Thematic Mid-Year Update: What’s next for AI & geopolitics

1. Finding leaders of tomorrow – Investors may want to look beyond today’s market leaders to seek diversification and resiliency in their portfolios, uncovering underappreciated assets poised to benefit from mega forces that can potentially drive long term growth.
2. Artificial Intelligence (AI): A picks and shovels approach – Integration across industries is driving massive demand for AI’s Infrastructure:  data centers, semiconductors, and raw materials. This buildout, thought to continue through 2030, will require significant infrastructure investment, across semiconductors, energy, and metals like copper.
3. Geopolitics: Tech and supply chains at the center of a global election year – Geopolitical fragmentation requires an evaluation of overseas dependence and a focus on U.S. reshoring. Shifting supply chains and varied demographics create strategic prospects across markets.

U.S. and international equity markets have demonstrated resilience, flirting with all-time highs, despite significantly reduced expectations in the number of Fed rate cuts in 2024 and lingering inflation worries. This performance, however, has been narrowly concentrated at both the stock and sector levels, including in AI, tech, and emerging markets. We believe investors may want to look beyond today’s market leadership to find underappreciated areas that may be well-positioned to benefit from powerful secular tailwinds, or mega forces, that can drive long term growth.

In the short-term, we believe two mega forces have the potential to reshape the global economy and could reach critical inflection points:

1. The transformative potential of Artificial Intelligence (AI) and it’s catalyzation of a historic cycle of capital expenditure.
2. The growing impact of geopolitics on trade and technology amid a wave of elections globally.

In our Thematic Mid-year Update, we focus on these two mega forces and highlight where we believe the most compelling opportunities lie. Within AI, we look to the ‟picks-and-shovels” of this technology amid tremendous demand for hardware, digital infrastructure, and power. Within geopolitics, we look to potential beneficiaries of changing supply chains, including a domestic focus on tech and manufacturing, as well as emerging market up-and-comers.

AI has transcended “buzzword status,” with businesses across all sectors looking to quickly integrate the technology. It’s estimated that over 80% of enterprises will have used generative AI by 2026, up from less than 5% in 2023, noting the technology can both improve efficiency and enhance products & services.¹ Companies have different AI platforms to choose from  (ChatGPT, Claude, etc.),  but virtually all paths of greater AI adoption are set to accelerate demand for the underlying infrastructure that powers the technology or  the “picks and shovels” of the AI industry: data centers, semiconductors, and certain raw materials.

We are facing what may become one of the largest infrastructure efforts in world history, driven by the explosive growth of AI adoption. There is immediate and tremendous demand for data centers that must be built with AI workloads in mind, and the computing power and data storage necessary to support AI’s growth. Jensen Huang, CEO of Nvidia, estimates that the shift from general-purpose computing to accelerated computing is expected to require at least $1 trillion of investment if not more, and believes we are only 5% into this buildout.² In our view, the market is underestimating the amount of money that will be spent on the development of data centers over the next 5-6 years.

The potential beneficiaries of this historic capex cycle are vast, ranging from operators and suppliers of data centers to a broad range of semiconductors, as well as electric power infrastructure and critical materials.

(Read more about the AI tech stack, which will be required to support continued demand for AI)

Markets and headlines have largely focused on one type of semiconductor critical to AI called a Graphics Processing Unit (GPU), which performs complex computations in parallel. GPUs are crucial for training large language models or (LLMs), like ChatGPT. GPUs are not the only type of chip that may  benefit from broader AI adoption, other types of semiconductors or “chips,” along with their equipment and packaging, all play a critical role in the AI ecosystem and are potential beneficiaries.

We believe, the AI opportunity is bigger than just one semiconductor company. The industry is projected to reach $1 trillion in revenue by 2030, with computing and data storage driving 25% net growth.⁴ As such, the broader semiconductor sub-industry could be well positioned amid this AI capex ramp up.

Power infrastructure may need an overhaul to keep up with AI energy demand.

AI data centers cannot support the growth of the technology without another crucial input, power. Data centers need an abundance of inexpensive electricity to run powerful servers and keep them cool.  Critical IT power is defined as the usable electrical capacity at the data center floor which is available to computer servers and networking equipment that is housed within the server racks. The chart below shows a measure of the power capacity available to U.S. data centers (in megawatts). Critical IT capacity in the U.S. will need to triple from 2023 to 2027, and surge well beyond, to keep pace with rising demand — with the vast majority driven by AI’s arrival.⁵

All of this means we may see a demand for power not experienced since the dotcom boom, that's because along with AI’s rise, other power-hungry themes are emerging like electrification, Electric Vehicles (EVs) and a potential resurgence in US manufacturing (driven by reshoring). Adding energy production capacity, improving power transmission, and scaling energy storage solutions will be key to meeting this resurgence in energy demand.⁶

Investors interested in the AI theme may consider the iShares Semiconductor ETF (SOXX), the iShares US Digital Infrastructure and Real Estate ETF (IDGT), and the BlackRock Technology Opportunities Fund (BGSIX).

Copper could be the chokepoint for meeting demand for energy infrastructure and digital infrastructure.

Copper is an essential input to many aspects of energy infrastructure as well as digital infrastructure. Copper demand is growing rapidly; it’s projected to rise nearly 20% by 2030 from 2023 under the IEA's Stated Policies scenario⁷, which is based on the current policy landscape. While clean energy applications are expected to be the biggest drivers of copper demand growth, data centers will also play an important role.

Yet despite several secular tailwinds driving copper demand growth, supply growth remains anemic. World copper mine production is growing slower than expected, as it takes on average 10-20 years to permit and build a new copper mine.⁸ Persistent copper supply deficits could become a chokepoint for AI’s growth if energy infrastructure is unable to keep up with soaring power demand due to a lack of copper. JP Morgan forecasts that the additional power consumption required by data centers could add another 2.6 million tons, to an already 4 million metric tons deficit by 2030.⁹

Investors interested in copper may consider the iShares Copper and Metals Mining ETF (ICOP).

Geopolitics is increasingly important to the global economy especially in a year where countries representing half the world’s population are holding elections. Domestic and foreign policies have rapidly reshaped supply chains, with technology and manufacturing drawing the lion’s share of attention amid intensifying global economic competition.

The U.S. technology sector is highly globally-dependent, deriving large parts of its supply chains and nearly 60% of its revenue overseas¹⁰. Given its exposure to economic and national security, the technology sector is increasingly caught in the crosshairs of rising geopolitical tensions. Tariffs, export bans, and corporate fines are becoming commonplace between economic blocs as AI, data privacy, and semiconductor supply chains become increasingly important to economic policy and politicians platforms. As such, we are seeing a clear dispersion forming between tech firms that are more exposed to geopolitical risks and those who aren’t.

One way to measure exposure to geopolitical risk is to look at company hiring practices. In the chart below, we highlight global job postings by American tech companies. The yellow bars represent the firms with the most U.S. -centric job listings, and the purple bars represent the firms with the most international hiring practices. Over time, we see a clear and growing divide between tech firms that hired abroad and those who invested in maintaining a U.S.-focused workforce. In our view, this gap reveals a potential investment opportunity focused on identifying companies driving domestic self-sufficiency and mitigating geopolitical risks. In addition, we believe these firms with more U.S. centric hiring are potentially poised to benefit more from government support, such as tax credits or government contracts, vs. their more globally exposed peers.

Investors interested in tech independence may consider the iShares U.S. Tech Independence Focused ETF (IETC).

Looking beyond tech, manufacturing is enjoying a renaissance in the United States as policy efforts to “reshore” production are yielding powerful results.

Since the pandemic, the U.S. has implemented several policies to increase domestic production and reduce reliance on global supply chains. These policies, which include the Infrastructure Investment and Jobs Act, the Inflation Reduction Act, and the Chips and Science Act, are expected to lead to well over $1 trillion in spending¹¹ to rebuild infrastructure, support high-growth industries like EVs, and secure supply chains for key technologies like semiconductors.

While government stimulus often aims to drive domestic economic growth, reshoring policies may also increase the resiliency of the U.S. economy, via the reskilling of the manufacturing workforce, enhancing the quality and safety of products, and reducing the potential impact of geopolitical tensions on our ability to procure vital goods.

Regardless of the outcome in this year’s presidential election, the reshoring trend could accelerate through increased tariffs, government spending, or both. “On trade, presumptive Republican nominee, former President Trump has suggested a more protectionist stance that would levy a 10% across-the-board tariff and a 60% tariff on Chinese goods,” according to the BlackRock Investment Institute. Presumptive Democratic nominee, President Biden is expected to keep his current protectionist policies, like higher tariffs for some sectors, industrial policies favoring domestic production and the use of export controls.¹²

Investors interested in capturing the themes of U.S. manufacturing and reshoring may be interested in the BlackRock Large Cap Value ETF (BLCV), which is actively managed by Tony DeSpirito and the BlackRock Income & Value team.

The intersection of trade policy and youthful demographics could spur emerging market (EM) opportunities

Outside the U.S., trade policy and rewiring supply chains are creating new opportunities in select emerging markets. Among those countries positioned to potentially benefit are Mexico and India.

Mexico remains the U.S.’s top trading partner, benefiting from geographic proximity, strong manufacturing-based economy with competitive labor costs, and increased supply chain integration with the U.S. The June election of Claudia Sheinbaum, as Mexico’s president could signal a continuation of recent deepening trade ties to the U.S. given that she comes from the same political party as Mexico’s outgoing incumbent.

Similar trends are occurring in India where the labor pool is deepening its ties with the U.S. Boosted by a large, youthful, English-speaking working population. As a result, both India and Mexico have experienced GDP growth at a higher rate in the past three years than in the previous decades.¹³

While near-term growth may be driven more by policies surrounding rewiring supply chains, demographics could become a primary driver of long-term economic growth in these countries. By 2050, China’s share of working age population could see a significant decline to below 60% from 73% seen in early 2010’s, as evidenced in the chart below.¹⁴ Other EM countries like India, Indonesia, and Mexico may see both population growth and a more stable composition of working age population over the next few decades.

This divergence is highlighted in the below chart, showing that demographics will play an increasingly important role in supply chains and trade relationships as developed markets like the United States, Europe and Japan continue to age and see slowing workforce growth.

Investors interested in exposure to the theme of Emerging Market supply chains and demographics may be interested in the iShares Emerging Markets Ex-China ETF (EMXC).

The vast acceleration we’re seeing in AI along with the impact of elections around the world, are real catalysts presenting potential investment opportunities, ranging from the picks and shovels being used in the AI buildout, to the reshaping of global supply chains. Thematic strategies, using a tailored construction process in each theme’s value chain, may allow investors to capture the tailwinds of mega forces that are reshaping our global economy.