New Tech To Watch: The Cloud is the New iPhone

To Clode, managing a tech thematic fund is no different from investing in other sectors, as he says, “Just because we’re [investing in] tech doesn’t mean we’re special and that suddenly all of that [fundamental analysis] goes out the window. What defines the returns of our fund versus other funds is the exposure to unprofitable tech. [Some funds] are down 75% from peak to trough, which is pretty much exactly the Nasdaq drawdown from the dotcom crash.” His portfolio went into 2021 with 3% of the portfolio assets in unprofitable stocks – half of which was Uber (UBER).

A Tech Fund that Steers Away from Unprofitable Businesses

Clode does not blindly chase new technology.

“We’ve owned Amazon and Netflix and many cloud software names that have been unprofitable in the past. But we’ve always had very high conviction in the next, maximum of, three years, they’re going to turn profitable. And, within five years, they can generate enough profit to justify the price-to-earnings ratio, and that’s reasonable to justify our target price.”

With cash and profit, he thinks of it as a flywheel effect – a virtuous loop that starts with some small wins, which can accumulate and compound over time. “There are two different flywheels one that we like and one we don’t.”

“The flywheel that we like, and we think is virtuous, is you make significant profits as a company, you then reinvest those profits or you have the capability to invest a significant amount in R&D to drive innovation, which is going to drive your future product cycle. Then all your customers want to go and buy and that drives significant future growth.

Amazon (AMZN), representing 4.79% of assets in his US$ 1.3 billion portfolio, is one example and Clode says: “Amazon had an e-commerce business that ultimately helped fund its move into the cloud, which is now funding the company’s move into advertising.”

He continues: “But, we don’t like being handed a billion-dollar cheque by SoftBank subsidizing and buying a bunch of customers and then doing the whole process again. That’s not sustainable when those cheques stop.”

To not get caught up in the over-exuberance and hype, there are three things to validate, says Clode –

- Is the technology trend “real”?

- Is the technology going to drive significant profit growth in the next few years, rather than only take off in some hopeful long-term horizon?

- Lastly, are stocks reasonably valued within that?

Another Stock that Delivers Promises: Uber

The portfolio’s eighth-largest holding, Uber is another stock Clode likes, and he thinks it is not as appreciated as Amazon. 

He explains: “Uber is very well known but hasn't performed particularly well since its IPO back in 2019. But it is a company that is in a large market, has a very dominant position in what it does, and now has a combination of nice top-line growth and a significant margin and profit expansion.”

The stock is marching toward potential inclusion in the S&P 500 as soon as next year as the company’s financials check all but one more box to be eligible for consideration of the widely tracked U.S. benchmark.

In the past, Uber was not considered a traditional technology company. But that is changing. “Now, it’s profitable and it’s going to go into some major indices and is going to pay some shareholder returns. Given the size of it, I think investors are going to have to pay some attention to it,” Clode says. In August, Clode topped up his bet on the stock, and bought another 190,163 shares of Uber to put the stock’s weight at 2.95%.

How Can You Tell Whether You’re Chasing a Fad?

When the boxes of financial health are checked, the more complex question comes: How to confirm whether the technology is ‘real.’

Clode defines it this way. “You will have heard me be a cynic on the metaverse, on crypto, on blockchain, on virtual reality, on many things over the years… Whenever we look to assess the technology, we always think about what’s the problem it’s trying to solve. And that would be my number one question to anyone who is very bullish on crypto – what’s the technology trying to solve for?” he asks.

He says cryptocurrencies and blockchain technology were meant to be the way people pay. “It turned out Visa and MasterCard have solved for that – we already have digital payments. Cryptocurrencies, meanwhile, are not good as payments, are more prone to fraud, and took too long to process payments. Simply put, it’s not as good as existing technologies.”

Two Technologies That Are the Next Disruptors

According to Clode, some previous ‘real’ and proven technologies were ones that took a greater share of the global economy by growing profits faster than the rest of the market. The most recent ones are the rise of the Internet, smartphones, and the disruption in online retail. After these, he thinks the cloud is the next thing that’ll evolve at a record speed to shape productivity and efficiency.

“We’ve said that the cloud is real, the shift to the public cloud is real. The shift to generative AI and the inflection there is real… And once you identify those key technology inflections, that’s a great opportunity set for you to pick stocks that are going to perform well.”

Clode says. “In my career, this is the most exciting thing that happened since the launch of the iPhone.”

The second thing Clode highlights is AI. “I think what excites tech firm management about AI the most is that it’s very monetizable, something that’s a bit different to some of the hype cycles we’ve seen in the past.” He marries both technologies, saying, “You’ve got to have your data all accessible in one place and that’s going to be in the cloud – and you’re going to be leveraging a lot of AI tools in the cloud,” he says.

Additionally, capital expenditure spending to build out this AI infrastructure is set to rise. “You see in that Open AI, you’ve seen that at Microsoft and you’re now other are following suit, launching these products into commercial availability. That’s what’s giving them the confidence to invest against that potential.”

Forget About the FAANGS, We Need New Acronyms for AI Leaders

While the trajectory is appealing, Clode calls for caution from “getting caught up in the over-exuberance and hype,” and explains that future leaders might not look the same as today. 

“We’re still in early days. I don’t think all these products are going to be universally successful, but you are seeing a very rapid revenue ramp. And [the growth] probably won’t be linear, but I’m sure there’ll be some setbacks along the way.”

He foresees: “We’ll end up coming up with a new acronym for the AI world and it won’t just be the FAANGs. There will be a different acronym that will capture the key beneficiaries of that. We’ve probably seen Nvidia replace Netflix in terms of that N, but I’m sure there’ll be some other names.”

He also expects the gains to spread out from concentrating on Nvidia (NVDA) to a broader set of beneficiaries as the market is “constantly and dynamically assessing how these franchises look in an AI world.”