Investing.com -- The AI sector is not in a bubble, Goldman Sachs strategists said in a Thursday note, but concentration risks remain elevated due to the dominance of a few large-cap companies.
Since 2010, the technology sector has delivered outsized returns, accounting for 32% of global equity performance. This growth, driven by strong fundamentals rather than speculative frenzy, is partly attributed to the introduction of transformative technologies like AI.
Despite a breakneck surge in valuation, Goldman strategists believe that AI is not yet in a bubble and is instead “likely to continue to dominate returns.”
The bank’s report highlights that the “Magnificent Seven” – major U.S. tech companies such as Apple (NASDAQ:AAPL), Microsoft (NASDAQ:MSFT), and Nvidia (NASDAQ:NVDA) – now hold a substantial share of the market.
These firms, bolstered by their earnings growth and ability to invest heavily in AI, are not experiencing irrational exuberance compared to the valuations seen during previous bubbles, such as the dot-com bubble of the late 1990s. Their profitability and cash flows justify their valuations, which are far lower than those seen during the tech bubble.
Yet, Goldman Sachs advises caution, as market concentration is at a historic high, with the top 10 companies accounting for over one-third of the S&P 500, while the five largest companies are worth 27% of the total value of the index.
The question arises of whether the current AI-driven surge in tech stocks is becoming a bubble, and even if it is not, whether the risks associated with such high concentration are creating a “dangerous trap” for investors, strategists note.
On the flip side, this could also present an "opportunity to diversify into potential beneficiaries of these technologies through cheaper companies outside of the dominant few," they added.
As such, Goldman believes investors should “look to diversify exposure to improve risk-adjusted returns while also gaining access to potential winners in smaller technology companies and other parts of the market,” such as the old economy, which is expected to enjoy the growth of higher infrastructure spend.