Are tech stocks reasonably valued? An outlook based on fundamentals and history

Strong AI application demand is driving supply chains and infrastructure needs
Valuations remain below historical bubble levels, but market concentration requires caution
Asian emerging markets offer competitive AI investment opportunities with lower valuations than the US

Shares of Artificial Intelligence (AI) have skyrocketed in recent years, with investors holding high expectations for corporate growth and earnings. However, there are concerns about whether current valuations have become too lofty. To gain a clearer understanding of the situation, let's explore the investment opportunities and risks from both a fundamental and historical standpoint.

Robust demand, solid fundamentals

From a fundamental perspective, AI has evolved beyond a mere concept and is now driven by real application demand. Industries like finance, healthcare, and retail are actively integrating AI into their business models to enhance efficiencies. For example, some companies analyse consumer data to craft highly targeted sales strategies, while others use AI computing to optimise the job candidate selection process. This mounting demand is driving the entire ecosystem — from upstream supply chains involving semiconductors and memory chips, to midstream data centres and servers, and down to downstream cooling systems and power solutions. What's worth noting is that AI's energy consumption is massive. A single ChatGPT query, for instance, consumes 10 times more energy than a traditional Google search, which, in turn, fuels greater demand for supporting infrastructure.

Rising demand has continued to drive investment sentiment higher, with appetite staying robust, especially in the construction of data centres. While some investors fear that excessively high capital expenditures could impact returns, companies are maintaining low leverage ratios, with most of the funding coming from internal cash flow. As a result, the pressure is relatively limited. Most importantly, AI has progressed from a conceptual phase to widespread commercial applications, driving corporate earnings and cash flow growth.

No bubble signs yet, but beware of concentration risk

Looking back at the dotcom bubble of 2000, many tech companies incurred losses, with many concepts failing to materialise. At the time, the 24-month P/E ratio of the seven major tech players was 52 times, compared to the 27 times P/E ratio of today's 'Magnificent 7', which have strong profitability. However, these tech giants now account for around 35% of S&P 500's total weighting. A highly concentrated market means greater risk. In the past two years, tech share prices have posted considerable gains as market expectations for the sector have continued to rise. If corporate results fail to live up to expectations, stock prices could face a sizeable correction. While there may not yet be a clear bubble, an overemphasis on the index or individual stocks can lead to concentration risk. Hence, staying vigilant is essential.

Asian emerging markets: A case for more compelling valuations

Undoubtedly, the US is at the forefront of the AI space, but the potential in Asian emerging markets should not be overlooked. China is focusing on scalable areas like e-commerce and cloud computing, while South Korea and Taiwan have a competitive advantage in hardware, particularly memory chips and semiconductors. AI-related stocks in emerging markets carry a similar weighting to their US peers within their respective regions, but the former offers more appealing valuations, with an expected P/E ratio for 2026 of about 18.6 times, lower than the 30 times P/E ratio in the US.

A clear trend has emerged: stock selection is key

There is no definitive answer to whether tech valuations are justified. From a fundamental viewpoint, the strong demand for AI and its robust monetisation ability will continue to drive industry growth. From a historical perspective, while a bubble has not yet formed, concentration risk should not be taken lightly. AI has become an irreversible trend, with technological innovation accelerating. Investors must keep abreast of industry developments and carefully assess each company's business model and growth potential. Instead of focusing on index investments or chasing hot stocks, consider capturing opportunities and managing risk through careful stock selection and diversification.