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Accept Decline

Highlights from a recent conversation with Marcello Montanari and Robert Cavallo. They shared their outlook on the technology and healthcare sectors and weighed in on the new Chinese startup DeepSeek.

Technology: The AI revolution

AI drives market leadership

AI was the clear star of 2024, propelling technology stocks to remarkable gains. Industry giants such as Nvidia and Meta led the charge, with their market cap-weighted performances outpacing the broader S&P 500 by as much as 1,000 to 1,500 basis points. However, success was concentrated. Only 29% of tech stocks outperformed the S&P 500—a stark reminder of how narrow the market’s leadership has become.

Who are the winners and losers?

While companies tied closely to AI thrived, others struggled. Semiconductor firms outperformed software companies early in the year. Later in the year, software stocks, such as Salesforce and ServiceNow, began to recover as AI applications started gaining traction and greater awareness.

Are the Magnificent Seven equally magnificent?

The so-called "Magnificent Seven" tech giants (which include companies like Nvidia, Meta, and Microsoft) dominated the sector. Their performances varied widely, though. Nvidia’s gains were extraordinary, while Microsoft lagged. This diversity underscores the importance of stock selection, even within this elite group.

Looking forward: AI evolution

The AI story is far from over. Emerging capabilities like "Agentic AI," an increasingly sophisticated form of AI promising autonomous problem-solving and the ability to execute activities and actions through advanced reasoning and iterative planning, are reshaping software and applications. This trend has driven renewed optimism in the sector, with broad-based AI adoption expected to unlock new opportunities in robotics and beyond.

What is DeepSeek and why did markets respond so passionately?

DeepSeek is a Chinese tech startup that launched an LLM (Large Language Model) similar to ChatGPT. The company claims to have developed a more powerful version of ChatGPT at a fraction of the cost, approximately $6 million. The market reacted negatively as the narrative shifted from the high cost of AI development to the potential for cheaper alternatives, leading to a broad sell-off in the semiconductor space in particular. The emergence of DeepSeek's LLM is seen as an evolution in AI, not an endpoint. This development may accelerate the market's transition from infrastructure-centric investments to inference and application-focused ones. 

Healthcare: A sector in recovery

A challenging year

Healthcare continued to lag behind other sectors in 2024. After benefiting from the  COVID-19 pandemic, the sector has faced two consecutive years of downward earnings revisions. Sub-sectors such as diagnostics, tools and managed care all struggled. This contributed to a multi-decade low in healthcare’s weighting within the S&P 500.

Valuation opportunities for stock pickers

Despite these challenges, healthcare’s low valuations present a compelling opportunity for investors. With signs of earnings stabilizing in early 2025 and the potential for increased mergers and acquisitions (M&A), there is cause for optimism. Regulatory changes, including a possible shift in Federal Trade Commission (FTC) policies, may create a more favourable environment for deal-making. This is especially true for mid-cap healthcare companies. Healthcare’s high volatility and the wide gap between winners and losers make it an attractive sector for active investment strategies.

2025: What to watch

Technology’s path ahead

  • AI broadens its reach: As AI continues to spread into applications and industries, a broader set of tech companies could benefit. The focus will shift from core enablers like Nvidia to companies implementing AI in real-world scenarios.

  • Valuation concerns: While tech stocks remain expensive, their strong growth and cash flow justify some of the premium. Investors will need to be selective, as high valuations are not always supported by fundamentals.

  • Semiconductor shifts: Beyond AI-focused chips, industrial and automotive semiconductors may see a resurgence as demand stabilizes.

  • Healthcare’s road to recovery M&A revival: A friendlier regulatory environment could ignite new deal-making opportunities, particularly in mid-cap healthcare.

  • Earnings rebound: Stabilizing earnings and low valuations could set the stage for a healthcare comeback in 2025.

  • Active vs. passive: The sector’s complexity and volatility highlight the advantages of active stock-picking strategies.

Conclusion

The contrast between technology’s rapid ascent and healthcare’s struggles defined 2024. As we move into 2025, the tech sector remains poised for continued innovation, with AI at the forefront, while healthcare offers opportunities for recovery and growth. Investors will need to navigate these sectors carefully. Those who focus on understanding valuations in the context of emerging trends and longer-term operating outlooks will uncover the best opportunities in the year ahead.

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