The market turbulence of 2022 marks the worst performance in recent years by Wall Street but is quickly becoming a distant memory. After plunging more than 35% last year, the Nasdaq Composite has bounced back up 43% so far this year (as of Tuesday's market close).
History suggests the current rally will continue. Going back as far as 1972 -- the first full year of trading for the Nasdaq -- in every year after a market recovery, the tech-heavy index has risen 19%, on average, illustrating the potential for additional upside.
Helping lead the charge this year are the vaunted stocks of the so-called "Magnificent Seven," which have outpaced the broader market by a wide margin:
- Nvidia: Up 239%
- Meta Platforms: Up 191%
- Tesla: Up 109%
- Amazon: Up 83%
- Microsoft (MSFT 0.78%): Up 56%
- Alphabet: Up 55%
- Apple: Up 52%
The common thread that joins these companies is their tie to artificial intelligence (AI), which is widely credited with sparking this year's stock market rally. This has many people scrambling to invest in the companies best situated to profit from this secular tailwind. One such company is Microsoft, and while it's been on fire in 2023, there could be much more to come.
Image source: Getty Images.
A new sheriff in town
AI has been around in some form or another since the early 1950s, but recent developments have sparked renewed interest among investors. Specifically, advances in generative AI and the underlying large language models (LLMs) found a vast audience because of the wide variety of time-saving applications. These include summarizing emails and drafting and editing responses, searching company databases and the internet for answers, and writing and troubleshooting computer code, among others -- and big tech and start-ups alike are working on new applications every day.
After making a $13 billion investment in ChatGPT parent OpenAI, Microsoft quickly infused many of its flagship products with AI capabilities, intent on increasing productivity for users. These moves were partially the reason for the mad dash to adopt AI that followed. It could also result in billions of dollars in additional revenue for the company.
One of the headliners is its AI-infused assistant, Microsoft Copilot, which is deeply integrated into many of the company's most widely used software-as-a-service (SaaS) offerings, speeding up many mundane, time-consuming tasks. Microsoft recently announced that 40% of Fortune 100 companies are participating in the early access, or "pilot," program, which is getting rave reviews from users. In a recent interview, CFO Amy Hood said, "The next-generation AI business will be the fastest-growing $10 billion business in our history."
It's simply too early to tell how big the market potential for Copilot and similar software tools could be, but analysts have been weighing in with their best estimates. Dan Loeb, founder of hedge fund Third Point, estimates it could be worth "$25 billion or more in software sales alone." Evercore ISI analyst Kirk Materne is even more bullish, positing that AI could generate incremental revenue of more than $100 billion for Microsoft by 2027.
New use cases are being tested every day, so it will be some time before Wall Street understands the full reach of AI, but Microsoft is already vying for its share of the potential windfall.
NASDAQ: MSFT
Key Data Points
Azure is taking share from AWS and Google Cloud
It's clear that the most efficient way to distribute AI is by way of the cloud infrastructure providers that have played such a big part in the digital transformation. And while Amazon Web Services (AWS) has long been the cloud leader, there could soon be a changing of the guard.
One recent revelation helps illustrate what's at stake. During Microsoft's fiscal 2024 first quarter (ended Sep. 30), Azure Cloud appears to have gained ground at the expense of its competitors. Its cloud revenue grew 29% year over year, outstripping both AWS and Google Cloud, with 12% and 22% growth, respectively. The most telling development is how the company gained ground; Microsoft said "roughly three points" of Azure's growth came courtesy of AI services.
This shows that Microsoft is already prospering from its early entry into AI.
Just the beginning
While AI is grabbing all the headlines, other growth drivers are hiding in the shadows. Microsoft's more personal computing segment was crushed during the downturn as consumers and businesses made due with their existing PC's.
Now that the worst is behind us, the segment could return to its former glory, generating roughly one-third of Microsoft's revenue. PC shipments are expected to grow 8% in 2024, according to market researcher Canalys, potentially boosting Microsoft's growth. Let's not forget the company's SaaS offerings, which could experience greater demand due to the infusion of AI.
Microsoft has been on fire this year but still offers a reasonable valuation. The stock is currently selling for 33 times earnings and 10 times sales. While that's a slight premium compared to the overall market, Microsoft is a consistent and reliable performer deserving of a premium. Furthermore, you can't spell "gains" without AI.
