HUB EXCLUSIVES PANEL DISCUSSION
Panel discussion, hosted by Cherry Reynard, with:
Mike Riddell, Portfolio Manager, Strategic Bond Fund, Fidelity Investments
Robert Baltzer, Head of Credit Research and Co-manager of the Strategic Bond Strategy, Baillie Gifford
The impact of AI on equity markets has been widely interrogated. The impact for bond markets is more complex. Corporate bond investors need to look at the impact on individual companies and their ability to pay back debt, while sovereign investors need to look at the long-term impact of AI spending on economic growth and debt levels. How are strategic bond investors adapting?
Robert Baltzer, co-manager of the Baillie Gifford Strategic Bond fund, says that AI is an increasingly important part of the group’s analysis: “It takes up a lot of headspace for us. It has been a huge equity phenomenon and it’s now in the share prices of the expected winners – Nvidia etc. Valuations of private companies like OpenAI. It is a rapidly advancing general technology. It’s going to be very disruptive of existing businesses. Productivity enhancements across existing businesses and it’s going to create new businesses that we haven’t thought of.”
He sees it impacting on bond investors in a range of different ways. The first question is whether the significant investment is likely to pay off. Microsoft, Alphabet, Amazon, and Meta alone intend to spend a combined $320 billion on AI technologies and infrastructure in 2025 . Bond investors will need reassurance that they can recoup this investment.
Baltzer says: “Hundreds of billions of Dollars have been deployed, across data centres, computer chips - to power this hoped-for revolution. The question is going to turn on whether companies can generate the revenues they need to pay the bill when they come to pay the interest on the borrowing. That is an open question. The magnitude of investment is massive. We’re looking very closely at any proposition that is premised on revenue from AI investment.”
Even outside the direct AI plays, almost every company they look at is seeing some impact from AI. As a result, understanding how AI is helping or disrupting their businesses is important. Baltzer says: “The impacts are different to what we’ve seen previously. This is much more focused on the service sector, so businesses that have done well from previous waves of innovation. Some incumbents will need to completely rethink their business models. If you’re running call centres, for example, your AI competition has really improved and your value proposition has changed.”
The job of investing has also changed. Baltzer admits that his day to day role changed little for 20 years, but has shifted significantly in the last 12 months. “The core processes of analysis, decision making, portfolio construction, trading. All those things are starting to be affected by AI. We’re busy incorporating new tools to get new insight more quickly.”
Macroeconomic impact
There is a bigger question over what AI changes are likely to mean at the macroeconomic level. While there has been relatively little impact on areas such as productivity, growth, inflation, or employment numbers yet, this may be about to arrive. Is it possible that this is the reason US growth and jobs data are diverging for example?
Mike Riddell, portfolio manager on the Fidelity Strategic Bond Fund, says investors need to exercise caution: “AI is tied up with US exceptionalism because a lot of AI is in the US. This is where I’m more cynical. There has been very strong growth in the US over the last seven or eight years – it has grown faster than any other developed market and it has sucked up capital from around the world. People who might have lent to Turkey have directed capital to US technology. It’s what’s been driving the US Dollar. This huge boom in the US has gobbled up capital from elsewhere.”
However, he believes the AI boom may have distorted the view of the US. “Growth has been so strong, not necessarily because of some huge productivity gains in the US or because of AI, but because of these massive fiscal deficits. Its strength is linked much more to running huge fiscal deficits when the economy has been fine. That is not to say that we won’t see gains from AI, but it’s a question of valuation and the narrative. The boom is in danger of becoming a bubble. The US is not quite as exceptional as people think, and we may find that out over the next year or so.”
That said, over the medium term, AI may dampen inflation and stimulate growth and that should be good news: “Lower inflation is good for everything – good for equities, good for bonds, and better growth is good as well. I’m not anti-AI, it’s just about what’s priced in, where the capital is going and what the returns are for investors like us.”
There have been concerns that US growth is too reliant on AI, where demand is still unclear. If this is the case, any suggestion that the long-term trajectory of AI may not pan out as planned could unleash a nasty shock. Either way, it is not just equity markets who need to pay attention to the long-term outlook for AI.
