Ready to Invest in Robotics? Your Timing Couldn't Be Better
Written by: Bill Studebaker
Shark Tank’s star investor Mark Cuban was spot on when he stated that, “the world’s first trillionaires are going to come from somebody who masters AI and all its derivatives and applies it in ways we never thought of.” His audience at Austin’s popular SXSW Conference back in March may have trusted his opinion, but only a handful likely understood why that statement is so true—and why that reality may make today the perfect time to invest in robotics.
Clearly, Cuban has seen the writing on the wall. The ingredients of a major and imminent breakthrough are already in place. When that breakthrough does happen, there will be an immediate and massive shift in how every industries and every market functions. What lies at the heart of that change is a dramatic evolution in robotics, automation, and artificial intelligence, or “RAAI.”
While many investors are aware of robotics and AI as a market sector, only those who are aware of how deeply these fundamental technologies extend into every area of our world understand the potential it presents from an investment perspective. That reach can’t be overstated. Just as computers and the Internet created a digital revolution that has transformed how we work, play, and even think, RAAI is bringing about a robotics revolution that promises to be even larger and drive even greater change. If you find that hard to fathom, just take a brief look at some of the drivers of this revolution and how RAAI is already driving major transformation.
Let’s start with e-commerce. E-commerce, or online retail, has far exceeded anything we could have imagined just 10 years ago. In 2007, e-commerce sales accounted for just 3.4% of total retail sales in the US. By the end of Q2 2017, that percentage had jumped to 8.9% percent of retail sales for a grand total of $111.5 billion in e-commerce sales. Today, the projected annual growth rate for e-commerce in the US is over 16%.
In China, those numbers are even more impressive; the country’s e-commerce sales are expected to hit 23.1% of all retail sales in 2017, and that figure is expected to increase to 40.8% by 2021. Of course, this enormous growth has forced manufacturers, distributors, and retailers to step up their game as well, resulting in major investments in robotics technologies.
Amazon, as always, is the biggest and best example. In 2012, Amazon purchased Kiva Systems for a whopping $775 million. That robotics investment helped Amazon earn its place as the current king of retail. As of a year ago, Kiva’s warehousing robots had already cut Amazon’s operating expenses by about 20%, reducing costs by an estimated $22 million for each of Amazon’s fulfillment centers and cutting cycle times from over an hour to 15 minutes or less. As deployment expands to Amazon’s remaining fulfillment centers, the company is expected to achieve close to $1 Billion in one-time cost savings. It’s an example that has quickly become the model across the industry. As Amazon’s competitors (which includes retailer, manufacturers, and distributors alike) strive to follow in their footsteps, demand across the robotics supply chain has skyrocketed.
The healthcare industry’s adoption of RAAI is no less impressive or expansive. Robotic surgery for laparoscopic procedures was first introduced in 1985 and was one of the earliest uses of collaborative robotics. The industry has continued to invest heavily in robotics ever since, relying heavily on surgical robots to enable minimally invasive and remote surgeries that improve patient outcomes, and using AI to transform how doctors deliver care to patients.
The next big wave of innovation in healthcare is expected to come from IBM, who has already invested billions in the development of its Watson supercomputer—a machine designed to meld human expertise with digital speed to give patients highly personalized treatment advice. And while some analysts have questioned IBM Watson’s ability to keep pace with other technology providers, just last month, IBM announced plans a new partnership with MIT, including a $240 Million investment in its MIT–IBM Watson AI Lab which is designed to further AI research and drive scientific breakthroughs that will impact health care and other industries, including cybersecurity. Any critique of IBM Watson’s speed-to-market only underscores the rapid pace of innovation that is taking place in every area of robotics development today.
Big data is another key driver of investments in RAAI, and for many companies their success hinges on their ability to translate data into actionable metrics. Knowing that it has only 90 seconds to capture each customer interaction, Netflix uses AI-generated algorithms to deliver search results that are matched to each user’s viewing habits, saving the company billions of dollars in potential lost revenue. From Facebook to independent retailers, businesses of every size rely on big data to identify and target prospects and drive sales. Google relies on AI to translate the massive amounts of data it collects from the posts, comments, and search queries of its more than 1 Billion users. Just this week, Nvidia announced its new Pegasus platform that can deliver over 320 Trillion operations per second and is designed specifically to support the development of self-driving cars.
Everywhere you look, RAAI is the source of new growth. For those looking for a way to invest in robotics, the ROBO Global Robotics & Automation Index tracks and monitors the ever-evolving space. A year ago, Bill Gates called artificial intelligence the ‘holy grail’ of computing. This past May, he mirrored that sentiment when he urged college graduates who want to make a big impact on the world to consider a career in artificial intelligence. “We have only begun to tap into all the ways it will make people's lives more productive and creative.” Like Mark Cuban, Gates sees the writing on the wall. For investors who share his vision, the future looks quite bright indeed.
All the Talk of an Accelerating Economy and Rising Inflation Just Doesn't Add Up
The biggest news for the markets this week came from the Federal Reserve. On Wednesday, it released the January Federal Open Market Committee meeting notes and they were interpreted as dovish by some and hawkish by others as analysts raced to divine insight from the text.
The recent data isn’t supporting the narrative of accelerating global growth and inflation while equities continue to experience higher volatility. What does it mean for stocks, bonds and yields? Glad you asked! Here’s my take on why all the talk on an accelerating economy and rising inflation just doesn't add up when you look at the data.
Equity Markets — A Relatively Narrow Recovery
The shortened trading week opened Tuesday with every sector except technology closing in the red. The S&P 500 fell back below its 50-day moving average after Walmart (WMT) reported disappointing results, falling over 10% on the day, having its worst trading day in over 30 years.
Walmart’s online sales grew 23% in the fourth quarter, but had grown 29% in the same quarter a year prior and were up 50% in the third quarter. We saw further evidence of the deflationary power of our Connected Society investing theme as the company reported the lowest operating margin in its history.
Ongoing investment to combat Amazon (AMZN) and rising freight costs — a subject our premium research subscribers have heard a lot of about lately — were the primary culprits behind Walmart's declining numbers. To really rub salt in that wound, Amazon shares hit a new record high the same day. This pushed the outperformance of the FAANG stocks versus the S&P 500 even higher.
Wednesday was much of the same, with most every sector again closing in the red, driven mostly by interpretations of the Federal Reserve’s release of the January Federal Open Market Committee meeting notes. In fact, twenty-five minutes after the release of those notes, the Dow was up 303 points . . . and then proceeded to fall 470 points to close the day down 167 points. To put that swing in context, so far in 2018, the Dow has experienced that kind of a range seven times but not once in 2017.
Thursday was a mixed bag. Most sectors were flat to slightly up as the S&P 500 closed up just +0.1%, while both the Russell 2000 and the Nasdaq Composite lost -0.1%. The energy sector was the strongest performer, gaining 1.3% while financials took a hit, falling 0.7%.
The recovery from the lows this year has been relatively narrow. As of Thursday’s close, the S&P 500 is still below its 50-day moving average, up 1.1% year-to-date with the median S&P 500 sector down -1.0%. Amazon, Microsoft and Netflix alone are responsible for nearly half of the year’s gain in the S&P 500. The Russell 2000 is down -0.4% year-to-date and also below its 50-day moving average. The Dow is up 78 points year-to-date, but without Boeing (BA), would be down 317 points as two-thirds of Dow stocks are in the red for the year.
Fixed Income and Inflation — the Coming Debt Headwind
The 1-year Treasury yield hit 2.0%, the highest since 2008 while the 5-year Treasury yield has risen to the highest rate since 2010, these are material moves!
What hasn’t been terribly material so far is the Fed’s tapering program. It isn’t exactly a fire sale with the assets of the Federal Reserve down all off 0.99% since September 27 when Quantitative Tightening began, which translates into an annualized pace of 2.4%.
As for inflationary pressures, U.S. Import prices increased 3.6% year-over-year versus expectations for 3.0%, mostly reflecting the continued weakness in the greenback. The Amex Dollar Index (DXY) has been below both its 50-day and 200-day moving averages for all of 2018. The increase in import prices excluding fuel was the largest since 2012 and also beat expectations. Import prices for autos, auto parts and capital goods have accelerated but consumer good ex-autos once again moved into negative territory.
Outside the U.S. we see little evidence that inflation is accelerating. Korea’s PPI fell further to 1.2% - no evidence of rising inflation there. In China the Producer Price Index fell to a 1-year low – yet another sign that we don’t have rising global inflation. On Friday the European Central Bank’s measure of Eurozone inflation for January came in at 1.3% overall and has been fairly steadily declining since reaching a peak of 1.9% last April. This morning we saw that Japan’s Consumer Price Index rose for the 13th consecutive month in January, rising 0.9% from year-ago levels. Excluding fresh food and energy, the increase was just 0.4% - again, not exactly a hair-on-fire pace.
The reality is that the U.S. economy is today the most leveraged it has been in modern history with a total debt load of around $47 trillion. On average, roughly 20% of this debt rolls over annually. Using a quick back-of-the-envelope estimate, the new blended average rate for the debt that is rolling over this year will likely be 0.5% higher. That translates to approximately $250 billion in higher debt service costs this year. Talk about a headwind to both growth and inflationary pressures. The more the economy picks up steam and pushes interest rates up, the greater the headwind with such a large debt load… something consumers are no doubt familiar with and are poised to experience yet again in the coming quarters.
The Twists and Turns of Cryptocurrencies
The wild west drama of the cryptocurrency world continued this week as the South Korean official who led the government’s regulatory clampdown on cryptocurrencies was found dead Sunday, presumably having suffered a fatal heart attack, but the police have opened an investigation into the cause of his death.
Tuesday, according to Yonhap News, the nation’s financial regulator said the government will support “normal transactions” of cryptocurrencies, three weeks after banning digital currency trades through anonymous bank accounts. Yonhap also reported that the South Korean government will “encourage” banks to work with the cryptocurrency exchanges. Go figure. Bitcoin has nearly doubled off its recent lows.
Tuesday the crisis-ridden nation of Venezuela launched an oil-backed cryptocurrency, the “petro,” in hopes that it will help circumvent financials sanctions imposed by the U.S. and help improve the nation’s failing economy. This was the first cryptocurrency officially launched by a government. President Nicolás Maduro hosted a televised launch in the presidential palace which had been dressed up with texts moving on screens and party-like music stating, “The game took off successfully.” The government plans to sell 82.4 million petros to the public. This will be an interesting one to watch.
Economy — Maintaining Context & Perspective is Key
Housing joined the ranks of U.S. economic indicators disappointing to the downside in January with the decline in existing home sales. Turnover fell 3.2%, the second consecutive decline, and is now at the lowest annual rate since last September. Sales were 4.8% below year-ago levels while the median sales price fell 2.4%, also the second consecutive decline and this marks the 6th decline in the past 7 months. U.S. mortgage applications for purchase are near a 52-week low.
Again, that’s the latest data, but as we like to say here at Tematica, context and perspective are key. Looking back over the past month, around 60% of the U.S. economic data releases have come in below expectations and this has prompted the Citigroup Economic Surprise Index (CESI) to test a 4-month low. Sorry to break it to you folks, but the prevailing narrative of an accelerating economy just isn’t supported by the hard data. No wonder that even the ever-optimistic Atlanta Fed has slashed its GDPNow forecast for the current quarter down to 3.2% from 5.4% on Feb. 1. We suspect further downward revisions are likely.
Looking up north, it wasn’t just the U.S. consumer who stepped back from buying with disappointing retail sales as Canadian retail sales missed badly, falling 0.8% versus expectations for a 0.1% decline. Over in the land of bronze, silver and gold dreams, South Korean exports declined 3.9% year-over-year.
Wednesday’s flash PMI’s were all pretty much a miss to the downside. Eurozone Manufacturing PMI for February declined more than was expected to 58.5 from 59.6 in January versus expectations for 59.2. Same goes for Services which dropped to 56.7 from 58 versus expectations for 57.7. France and Germany also saw both their manufacturing and services PMIs decline more than expected in February. The U.K. saw its unemployment rate rise unexpectedly to 4.4% from 4.3%
The Bottom Line
Economic acceleration and rising inflation aren’t showing up to the degree that was expected, and this was a market priced for perfection. The Federal Reserve is giving indications that it will not be providing the same kind of downside protection that asset prices have enjoyed since the crisis, pushing markets to reprice risk and question the priced-to-perfection stocks.
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