AI Represents A Transformative, Innovative Wave – Not A Bubble

AI Does Not Meet The Typical Characteristics Of A Bubble And Instead Appears To Have Real Intrinsic Value

In today’s tech-centric world, artificial intelligence (AI) stands as the poster child of innovation, dominating discussions on the future of humanity, economic dynamics, job markets and investments. The question reverberating throughout these conversations is whether AI’s meteoric rise represents a sustainable wave of innovation or is merely another speculative bubble, akin to the burst of dot-com companies in the early 2000s or the recent craze surrounding special purpose acquisition companies (SPACs).

We believe that AI is not a bubble, but rather has the potential to be a robust and transformative force. To help advisors understand our perspective – and differentiate between bubbles and genuine innovation waves – we present a straightforward framework that evaluates intrinsic value, adaptability to change, realistic expectations, leverage levels and insider behavior. Applying this framework to AI, we find compelling reasons to dismiss the bubble narrative and embrace the tangible potential it offers.

Certainly, a palpable level of excitement surrounds the phenomenon, which raises the question of whether one should embrace this enthusiasm or be cautious. While there may be occasional instances of inflated valuations in certain aspects of AI, the overall sentiment is that as a whole, AI does not align with the characteristics of a speculative bubble.

A Framework For Discerning Bubbles From Innovation Waves

There will likely be frothy valuations in parts of AI at certain points, just as with any investment or asset class, and advisors should conduct their usual due diligence when evaluating any opportunity. With that in mind, here is our simple framework to help inform your due diligence and analysis, navigate discussions with clients and distinguish bubbles from innovation waves:

  • Does the described thing have any intrinsic value? Is there innate demand for it in the market?
  • Do the people selling solutions need the world to change dramatically in order for the product or service to succeed?
  • Are the expectations of related businesses realistic with respect to adoption, pricing and sales?
  • Are purchasers heavily financing with leverage and/or extended forward purchases?
  • Are insiders looking for liquidity/exits? In other words, are you being taken for a ride?
“Stages of a bubble.” Source: Jean-Paul Rodrigue, Wikimedia Commons

This is not comprehensive, and other items like regulation (or the lack thereof), political risk and the potential for fraud should be considered. But this framework presents a useful starting point for assessing whether a trend resembles a bubble.

If we apply our framework to AI:

  • Intrinsic value is relatively high. The technology has real-world applications in terms of the previously impossible tasks it can complete and is in theory as valuable as the human jobs it may ultimately replace.
  • The need for the world to change is low. While many AI companies may speculate on broader adoption, use cases are already real, with customers already paying for AI applications.
  • Expectations may be too high, but given the points above, there is some foundation for high expectations.
  • There is little evidence of excess in terms of leverage. While AI stocks, for example, have outperformed, it has not been disproportionate relative to their fundamentals.
  • There is little sign of insiders getting out by fleecing newcomers. Most founders and investors see this as a long-term investment.

Private Funds Remain The Best Avenue For Investment In AI

While it makes a great deal of sense to maintain or expand public exposure – including companies that are developing AI tech, buying up AI capabilities or cleverly integrating AI into their business model – private funds are the most differentiated, direct and selective way for advisors and their clients to invest in AI.

In our opinion, venture funds generally offer the most upside, given that they are investing in innovative, early-stage companies, where the greatest space for capital formation exists. But we anticipate that other private asset classes will yield opportunities to get exposure to AI. For example, the increasing need for the hardware infrastructure to power AI applications and the corresponding demand for facilities to house this infrastructure should provide interesting opportunities for infrastructure and real estate funds.

AI, unlike bubbles of the past, carries substantial intrinsic value and aligns its lofty expectations with real-world use cases.

As the AI phenomenon continues to reshape industries and societies, it’s crucial to cut through the noise and assess its authenticity. Our analysis, employing the “bubble framework,” suggests that AI, unlike bubbles of the past, carries substantial intrinsic value, boasts adaptability without requiring dramatic world-altering shifts and aligns its lofty expectations with real-world use cases.

While no investment is without risk, AI appears to align more with an innovation wave than a speculative bubble, offering very real and exciting applications that you and your clients can evaluate and explore.

Jacob Miller is Co-Founder of Opto Investments, a provider of tech-driven solutions for independent advisors to bring private market investments into client portfolios at scale.

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