most known companies. And at that point in the late 90s,

everything people were wondering was true. They literally were the leader necessary for network computing, for basically building the routers that served as an ecosystem of technology products and enterprise and personal computing as wireless use was exploding. It changed the world. And revenues have grown, profits have grown, big company, all those things. And yet for 23 years, the stock is still much lower than it was at that peak at that time. There's other companies you can use as an example too, but this is a big deal. It is a byproduct of the era in which I grew up as a professional investor. It also is a evergreen principle that when you overpay for something in a point of hype, disconnected from rational

valuation, that there can be all sorts of problems. If a company doesn't perform, if the hype proves to be preposterous, if the competition comes in and beats a company up, all of those things are pretty big problems too, last time I checked. I am not right now referring to certain companies in the AI space for whatever their operational failures may be, or competitive risks may be, or execution challenges may be, all of which are really, really important. I'm saying even if none of that surfaces, even if there ends up not being any issue there, the reality is that we have a tremendous parallel between a moment in time in which a very successful company, after a really big period of growth, got a valuation that made it impossible for an investor to make any money for decades.

Think about that. And that's what the good companies, the cream of the crop of the moment. So you have a parallel between companies that grew revenue through the sky, had buzz, hype, leadership. They continued to execute. They saw their stock price then go nowhere for many, many years. This is not merely about these two companies we used as an example, but it's about the Internet at large in 1999. two companies we used as an example, but it's about the internet at large in 1999, no doubt a world-changing phenomena, and then the potential of where we are now with AI in 2023. I think part of it too is the rapidity with which, in the case of Cisco, this stock went up so much that quickly,

but really the whole tech boom and dot-com bubble of the late 90s. That doesn't happen at scale across a whole sector of companies. At least these two companies I've used as an example in the here, the then, and now had tremendous revenue growth. It was happening as well with companies that had no revenue growth. They didn't even have revenue. And I think that using the late dot-com era for memes and cultural sort of nostalgia about those old Super Bowl commercials and the kind of joke of pets.com and things, I think it's very useful. But I do want to point out that there is a really important investment lesson in it too. That hype is into a narrative, but investing is into a company.

And those two things are simply not the same. Now, where does that leave us? What would I say about the moment in which we find ourselves. I think people need to think about AI much like the internet, that there will be some companies involved in making AI, doing AI, touching AI, just as there are companies that do the internet, that are the internet. But that for the most part, AI will prove to be a means, not an end. It will be something companies are investing in do, not something that you invest in directly. I use analogy in our portfolio now.

I think we have two, maybe three companies that are involved in some aspect of direct AI application. application, but that we have 32 companies that are likely going to be utilizing AI and the way supply chains are managed or logistics or some form of data analytics, that AI will be a tool, but it will not be the investment itself. It'll be a tool used to add value to an investment. And I use the analogy of the internet itself. There's a couple companies in our portfolio that are involved in the tech world, but all of our companies utilize tech. And you could go back to the light bulb and electricity and industrial revolution and what have you. We don't need companies that make the wheel to invest in companies that use the wheel. And that's basically where I think AI investing will need to go. But that doesn't allow for the narrative. That doesn't allow for the craze. And it doesn't allow for a stock jumping up 150%

in six months. I think that a fiduciary investor who cares about their duty to clients and matching solutions to real goals of real people, they could ask themselves, this AI company with a PE ratio of 80 right now, I wonder if it can go to 200. They can try to do that. Or they could say, can Mr. and Mrs. Smith afford to see this money blow up? Can they afford to buy a stock that goes down for 23 years, even if it proves to be a pretty good company? That's a practical question that is of far more significance than speculating on which AI companies are going to survive at all, which ones have elevated prices that are going to end up dropping, which ones are then going to see their prices recover when past the survival phase, they go into a thrive phase.

All of these things are pretty much unknowable. And to speculate on them, I think would almost certainly violate a fiduciary duty. Whereas I think there's an alternative available that doesn't require one to do that. And that is to see it as a means to an end and where it will facilitate business processes, but not be the business itself. Or maybe it's tangential to the business itself. So where AI is going to go from here to me is it's ironic that even apart from the concerns I bring up from an investment standpoint about valuation, about timing, we really live in a completely uncertain moment around the regulatory apparatus, governance, valuations. You see this reports that lawyers are using AI to write briefs. And then you see reports that a judge sanctioned lawyer

for getting stuff wrong with AI. And that certain language model companies are worth $90 billion. And then they're worth zero, but then they're worth $90 billion again. and then there were zero, but then there were 90 billion again. It is not a period for people to be arrogant about what's going to happen. FOMO, fear of missing out, is real. But FOMO should not be mistaken for confidence or for knowledge, let alone certain knowledge. No one knows. No one knows. knows. No one knows. There's only one thing I know. Well, actually, there's two things. The first is that even if it proves to be good and valuable and have high utility, bubbles happen. Gold has a use. Japan has a use. Technology, the internet in the 90s has a use. Mortgages, housing have tremendous use. You go through the cool tech era in the more recent years.

All of these examples are real, valuable, wealth-creating, substantive to one degree or another, and all went through periods of substantial bubble and burst. And I would be very careful about assuming AI will be immune from that. Then I think you have to say, well, where are we going from here in that context of avoiding bubbles, being aware of these economics valuation concerns? Is AI going to replace things that people are saying it can replace? And this is the thing I was saying I know. It can't and it won't.

Because reason and processing of text are different things. And processing of text are different things. Beauty and emotion and human interaction is different than searching through data, no matter how quick and efficient one is at searching through data. Humanity is what we want to invest in. Humanity was what was created by God and from which we derive free enterprise. That's not getting replaced by artificial intelligence. I promise.

It's the end of this week's Dividend Cafe. Please do read the written DividendCafe.com if you want to see the charts a little more color around these things. Thank you for bearing with me on this and have yourself a wonderful weekend. Thanks for listening, reading, and watching the Dividend Cafe. We'll see you next week. The Bonson Group is a group of investment professionals registered with Hightower Securities LLC, member FINRA and SIPC, with Hightower Advisors LLC, a registered investment advisor with the SEC. Securities are offered through Hightower Securities LLC. Advisory services are offered through Hightower Advisors LLC.

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