Our Digital Infrastructure Theme Which Includes Micron And Nvidia Surges 30% This Year On AI Demand. What’s Next?

Our theme of Internet Infrastructure Stocks – which includes a diverse set of companies that sell hardware and software that underpin the Internet including server processors, graphics units, memory, and networking equipment – has fared very well this year, rising by 31% year-to-date, well ahead of the Nasdaq 100, which remains up by roughly 20%. This follows a solid 2023, which saw the theme rise by 66% over the year. The theme has been largely driven by the excitement surrounding generative artificial intelligence technologies.

AI workloads are computationally intensive and are driving demand for accelerated computing chips and GPUs sold by the likes of Nvidia (NASDAQ:NVDA) and AMD (NASDAQ:AMD). For perspective, over Q1 FY’25, Nvidia – which is the biggest beneficiary of the AI trend – saw sales more than triple year-over-year to $26 billion, while net profits were up over 7x to $14.9 billion. This trend will likely benefit other players in the computing ecosystem, including memory manufacturers such as Micron (NASDAQ:MU) who could witness rising demand for faster, higher-density chips, such as  DDR5 and high-bandwidth memory (HBM) products. The trend is likely to hold up, as companies look to shift their sizable installed base of traditional data centers to accelerated computing using GPUs to perform more artificial intelligence tasks.   Moreover, while the initial AI models unveiled by the likes of OpenAI were largely text-based,  models are increasingly multimodal, working with speech, images, video, and 3D calling for higher computing power. Things have been a bit more mixed for networking players within our theme, such as Cisco, who have seen lower demand from cloud service providers and telecommunication players amid some economic uncertainty.

Now the Internet Infrastructure theme has performed well over a longer period as well, returning about 90% since early 2021. However, its performance has been inconsistent, with the theme declining by close to 40% in 2022, considerably underperforming the broader S&P 500.  In contrast, the Trefis High Quality (HQ) Portfolio, with a collection of 30 stocks, has outperformed the S&P 500 each year over the same period. Why is that? As a group, HQ Portfolio stocks provided better returns with less risk versus the benchmark index; less of a roller-coaster ride as evident in HQ Portfolio performance metrics. Given the current uncertain macroeconomic environment with high oil prices and elevated interest rates, could the theme face a similar situation as it did in 2022 and underperform the S&P over the next 12 months – or will it see a strong jump?

While the structural shift toward greater digitization will drive the theme in the long run, valuations are also a bit high, making the risk-to-reward tradeoff a bit less attractive for the near term. Within our theme, Nvidia stock has been the strongest performer of late, rising by almost 3x over the past 12 months, as demand for graphics processing units surged, driven by demand from the AI space.  On the other side, Cisco (NASDAQ:CSCO) stock has fared worse than the other stocks in our theme, declining by about 7% over the last 12 months.

[1] Returns as of 6/28/2024
[2] Cumulative total returns since the end of 2016

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