The AI Party is Missing Microsoft and Alphabet

Wall Street is buzzing with the buzziest of buzzwords these days when it comes to artificial intelligence. That is, aside from the two firms that are considered to be at the cutting edge of the technology when it comes to these two firms.

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Microsoft Corp. and Google parent Alphabet Inc. have underperformed this year, as compared to Nvidia Corp. and lesser-known AI plays that have soared on the back of excitement over the potential boost to their business from artificial intelligence.

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The lethargy of their stock market goes hand in hand with the fact that their investment in artificial intelligence will likely yield a slower return than for others, as well as the fact that the Federal Reserve has aggressively raised interest rates in order to combat inflation and fight inflationary forces. Both companies have been up less than 5% this year, which is not even half as much as the 10% gain of the Nasdaq 100 Index and a long way behind the 60% surge in Nvidia, which is predicted to have a more immediate impact as its graphics chips are used in AI applications.

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“There is a risk of disappointment for those who buy Microsoft and Alphabet solely for their artificial intelligence capabilities since the technology rolls out slowly and doesn't translate into strong revenue growth," said Gregg Abella, chief executive officer of Investment Partners Asset Management. “It is true that the interest rate environment is less favorable today, and while earnings are still doing well, they are not as exciting in terms of growth as they once were.”

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Microsoft and Alphabet, two of the world's biggest companies, are focused on the applications of AI in search, which could be a major driver of growth in the long term, but will also be expensive to develop. There is an investment of $10 billion in OpenAI by Microsoft, and the company has also recently unveiled a new version of its Bing search engine and Edge browser which incorporate this technology. In addition, Google is integrating artificial intelligence into its search engine as well.

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“There is a delicate line these companies are walking as they need to develop AI at a time when they are getting credit for slowing down investments in capex, not stepping up them,” said Abella, who sees AI investments as crucial to the long-term success of these companies.

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During their most recent quarterly report, Microsoft warned of a slowdown in cloud and business software sales, while Alphabet pointed to a drop in demand for advertising related to search results.

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AI is expected to be one of the fastest-growing markets in the coming years. Analysts at UBS Group AG estimate that the broad market for AI hardware and services will reach $90 billion by 2025, up from $36 billion in 2020, and that this might prove to be a conservative estimate.

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In spite of the fact that the two mega-cap companies are both seen as leaders in their respective fields, sentiment has largely been in favor of Microsoft, especially after Google's AI chatbot was demonstrated to have underwhelming results. Among the reasons for Alphabet's year-to-date weakness followed that event, and according to analysts at Bank of America Corp., OpenAI's ChatGPT is now causing people to choose Microsoft's Bing over Google, even though "there is no evidence that Google search revenue is slowing down.".

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Even though both Microsoft and Alphabet are underperforming, they remain consensus favorites among analysts, with roughly 90% of those tracked by Trade Algo recommending them both as buys despite their underperformance.

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Alphabet's share price is less than 16 times forward earnings, which is lower than its five-year average and below the multiple of the Nasdaq 100 index. There is also a decline in Microsoft's multiple compared to its average over the past five years.

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“Although the short-term outlook is not favorable, I am very optimistic about these two companies and the exciting services they will be able to provide over the next couple of years”, said Sylvia Jablonski, CEO of Defiance ETFs. "They're both great companies, but AI is the icing on the cake."

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It has been a good year for Meta Platforms Inc., the parent company of Facebook, with a 45% rally so far this year helping the company close the gap it has with the Nasdaq 100 Index. The stock has lost 16% over the past year, while the tech-heavy gauge has performed only slightly better, having lost 15%. Despite concerns over the growth of the metaverse and its expenditures on the metaverse, Meta lost nearly two-thirds of its value last year in response to widespread selling pressure. The recent strength of the company is due to the company's pledge to become more efficient in February.