Disrupting the Disruptors
What happened last week?
The S&P 500 and Nasdaq declined by -1.00%, and -1.64% while the Dow rose by 0.27%.
The emergence of DeepSeek, a state-of-the-art Chinese AI model, using a fraction of the cost and computing power of its US rivals, sent established AI-centric stocks into a tailspin on Monday.
But markets found firmer footing on Tuesday before the Fed kept rates unchanged on Wednesday. On February 1, 25% tariffs on Mexico and Canada (except 10% for energy) were announced to press for tighter borders and to stem the flow of fentanyl into the US.
For its fentanyl role, China saw a 10% tariff. The 10-year Treasury yield closed at 4.62%.
What does this mean for investors?
What will come of this is to be seen. If and when US AI firms copy this methodology, it will either sharply reduce their investment spending or enable a much cheaper option for building ever more.
It may change the competitive landscape for AI innovators, reducing barriers to entry and some of the profit opportunities.
3 Things to Know
Innovation Highlights Mega Cap Tech’s Risks
News that DeepSeek was able to roughly match or even eclipse the results of large language models released by US hyperscaler firms with fewer advanced chips at a fraction of the cost rocked the tech tape, pulling down the world’s most valuable semiconductor designer and fabricator.
While we profess no engineering insights, it appears that they were able to use software algorithms in a way that helped overcome not having the latest and greatest hardware.
So, will the latest breakthrough end the AI arms race? Hardly. But it should serve as a reminder that investing in technology breakthroughs comes with great, unanticipated risks as well as rewards.
There is simply more idiosyncratic single stock risk in the US equity market when three firms are worth nearly 20% of the whole.
AI Adoption to Spread
Three cloud computing hyperscalers have accelerated their investment spending growth in excess of 35%. Shareholders have rewarded this, but the firms would eagerly cut back if they could achieve the same or better results more cheaply.
This may turn out to be a negative for the key semiconductor winner of the past 18 months. It also pulled down utilities and other energy providers to the AI industry, but long-term demand for AI is even more likely to be assured if the technology can be scaled more easily. Software designers for the AI industry could be a clear winner.
The new U.S. administration is crypto-friendly, with Trump most recently having signed an Executive Order emphasizing the importance of the digital assets industry in innovation and economic development and focusing on promoting US leadership in crypto.
Amongst the takeaways, Trump ordered the creation of a working group in charge of promoting a constructive and accommodative regulatory environment and exploring the creation of a national cryptocurrency stockpile.
To maintain its growth, the crypto market will need greater infrastructure. Among the providers of this are crypto mining companies, mining equipment makers, brokerages and trading firms.
Equities across this space – as represented by the Bitwise Crypto Innovators 30 Index – have recovered strongly from their late-2022 lows. We believe they may remain on this path in the coming year.
We also consider crypto industry equities as having the highest risk of the opportunistic positions discussed here, particularly given their rapid recent appreciation. Price volatility, technological failures, cyberbreaches and delays in regulatory developments could challenge our positive case.
Deregulation Beneficiaries Outperforming in 2025
In our Wealth Outlook 2025, we identified opportunistic investment ideas likely to benefit from a lighter regulatory touch, including banks, midstream energy and nuclear power.
President Trump has said he’d like to remove ten old regulations for every new one. Banks may benefit from less stringent capital requirements since the financial crisis of 2007-2009 and a rise in M&A and IPO activity, while the Trump Administration’s pro-energy stance could also boost the supply of oil and gas.
The administration’s commitment to cryptocurrencies and AI means electricity generation could rise by 30% from 2023 to 2030.
The big banks kicked off the 4Q24 earnings season with robust results, driven by strong investment banking activities and increased consumer spending.
Elevated interest rates allowed banks to earn more net income from the spread between the loans they make and what they pay on deposits, while increased credit card usage drove fee-based income higher.
An expanding economy led to lower loan loss provisions and some banks were also able to reduce their operating expenses. Banks generally benefit from a positively sloped and steepening yield curve where longer maturity rates exceed shorter maturity ones.
This should continue in 2025 as the Fed eventually lowers rates to 3.75%, in our view.
See our weekly CIO Strategy Bulletin for more details