How to invest in AI as the rally continues

Nvidia became the most valuable company in the world on the back of the AI rally. (Chiang Ying-ying, Associated Press)

Artificial intelligence (AI) continues to significantly influence equity market gains, with major players like Microsoft (MSFT), Nvidia (NVDA), Apple (AAPL), Alphabet (GOOG), Amazon (AMZN), and Meta (META) contributing to 64% of the global equity market’s growth in total return terms in the past 18 months.

Notably, chipmaker Nvidia became the largest listed company globally in June. Additionally, 40% of S&P 500 (^GSPC) companies mentioned “AI” in their first-quarter earnings calls, according to FactSet data. Here’s how investors can seize the AI opportunity, according to UBS.

Nvidia recently executed a 10-for-1 stock split to reset its share price, which had surged 725% during the preceding 18 months.

While the split increases the number of outstanding shares in circulation, it does not change the company’s overall value. “Splitting the stock shouldn’t create economic value in theory, but it will make the company more accessible to smaller investors,” Morningstar technology equity strategist Brian Colello, explained.

Mark Haefele, chief investment officer at UBS global wealth management, said: “AI looks set to remain a key driver of equity market returns. We see opportunities in the enabling layer of the AI value chain and in vertically integrated megacaps.”

Significant investments are being directed towards AI, particularly at semiconductors, cloud, data centres, and power supply. Microsoft, Alphabet, Meta, and Amazon are projected to spend approximately $200bn (£158bn) in the sector, a 35% increase over 2023, according to FactSet consensus. For this level of capital expenditure to be justified, AI use cases need to scale up significantly, UBS said.

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Potential applications span advertising, customer service, personal and coding assistants, R&D, cybersecurity, and more. However, AI-linked revenue streams are still in the early stages of development.

Will AI justify the hype?

UBS expects robust capital investment in AI to continue, driving strong earnings growth for companies within the enabling layer of the value chain. For instance, the Swiss bank expects earnings in the global semiconductor industry to rise by 50% this year and 25% in 2025. As the AI ecosystem expands, annual capital expenditure for the enabling layer could reach $331bn by 2027.

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However, potential risks include the possibility of overcapacity in components like graphics processing units, custom chips, or memory if there’s a lack of significant model advancements or consumer/business uptake.

The AI value chain: three critical layers

To understand AI’s potential, UBS breaks down its value chain, comprising of three layers:

• Enabling Layer: Includes semiconductors, cloud, data centres, and power supply.

• Intelligence Layer: Consists of large language models.

• Application Layer: Encompasses companies providing AI services for specific use cases, such as copilots and coding assistants.

The tech capex surge has primarily benefited the enabling layer. While fears of overcapacity could introduce volatility, this segment currently enjoys strong investment rates, offering a mix of attractive earnings growth profiles, competitive positioning, and a reinvestment runway. UBS suggests focusing on semiconductor companies leading the AI infrastructure investments at data centres.

Moreover, the AI investment landscape is increasingly dominated by a few major players.

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“Over time, we expect the AI market to be dominated by an oligopoly of vertically integrated “foundries” and monolithic players along the value chain. So, alongside semiconductors, we also think investors should position in the oligopolies that are present across the entire technology stack, covering chips, cloud computing, and generative AI models and applications. We think these companies will be well positioned to navigate potential shifts in the competitive landscape in different parts of the value chain,” UBS wrote in its CIO 2H outlook.

AI rally: China or US?

While the US has seen the greatest benefits from the AI rally, UBS notes that China's tech giants remain undervalued, trading at similar levels as before ChatGPT's launch. Despite challenges like tariffs, export controls, and local regulations, China’s tech leaders are heavily investing in AI.

“Ultimately, we expect China to develop an AI ecosystem that is distinct from that in much of the rest of the world. This should lead to significant monetisation potential for China’s AI giants,” UBS said.

Is a company riskier than a country?

The market capitalisation of AI chipmaker Nvidia recently surpassed $3.3trn, more than double Switzerland’s entire blue-chip stock index and significantly more than China’s CSI 300. This raises questions about the risks of holding a single company versus a country-level index.

While individual companies are generally more volatile, not participating in the returns these companies generate could pose a greater risk to investors’ wealth over time, according to the Swiss bank.

Investors should seek quality growth

Finally, UBS said investors should focus on global quality wealth compounders—companies with a competitive edge, pricing power, and high barriers to entry. Such businesses, with a track record of disciplined capital allocation, strong balance sheets, and consistent profit growth, offer long-term sustainable value.

Quality growth, often driven by structural growth themes like sustainable development, energy transition, and water scarcity, should be a core component of investors’ equity holdings, UBS added.

Watch: Nvidia will remain dominant for next 3-5 years: Analyst

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