Investors looking to tap into the stock market's artificial intelligence boom in their own way are finding an interesting banking opportunity in utilities, traditionally the most boring area of the stock market.
AI is the latest buzzword, and companies from chipmakers to computer equipment manufacturers to car companies are trying to paint their companies the colors they want. As investors saw last week, that's also been the driving force behind the stock's recent rally.
On Thursday, Metaplatforms Inc.'s stock suffered its worst performance since October 2022 after the company announced it would spend much more than expected on AI development. And on Friday, Google's parent company Alphabet's market valuation soared past $2 trillion, while Microsoft's stock rose after both companies showed progress in AI in their quarterly results.
But the thing about AI technology is that it requires a lot of energy to develop and run. That's where utilities come in.
“The demand for power from data centers was already huge, but then the AI boom hit and the need for power skyrocketed,” said Sr. Vice President and General Manager of Cloud, Applications and Infrastructure Solutions at Unisys Corp. says Manju Naglapur. The amount of power consumed by data centers will increase significantly. ”
The utilities sector of the S&P 500 index fell 10% in 2023, its worst year since 2008, and was the weakest group among the equity benchmarks, which rose 24% overall. This wasn't necessarily a shock, given that companies tend to do worse during periods of high interest rates.
The stock rebounded slightly in 2024, rising 4.4% as cost management offset higher refinancing costs and record capital spending. But the biggest change in sentiment toward power companies is the expectation of a surge in demand from new data centers that consume the power needed to power AI expansion.
maximum driving force
Ryan Levine, head of utilities at Citigroup, said: “The AI story is capturing the most interest from investors. AI has the potential to be the industry's biggest driver.” .
Across the U.S., utilities are preparing for historic increases in power demand driven by data centers and AI. The companies are also planning new power plants and transmission lines outside of their data center array in Northern Virginia, where Dominion Energy suspended new data center connections in 2022 due to grid constraints.
Exelon CEO Calvin Butler recently said that artificial intelligence is expected to cause demand for electricity from data centers in the Chicago area to jump 900%, which would require more power than the power produced by about four nuclear power plants. He said the same amount of electricity could be needed. Southern expects its electricity sales to rise to a 6% annual growth rate, with about 80% of that coming from data centers.
This explains why Goldman Sachs Group has created two investment baskets, Power Up America and Data Center Equipment, for clients looking for alternative ways to respond to the coming AI explosion. Masu. The bank does not reveal the stocks in its basket, but it selects companies based on four categories: unregulated and regulated utilities, smart grid infrastructure, and raw materials for power generation.
“Along with Goldman's broad AI baskets, we think these themes will be the most popular over the next few years,” Faris Murad, the firm's vice president of U.S. custom baskets, said in a phone interview.
So far this year, the Power Up basket is up about 28% and the data center equipment basket is up more than 18%. The tech sector of the S&P 500 index, which is typically a high-flyer, is up just 8.3% in 2024, while communications services, which includes social media companies, are the best-performing group in the index with a 17% gain. Considering this, these are quite high numbers.
Meanwhile, Murad expects Power Up America Basket's profit at the end of 2024 to be 21% higher than originally expected in January 2023, and expects the company's profit to increase further going forward.
Extending the source
Energy availability is a key consideration when data center operators decide where to build. Typically, they go to their local power company, discuss how much power they need, and then the power company seeks approval to build a new power plant or purchase power from a third party. For example, Georgia Power, the largest subsidiary of utility holding company Southern, recently received approval from the Georgia Public Service Commission to expand its capacity by 1.4 gigawatts to meet demand from data centers and other businesses.
“We are recommending Southern's acquisition based on this argument,” Citigroup's Levine said.
Access to renewable power sources is also an advantage. Aaron Dunn, co-head of value equity and portfolio manager at Morgan Stanley Investment Management, builds renewable energy generation for his company's utilities division and develops renewable energy for other companies. I like NextEra Energy, which also operates
“We believe renewable energy and storage are key enablers to meet this increased demand,” NextEra CEO John Ketchum said on Tuesday's first-quarter earnings call. . “The U.S. renewable energy and storage market opportunity could triple in the next seven years compared to the past seven years.”
As data center developers seek cheaper locations, Dunn expects the Midwest to become a hub of activity, where land is cheaper than in other regions. “It also benefits companies like CMS Energy Corp. that operate in Michigan,” he said.
In fact, CMS said during Thursday's earnings call that it has signed a contract for a new 230-megawatt data center and that other companies are also considering building in Michigan.
Of course, all this demand only benefits the utility company if it can produce enough power to match it. Many energy experts are concerned that the U.S. power grid is unprepared to handle the onslaught. As a result, some investors are eyeing companies brought in to help power grids adapt to the new high-energy environment.
“This is going to be a real challenge for traditional utilities,” said Walter Todd, chief investment officer at Greenwood Capital Associates, which owns stocks in Eaton and Hubbell, among others. “The real beneficiaries of this data center power usage will benefit from the funds spent on grid upgrades.”