Valuations below the S&P 500 and improving fundamentals
Themes that fall into this category include Electrification, 5G & Internet of Things, Infrastructure Development & Industrials, and Defence Technology.
Electrification and future energy needs are top of mind amid growth in AI and increased adoption of automation technologies. US electricity demand is expected to rise 47% by 2040, creating the need for more capacity and improvements to the grid.23 Electrification company sales growth is forecast at 7% annually through 2026, faster than the S&P 500.24 Profit margins are expected to be a couple points below the broad index and account for the valuation discount.
5G & Internet of Things companies that produce sensors, low intensity processors, and connectivity technology are also tied to adoption of AI and automation tech while selling at a discount to the S&P 500. The connection to smart factories and industrial applications remains underappreciated with industry sales potentially doubling from about $25 billion to $50 billion by 2029.25 Given industry estimates, sales growth could exceed current expectations of 6%, thereby growing revenues faster than the S&P 500 while generating profit margins around 12%.26
US Infrastructure Development & Industrials and Defence Technology are tied to US competitiveness and bipartisan government support. While the government may temporarily freeze spending, strong policy tailwinds in these areas seem likely, as infrastructure development is critical to economic strength and defence technology is critical to international leadership.27 The fundamentals for Infrastructure Development & Industrials lag the S&P 500, but automation and technology could lead to significant efficiency in the next few years. Similarly, the integration of automation and smart technologies in defence could lead to greater adoption of off-the-shelf products that improve margins.
Valuations in line with the S&P 500 and better fundamentals
Digital Infrastructure, specifically tied to data centers, is forecast to deliver better sales growth and profit margins than the S&P 500, but it sells at similar valuation levels. US data centre capacity is expected to reach 35 gigawatts by 2030, almost doubling from 2022, even if a more efficient training AI algorithm becomes standard.28 The data produced from AI and the inference involved will still require a significant buildout. Forecasts call for Digital Infrastructure firms to grow sales by 7% per year through 2026 with profit margins well above the S&P 500 at 26%.29
Valuations at a modest premium and superior fundamentals
Fintech and AI & Big Data sell at a modest premium to the broader S&P 500, but both are expected to deliver far superior sales growth and margins the next two years. FinTech may benefit from a looser regulatory environment that creates opportunities for new products and technologies. Sales growth is expected to outpace the broad market at 12% with profit margins at 17%.30
We expect AI & Big Data companies will continue to grow at a rapid pace. AI software-as-service is set to start monetising across corporate adopters, and those companies are likely to be very cautious when selecting implementation partners. The wave of AI adoption is not about to recede even as the technology underlying the algorithms evolves. AI & Big Data companies are forecast to grow sales by 15% with profit margins at 15%.31
