Valuations Matter: Discipline During an AI-Fueled Market
In the modern market, there is an increasing number of headlines pertaining to the next big stock, and with Artificial Intelligence being developed at an increasingly rapid pace, companies related to this economic sector are catching the most attention. If I asked you to tell me the name of a GPU or memory producer, I am sure a few would come to mind, and some of them have likely increased significantly in market value, seemingly overnight. Many of these companies strive to build the best product, bring it to market, and be the premier name in supplying AI datacentres as well as consumer and enterprise solutions. Unfortunately, the bottleneck in manufacturing has bought about some challenges as technology development demands increased production, but the facilities are not yet in place to meet demand. This is a classic case of supply and demand, where demand has far exceeded supply and the estimation to resolve bottlenecks is not measured in months, but rather in years with relief potentially expected to begin in late 2027 or 2028. During this time, companies will likely continue to see rising stock prices as well as rising prices for us as consumers until the bottleneck is resolved. The caveat to such excitement in the market is that if earnings do not meet expectations, the market can, and often harshly punishes these companies with a sharp sell off.
Knowing this, I want to review one of the most important concepts in long term investing: valuation. While valuation may sound like a technical term reserved for analysts, accountants, and portfolio managers trying to determine the value of a business, it is one of the most important determinants of long-term investment success. Simply put, valuation is the price we are paying today for the future profits, cash flows, assets, and growth potential of a company. It is the bridge between a great business and a great investment, and as we have seen many times throughout market history, the two are not always aligned despite how great an industry or business may be.
Before diving into the current environment driving many headlines, I want to re-establish that our approach remains rooted in discipline, structure, and long-term thinking in alignment with your long-term financial objectives. We continue to manage your portfolios with a clear understanding of your objectives, whether that be income, growth, capital preservation, or a combination of all three. Equities remain an important part of long-term wealth creation, particularly for those with a longer investment time horizon, but not all equities are created equal, and not every hot stock that goes up is worth chasing.
The current market has been heavily influenced by the continued development of artificial intelligence. AI is no longer a niche technology highlighted in science fiction or discussed only by software developers or venture capital firms, and it hasn’t been for some time. It is now a daily topic around the world that often dominates headlines. It has become a major driver of corporate spending, government policy, data infrastructure, energy demand, semiconductor production, and investor enthusiasm. Morgan Stanley Research estimates that nearly $3 trillion of AI-related infrastructure investment will flow through the global economy by 2028, with more than 80% of that spending still ahead. Goldman Sachs has also noted that AI infrastructure beneficiaries are expected to account for roughly half of S&P 500 earnings growth this year.
These are not small numbers, and they should not be dismissed. AI and its associated technology is real and here to stay, and the productivity potential may prove to be very real over time. However, as investors, the question is not simply whether AI will change the world. The more important question is whether the price being paid today for AI-related companies properly reflects the profits those companies can reasonably generate in the future. This distinction is critical because markets can take a good idea, extrapolate it too far, and then price companies to their best-case scenario, only for it to falter at the next earnings report.
This is where valuation comes in. When we buy a publicly traded company, we are not buying a story, a headline, or a theme. We are buying a share of a real business. That business has revenues, expenses, profit margins, debt, assets, competitive pressures, reinvestment needs, and ideally, free cash flow. Valuation asks a very simple question: what are we paying for those fundamentals? A company can be innovative, dominant, and essential to the future, but if the price already assumes extraordinary growth for many years, the stock can still disappoint even if the business itself continues to do well. This is often one of the hardest concepts for investors to accept because the market can be correct about the company and wrong about the stock at the same time as the company may be hemorrhaging money and experiencing net losses, but the market may still drive the price upward.
We have seen this before. During past technology cycles, there were companies that genuinely changed the world, but investors who paid extreme prices still had to endure years of poor or negative returns before the underlying business fundamentals caught up to the original market excitement. The internet was real in the late 1990s, but not every internet stock was worth the price investors were willing to pay at the time. Railroads, automobiles, telecommunications, and smartphones all reshaped economies, but each investment cycle had winners and losers as well as periods where enthusiasm ran ahead of profits. I can’t help but think of a statement that my father used to tell me. He was an ardent follower of Warren Buffett who once said; price is what you pay, but value is what you get.
The challenge with elevated valuations is that they require fundamentals to deliver. When a company is priced modestly, investors do not need perfection. The business can grow steadily, earnings can compound, dividends can be paid, and shareholders can still do well. However, when a company is priced for exceptional growth, anything less than exceptional can create disappointment. The more investors pay today for tomorrow’s promise, the more vulnerable a stock becomes to even a small change in expectations. A company can beat earnings, raise revenue, and still decline if the market had already priced in something even better.
This is particularly relevant in the AI marketplace. Goldman Sachs has noted that the average stock in its basket of AI infrastructure companies returned 44% year-to-date, compared with only a 9% increase in consensus two-year forward earnings-per-share estimates for that group. That gap is important. When stock prices rise much faster than earnings expectations, it means investors are increasingly paying for future growth that has not yet fully appeared in the numbers. Sometimes that future growth arrives and justifies the valuation, and other times, it does not, and investors pay the price in the form of share price declines.
This is not to say we should avoid AI or related entities entirely. Quite the opposite. AI will likely remain one of the most important investment themes of the next decade, and there will be real winners across semiconductors, data centres, energy infrastructure, software, cybersecurity, automation, industrials, and companies that use AI to improve productivity. J.P. Morgan has noted that technology exposure remains an important part of equity allocations, but that it requires careful risk management because it is still too early to know whether the current level of AI capital spending will deliver sufficient returns on investment.
What this means for you is that we want to participate in the opportunity without abandoning discipline. There is a major difference between investing in the AI theme through companies with strong balance sheets, sustainable cash flow, reasonable valuations, and clear paths to profitability, versus chasing the hottest stock simply because it has gone up the most. One is investing; the other is speculation.
Another factor to consider is that the AI buildout is capital intensive. Data centres require land, power, cooling, chips, networking equipment, and large amounts of financing. As capital expenditures rise, companies must fund that spending through cash flow, debt, partnerships, or equity issuance. The Bank for International Settlements has highlighted that AI-related investment is surging and that anticipated investment needs may require firms to shift from funding through operating cash flows toward debt, with private credit playing a larger role. This AI boom also depends on AI firms meeting high earnings expectations, and that equity prices running far ahead of debt market pricing underscores the tension in the current environment.
This is why balance sheets, cash flow, and return on invested capital matters. The ability to convert spending into durable earnings matters in an era where a press release mentioning AI can move a stock price. We must remember that over the long term, businesses are valued on what they earn.
There are plenty of opportunities in this environment, but they require selectivity. We see opportunities in companies that provide the picks and shovels of the AI buildout, but only where pricing power and earnings growth support the valuation. We see opportunities in companies adopting AI to increase productivity, but only where those improvements can translate into real margin expansion or stronger cash flow. We see opportunities outside the obvious mega-cap technology names, particularly in areas such as power infrastructure, grid modernization, cooling systems, cybersecurity, industrial automation, and select global semiconductor supply chains. However, we also see areas where valuations have become stretched, where investor expectations have become aggressive, and where the market may be rewarding future possibilities before the fundamentals have had a chance to confirm them.
This is where portfolio structure becomes so important. A disciplined portfolio is not built by chasing yesterday’s winners. It is built by owning a thoughtful mix of assets that can work across different market environments. That means maintaining exposure to long-term growth themes like AI, while also ensuring portfolios are diversified across sectors, geographies, asset classes, and investment styles. It means holding companies that can compound earnings over time, but also maintaining fixed income, income-producing investments, and more defensive positions where appropriate. It means rebalancing when positions become too large, trimming where valuations become excessive, and adding where quality businesses are temporarily overlooked.
I recognize that this can feel counterintuitive. When a particular theme is working, the temptation is always to own more of it. When headlines are dominated by AI winners, semiconductor rallies, and technology giants reaching new highs, it can feel as though discipline is costing us opportunity. However, long-term investing is not about capturing every last dollar of a momentum trade. It is about building and preserving wealth through full market cycles. The goal is not to be the most aggressive investor in the room during a rally; the goal is to be the investor who can stay invested, avoid permanent capital impairment, and benefit from compounding over time.
The lesson here is not that AI might be a bubble, nor is it that markets are doomed to fall. The lesson is that valuation matters most when excitement is highest. As your Portfolio Manager, my job is to remain disciplined in both positive and negative economic environments. We do not want to be paralyzed by fear, but we also do not want to be blinded by excitement.
As your partner and guide in wealth creation, we continue to monitor valuations, earnings growth, balance sheets, cash flow trends, and the relationship between market pricing and business fundamentals. We cannot control how much enthusiasm the market applies to AI, nor can we control whether investors chase returns in the short term. What we can control is our response and our emotions to prevent corroding our investment framework. We can remain proactive, maintain structure, diversify intelligently, focus on quality, and ensure the portfolios we build are designed not only to participate in growth, but also to withstand the volatility that often comes when expectations get too far ahead of reality. The marketplace will continue to create winners that will serve you well over the years to come, and we want to own the right ones at the right price. History has shown us that discipline, patience, and valuation awareness are what separates long-term investment success from short-term speculation. Chasing returns may feel rewarding in the moment, but over a full market cycle, structure and control of one’s emotions wins every time.
Written By: Adam Prittie
