It's hard to go to any investing-focused site without being bombarded by artificial intelligence (AI) headlines. I'm just as guilty of providing AI-focused content as others, but it's a massive trend in business. However, with all the hype surrounding AI, it's easy to get pulled in and think it's your one-way ticket to becoming rich.
So before you purchase a portfolio of AI stocks, here's one investment you must consider first.
AI has a lot of trends similar to other hyped-up technologies
AI is certainly a trend, but its hype isn't too different from the "work-from-home", metaverse, or the "3D printing stocks" trends we've witnessed in the past five years or so. When these themes were significant, it was common to hear, "no one is going back to the office," "everyone will socialize in the metaverse," or "everyone will have a 3D printer in their home." Now, you'll hear, "everyone will have an AI assistant to improve productivity."
To me, that sounds like an age-old promise that new technology will be life-changing, and we're just a few years away from a completely different society. As a result, investors drive up prices on any stock with a hint of AI in its product roadmap.
The issue with this hype cycle is that it doesn't last. Just look at how ETFs focused around work-from-home, metaverse, and 3D printing have done.
Don't get me wrong; AI isn't a useless tool. Many companies have integrated AI technologies into their products that work behind the scenes to process loads of data to deliver the best result. However, large language models (LLMs) that power most chatbots or digital assistants may be just a flash in the pan.
But I could also be wrong, and these companies could end up being portfolio-defining investments.
So how can you know now if AI is a bubble or a fundamental technological shift? The sad answer is that you can't. That's why loading up on AI-centric stocks in your portfolio isn't a good idea.
So what should you buy instead? How about a good, old-fashioned index fund?
An index fund is still your best friend
An index fund like the Vanguard 500 Index Fund (VOO 1.00%) or Vanguard Total Stock Market Index Fund (VTI 0.93%) may be a better place to start. These two track the S&P 500 and the U.S. stock index, respectively. By purchasing these two, you gain instant diversification into all corners of the market.
Furthermore, you have exposure to AI through these two. For example, Nvidia, one of the primary beneficiaries of AI proliferation, makes up 2.65% of the Vanguard 500 fund. Its market-leading GPUs (graphics processing units) power computers that create AI models. In addition, Microsoft, Alphabet, and Meta Platforms -- three companies with significant investments in AI -- make up about 7%, 4%, and 1.4% of the fund, respectively.
The Vanguard 500 only tracks the 500 largest companies listed on U.S. stock exchanges, while the Vanguard Total Stock Market Fund includes all U.S.-listed companies. Because of that, it includes smaller players like Palantir Technologies and CrowdStrike, which have long integrated AI into their products.
Now, if you find a compelling AI investment, it's not wrong to take a small position in addition to an index fund. However, it shouldn't be the focus of your entire portfolio. More investors have lost a significant portion of their portfolio investing in trendy themes than have been made rich.
If AI turns out to be a game changer, these indexes will also benefit. If it is a flop, these indexes will continue chugging along, as other industries like healthcare or industrials will prop them up as the technology side suffers.
Investors cannot know how much AI will change the world in the next few years. Unless you are a sophisticated investor, your portfolio shouldn't be heavily levered to a trend that may not be a big deal just three years down the road.
