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Welcome to the first edition of The Donohue Brief - a newsletter by ASE Private Wealth’s Sr. Financial Advisor, Connor Donohue.
You can expect this newsletter on a bi-weekly basis covering a litany of topics, including but not limited to: trends within our economy, estate planning trends, risk management ideas and best practices, private market updates, and everyone’s favorite topic … taxes.
We hope you’ll come to find this newsletter as a trusty companion in your journey with ASE Private Wealth.
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AI’s Push vs. The Fed’s Pull
As the Federal Reserve holds rates high, capital-rich companies gain an edge in the AI arms race—deepening market divides.
Over the past few months, President Trump has made his thoughts on the current chairman of the Federal Reserve, Jerome Powell, abundantly clear.
In the past week alone, Powell has been called a “knucklehead” and a “numbskull.”
Despite the name-calling from the White House, Chairman Powell and the Federal Reserve have thus far not budged on moving the rate this year after lowering it by a percentage point over the last four months of 2024. I am certain that the pressure from Washington will continue to mount.
Instead of focusing on Trump vs. Powell, I have decided to write about the Fed’s influence on another relevant topic: AI. Or, more succinctly, the Federal Reserve holding rates — and its impact on the massive amounts of capital expenditures being doled out by some of the biggest companies in the world.
According to The Times UK, the big U.S. tech firms plan to spend about $320 billion on AI infrastructure alone, compared with $230 billion in 2024. Look at the chart below to see the relationship between the Fed funds rate and AI capital expenditures. Even as the Fed aggressively raised rates from 2021 to 2023, tech capital expenditures kept rising. Every member of the “Magnificent Seven” has more than $15 billion in cash or cash equivalents as of their latest audited financial statements. The implication is simple: Companies with that much cash are not reliant on debt to grow their business.
The Takeaway: The Takeaway: Regardless of the Fed Funds rate, AI spending has continued to grow exponentially.
The underlying principle that ties the Fed to these megacap companies is not necessarily a straight line. Many of these companies are now flush with cash and do not need to rely on outside financing. In my opinion, it is the indirect advantage that these companies now have to grow their AI infrastructure. Let’s dive a little deeper.
If a company like Apple needs to invest billions in major AI expenditures, it can do so through cash reserves on the balance sheet. However, if a midcap or small-cap company within the tech space needs to invest a significant amount into a necessary project to fuel growth, it will more than likely not have the cash readily available. Where do they get the capital? Either the public lending market (a bank) or a private lender.
The longer rates stay higher, the more these companies will have to spend on interest. This is straightforward, but it also allows these megacap companies to continue to outpace the “smaller” companies within this booming space.
Think of it like this — a cash buyer for a house has significant advantages over a buyer utilizing lending: speed, negotiating power, simplicity and overall control all come into play. In my opinion, this is no different.
That said, it’s not to say the less cash-flush companies cannot succeed. They will just need to be laser-focused on their strategy and how they utilize their cash flows. In short, the room for error is razor-thin.
My Point is this...
The big fish in the pond will become even bigger fish in the pond. We’ve all seen it — consolidation across multiple industries: energy, transportation, health care — you name it. For reference, in 1996, there were around 8,000 publicly traded companies. Fast forward almost 30 years, and that number is now about 3,700¹. Despite this consolidation, the market has continued to grow, now surpassing $60 trillion this year.
I believe the story of AI will be no different. The Magnificent Seven will invest heavily and be in a great position to dominate this booming space.
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Sources:
Meketa Capital. “The Decreasing Number of Public Companies.” Thought Leadership, 2024. https://meketacapital.com/thought-leadership/the-decreasing-number-of-public-companies/
Economics Insider. “The 10 Largest U.S. Companies by Market Cap.” Economics Insider, 2024. https://economicsinsider.com/the-10-largest-us-companies-by-market-cap/