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It was yet another interesting week in financial markets. The indices did not move in the same direction and the “AI trade” started to show some “cracks.”
Without further ado, let’s get on with it.
Articles of the week
I published one article this week: Rollins (ROL), Verisure (VSURE), and the cost of standing still (Part 1).
Rollins (ROL), Verisure (VSURE), and the cost of standing still (Part 1)
Pest control and home alarms don’t sound like the most exciting industries in the world, but they share some interesting characteristics that any investor would appreciate. These characteristics make both companies very similar but very different at the same time.
I began looking at Rollins (ROL) after its significant price drop…
…and I must say that I was not very much impressed with the stock even after the drop. I explain why in the article, which is part 1 of a mini series in which I’ll also go over Verisure. Verisure is a very different and similar company at the same time, and I’ll most likely publish part 2 this upcoming week.
Without further ado, let’s see what the markets did this week.
Market Overview
Markets were mixed this week. The S&P 500 rose whereas the Nasdaq dropped:
It was yet another interesting week in financial markets (it always is). The “AI trade” showed some “cracks” when OpenAI disclosed an annualized revenue figure of $50 billion. This was considerably below what the market was anchored to ($70 billion), but OpenAI later made it seem as if it were a confusion between gross vs net revenue. Regardless of whether you want to believe that the labs are decelerating or not, the reality is that the “AI trade” seems to be taking a breather. This is one example of many but after an incredible run, the KOSPI is down 30% from the highs it marked in June and has gone nowhere since:
It’s definitely true that the KOSPI is exposed to memory and that the AI trade is much more than memory, but it’s nevertheless interesting to see that some AI-related stocks are not moving much despite posting spectacular numbers. The market is a bit (being kind here) bipolar so we might as well see the narrative shift soon (or not, who knows).
We are currently living in a very interesting market environment. Rates are rising and remain pretty high compared to recent history, but this hasn’t stopped stock indices from being very close to ATHs. Warren Buffett used to say that interest rates are “like gravity to asset prices,” and while this is true, there is one exception. Rates and stocks can remain high simultaneously if the market anticipates strong earnings growth. This may well be the case here if one considers that hyperscalers and AI capex beneficiaries make up a good portion of the index. Hyperscalers are investing mouthwatering amounts into Capex which (if one believes they’ll earn somewhat decent returns) should result in a considerable earnings increase. At the same time, hyperscaler Capex is being spent on Capex beneficiaries which also make up a good portion of the indices, meaning that the earnings of those companies should rise too!
One thing that does “worry” me is that much of this AI buildout is going to be financed with debt, so seeing a higher cost of debt is maybe not ideal. Truth is though, if that returns are going to be 15-20% minimum then it makes sense to continue issuing debt to invest in AI at current rates.
I also worry that indices might have become a bit “fragile” in the sense that they’ve become pretty concentrated. If the AI trade plays out well, indices will most likely do fine, but if it doesn’t play out well…then passive investors might be in for a bit of trouble. It’s no secret that indices have become very concentrated around a given number of names, but it’s also true that the proportion of earnings that one can attribute to these businesses is likely similar to the weight they have in the index. What does this mean? That the indices might be “acting” rationally by overweighting these companies. One thing that seems true, though, is that a lot of passive investors probably don’t realize what they own.
I believe all of this situation also exposes what’s great about indices. When stocks do well in an index they typically rise to the top, meaning that the index eventually overweight the winners. As the winners typically keep winning and momentum has been a relevant factor in markets over the past years…well, indices have done pretty well. People who claim that an equal-weight index is better or safer are imho doing exactly what Peter Lynch claimed that investors should never do…”cutting the flowers and watering the weeds.” This doesn’t mean that the equal-weight index can’t outperform the market-cap weighted index; it definitely will if AI does not do well. This would be the ideal environment for active managers not overly exposed to AI.
The industry map was mixed this week, although it was pretty much green outside of semis. Agricultural equipment did not do great either, and I’ll discuss why in the company-specific news section:
The fear and greed index improved and entered neutral territory:
