Artificial intelligence (AI) is changing the world economic order. So far this year, companies connected to AI have already exceeded that record by issuing $141 billion in debt. This extraordinary financial sleight-of-hand reflects a profound faith in the promise of AI technologies. Many leading indicators point to a cooling economy. Unsurprisingly, if you look at these so-called Magnificent 7—seven of the most dominant advanced tech companies—they’re feeling their first, real deceleration. These types of developments bring up some important questions not only on whether current investments are sustainable, but what direction the industry is heading in the future.
Much of the new AI-related debt is attributable to a rapid increase in capital expenditures (or capex). This is particularly true in the tech sector. Data shows that nearly 40% of U.S. real GDP growth last quarter stemmed from tech capex, demonstrating the substantial impact that technology investments have on the overall economy. Jeff Bezos, founder of Amazon, calls the AI investment frenzy a “good bubble.” He thinks it could be a signal of an industrial revolution that moves our capital dollars to durable infrastructure and away from destruction.
Despite this optimism, forecasts indicate that AI earnings growth is expected to slow from an impressive 28% to a more modest 14% in the coming years. This is because each new generation of AI technology typically supplants the previous one within five years. This is a testament to the high rate of innovation occurring in the space. For companies to justify their investments, particularly in graphics processing units (GPUs)—a critical component for AI applications—they must recoup their costs within approximately 2.5 years.
The bond market has begun to show some of the cracks forming on this shiny new industry’s confidence-inspiring AI-tinged façade. Leading analysts point out that almost 90% of net earnings growth can be directly attributed to the technology and communications sectors. This reality highlights our great over-reliance on these industries for economic growth. Most predictions indicate a slowing in hyperscaler capex growth starting later this year. Sustainability and overinvestment concerns are beginning to raise questions.
The commercial real estate sector tethered to data centers is ground zero for America’s AI revolution. It finds itself under dire threat. Overall, data center real estate investment trusts (REITs) have had a hard time this year. They would become the worst-performing segment in real estate, almost 10% down. This downturn casts serious doubts over the long-term viability and value of investments in infrastructure built to accommodate AI technologies.
AI-oriented companies are raising debt at rates that harken back to the telecom bubble days. The saga acts as a warning for those investing in climate-focused solutions. These are the firms to whom the US government has outsourced a substantial amount of their debt. If they don’t hit their growth targets, they can suffer devastating penalties. Bridgewater Associates has offered an informative perspective into these economic undercurrents, specifically shedding light on the complicated connection between technological investment and GDP growth.
Now that markets are coming to terms with these development of the new trends, many investors may not recognize the effects of AI-related overinvestment. Today’s extraordinary funding influx sets the table for these efficiencies and innovation gains going forward. We should be just as watchful against the danger of dangerous and unsustainable debt levels. Stakeholders will need to meet the technological progress with a new commitment to fiscal stewardship. Yet, they need to walk this tightrope of an evolution remarkably well.