Inside Bank of England’s Warning: AI Valuations Echo Dotcom Era, But With Real Revenue

Are AI stocks still an intelligent investment?

At its October meeting, the Bank of England’s financial policy committee noted that measures of risk premia across many asset classes had tightened since June.

It concluded that equity market valuations appear stretched on a number of measures “particularly for technology companies focused on artificial intelligence” and that when combined with increasing concentration within market indices, this “leaves equity markets particularly exposed should expectations around the impact of AI become less optimistic.”

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The committee is also not alone in expressing concern around concentration of US equities, with the five largest companies on the S&P 500 now accounting for almost 30% of market share – the highest level since the mid-1980s.

Parallels have been drawn with market conditions prior to the dotcom crash at the end of the last century, particularly the sharp rise in tech stock valuations and speculative trading as well as the extensive use of circular financing – of which vendor financing was a key feature in the late 1990s.

As with most tech sector stocks, AI company valuations are based on expectations of future adoption. Many investors remain confident that when it comes to artificial intelligence, Amara’s law (that the effect of a technology is overestimated in the short run and underestimated in the longer term) will come to pass.

There are significant potential obstacles to these valuations being realised though. Competition could increase and constraints on resources such as power and water could hold back infrastructure development, while new models for delivering services could render some of the anticipated infrastructure requirements obsolete.

However, there will still be winners and it should be noted that some of the biggest names in this space have heavyweight backers. There is also a sense among market veterans that investment is much more focused on companies with a solid businesses model than it was at the height of the dotcom boom.

With a September report from JP Morgan noting that AI-related capital expenditure was a more significant factor than consumer spending in US GDP growth that month, maybe investors should just strap and enjoy the ride.

24-hour party people

In an increasingly interconnected world, enabling round-the-clock stock trading has long seemed like a logical progression.

Earlier this month, trading of US equities between 4 a.m. and 8 p.m. ET commenced on 24X National Exchange. The exchange says it plans to offer 23-hour weekday trading in the second half of next year.Rachel Reeves, the UK's Chancellor of the Exchequer, Source: Wikipedia

National securities exchanges including NYSE, Nasdaq and CBOE intend to follow suit and in March, DTCC subsidiary National Securities Clearing Corporation announced that it would increase clearing hours to support extended trading with implementation targeted for the second quarter of 2026.

In September, IG launched 24/5 trading on 110 of the most popular US stocks for UK investors.

These organisations are looking to tap into demand for longer trading hours from investors in regions where traditional US market hours are not convenient as well as from institutional investors who are not able to tap into the alternative trading systems and retail brokerages that already offer round-the-clock trading.

However, there is recognition from industry groups of the need to allow market participants to opt in or out of offering this extended window to their clients, so that firms can invest in offering extended trading hours in a manner commensurate with their business needs.

There is also acknowledgment that 24-hour trading is not suitable for every type of trader. For example, volumes will inevitably be lower in the middle of the night, which can increase the risk of price slippage and widen spreads as well as making it more difficult to fill orders.

Then there is the matter of volatility. In a low trading volume environment there is greater scope for exaggerated price swings – which can create opportunities to pick up stocks below true market value but also make it difficult to assess that value.

There is also the human factor. Trading is already stressful and if markets never close, the risk of burnout will be that much higher. As my mother used to say, you can’t put a price on your health.

Think twice before taking credit

Andrew Bailey, Governor of the Bank of England

Over recent months we have observed various instances of discord between the UK’s most senior banker and the government’s chief finance minister, perhaps most notably over the merits of a digital pound.

The latest example relates to the equally contentious topic of private credit, where high profile credit defaults in the US automotive sector have highlighted concerns around high leverage, weak underwriting standards, opacity and complex structures.

Andrew Bailey, governor of the Bank of England, told a recent House of Lords committee that the failure of First Brands and Tricolor could be indicative of a wider malaise in the private credit market. He suggested that investors consider whether these incidents are telling us something more fundamental about the private credit sector.

The Bank of England has said it will conduct a simulation to explore the connections between the private credit market and other parts of the financial system.

Meanwhile, Rachel Reeves remains committed to making it easier for retail investors to get access to long-term asset funds and by extension to asset classes such as private credit.

The UK chancellor has secured a commitment from 17 UK workplace pension providers to invest £50 billion – a minimum of 10% of defined contribution default funds – to private investments over the next five years, which includes private credit. This aim of this initiative is to increase investment in private assets for higher potential returns, with the hope of benefiting the UK economy and pension holders.

Research suggests growth in private investments will outpace that of public assets over the coming years. However, that growth is likely to be uneven and some funds feel that the market is unattractive at a time when interest rates are relatively high.

Reeves would love a rate cut ahead of next month’s budget – but that is yet another area where government and central bank are not on the same page.