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Should AI Spending Worry Investors?

Should AI Spending Worry Investors?

Thoughts on the Market vor 11 Monaten

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Our Head of Corporate Credit Research Andrew Sheets wades into
the debate around whether the boom in artificial intelligence
investment is a warning sign for credit markets.

Read more insights from Morgan Stanley.

----- Transcript -----

Andrew Sheets: Welcome to Thoughts on the
Market. I'm Andrew Sheets, Head of Corporate Credit Research at
Morgan Stanley.

Today – the debate about whether elevated capital expenditure and
AI technology is showing classic warning signs of overbuilding
and worries for credit.

It's Thursday, October 23rd at 2pm in London.

Two things are true. AI related investment will be one of the
largest investment cycles of this generation. And there is a long
history of major investment cycles causing major headaches to the
credit market. From the railroads to electrification, to the
internet to shale oil, there are a number of instances where
heavy investment created credit weakness, even when the
underlying technology was highly successful.

So, let's dig into this and why we think this AI CapEx cycle
actually has much further to run.

First, Morgan Stanley has done a lot of good collaborative
in-depth work on where the AI related spend is coming from and
what's still in the pipeline. And importantly, most of the
spending that we expect is still well ahead of us. It's only
really ramping up starting now.

Next, we think that AI is seen as the most important technology
of the next decade by some of the biggest, most profitable
companies on the planet. We think this increases their
willingness to invest and stick with those investments, even if
there's a lot of uncertainty around what the return on all of
this expenditure will ultimately be.

Third, unlike some other major recent capital expenditure cycles
– be they the internet of the late 1990s or shale oil of the mid
2010s, both of which were challenging for credit – much of the
spending that we're seeing today on AI is backed by companies
with extremely strong balance sheets and significant additional
debt capacity. That just wasn't the case with some of those other
prior investment cycles and should help this one run for longer.

And finally, if we think about really what went wrong with some
of these prior capital expenditure cycles, it's often really
about overcapacity. A new technology – be it the railroads or
electricity or the internet – comes along and it is
transformational.

And because it's transformational, you build a lot of it. And
then sometimes you build too much; you build ahead of the
underlying demand. And that can lower returns on that investment
and cause losses.

We can understand why large levels of AI capital investment and
the history of large investment cycles in the past causes
understandable concern. But when tying these dynamics together,
it's important to remember why large investment cycles have a
checkered history. It's usually not about the technology not
working per se, but rather a promising technology being built
ahead of demand for it and resulting in excess capacity driving
down returns in that investment, and the builders lacking the
financial resources to bridge that gap.

So far, that's not what we see. Data centers are still seeing
strong underlying demand and are often backed by companies with
exceptionally good resources. We need to watch if either of these
change.

But for now, we think the AI CapEx cycle has much further to go.

Thank you as always for your time. If you find Thoughts on the
Market useful, let us know by leaving a review wherever you
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