Vanguard said investors are too optimistic about AI's near-term prospects. It said the company needs to grow earnings 40% annually over the next three years to justify its valuation. “That's double the annual growth rate in the 1920s, when electricity lit up the nation,” Vanguard wrote.
Thank you for subscribing!
Access your favorite topics on the go with your personalized feed. Download the App
By clicking “Sign Up”, you agree to our Terms of Use and Privacy Policy. You can unsubscribe at any time by visiting your settings page or clicking “unsubscribe” at the bottom of our emails.
Market excitement about artificial intelligence seems never-ending as technology companies continue to push the boundaries of the technology.
But the enthusiasm is placing too much hope on the technology in too short a time, Vanguard wrote Thursday.
Wall Street is awash with optimistic predictions about how AI will impact the economy and corporate profits, with most of it being linked to a revolution in the American workplace and a surge in productivity.
That optimism has fueled a strong rally in stocks, with the benchmark S&P 500 up 18% this year through Thursday.
But Vanguard Global Chief Economist Joe Davis believes expectations are too high, saying stocks are overvalued even if the AI boom unfolds as expected.
He estimates that U.S. corporate profits would need to grow 40% annually over the next three years to justify current stock levels.For comparison, the S&P 500's trailing-year profit growth rate through the second quarter of 2024 was 10.9%, according to FactSet data.
“I am optimistic about the long-term potential of artificial intelligence to drive big gains in worker productivity and economic growth,” wrote Joe Davis, chief global economist, “but I am pessimistic about whether AI can justify soaring stock prices or save us from an economic downturn this year or next.”
He continued: “That's double the annual growth rate in economic output, not to mention corporate profit and loss statements, during the 1920s, when electricity lit up the nation.”
Such a historic surge in corporate earnings seems even less likely if the economy cools next year. Vanguard sees GDP expanding by just 1% to 1.5% in 2025.
It's not that the investment firm doesn't believe in AI's potential: Its research suggests there's a 45% to 55% chance that AI will lead to a surge in labor productivity. Between 2028 and 2040, real U.S. growth could rise to 3.1% annually.
But investors need to get past the notion that this will happen anytime soon, Davis said. While companies are pouring billions of dollars into positioning themselves in the field, some market participants mistakenly believe that AI investment will hit $1 trillion in the near future.
“To reach $1 trillion in AI investment by 2025 would require 286 percent growth. That's probably not going to happen, meaning we're unlikely to experience an AI-driven economic boom in 2025,” he said.
Some on Wall Street are more pessimistic: BlackRock has said that heavy investment in AI will likely trigger higher inflation before a production boom hits, which could hurt corporate profit growth.
