The unexpected boon for the otherwise boring industrial products from AI boom

Among the utility stocks in the US, , , and are the three top-performing stocks in the sector in 2024, with staggering returns of 144%, 84%, and 58%, respectively. It is no coincidence that all of them have exposure to nuclear power with rising capacities to feed the power surge that is expected from the sprawling data centers. So much so that the age-old have got a fancy name now, AI Factories as the celebrated chief of Nvidia, Jensen Huang would like to call. “The next industrial revolution has truly begun,” with businesses and countries converting existing data centers into “AI factories”, said Huang in the latest investor call.

Anything that goes into these factories, from power feeds, coolants, and power management equipment to other such as gensets, transformers etc., that run the data centers are the new hot segments where investors are looking for the next big winners. The spillover effect from the has swiftly spread to the stocks in these sectors. In other words, the broadening of the AI trade is real and is gaining more traction. It is no longer limited to chip stocks. Yes, they are foundational, but they are not the whole structure.

What is more relevant for us here is, how is this broadening phenomenon in AI trade in the US, impacting stocks in India. Is there a huge rub-off effect on the Indian markets? That is an interesting topic to explore. Let us dive in.

In this connected world, where everything travels at lightning speed, the lag is less than even the network latency for the to catch on, so to speak. To understand the impact over here in Indian markets, let us look at one of the most sedate sectors, transformers. A few years back, were untouchables reserved for a few deep-value investors. They used to trade at mid-single-digit multiples after adjusting for cash.

Now, with the data center spin, they have become the darlings of the market with multiples hovering around 40s. Same with any stock that has even a remote connection to data centers. Another company that has recently diversified into building data centers from its core EPC business in power has seen its stock price surge multiple times. It is another matter that data center business is a capital-guzzling one which has a long payback period with less attractive return metrics in the long run. But all that the market cares about now is anything that even remotely rhymes with data centers or, even fancier, AI factories.

Is everything just hype or could there be hidden genuine opportunities for in this space?
In the case of data centers, substance probably beats the hype. While AI spin has added to the buzz, the sector was already emerging as a hotspot in India due to growing cloud adoption and digital transformation. So, it will not be surprising if the story gains more momentum going forward.
And, when one looks at it a little more closely, it is not without reason that India is emerging as a hot space for new data centers. Given its broadband network connectivity, data usage, and talent pool, India provides an unbeatable value proposition for global tech majors who are into big data centers. Projections indicate that data center capacity may nearly double to around 2GW within the next 2 to 3 years.

While building data centers per se could be a capital-intensive business, there could be downstream attractive opportunities for investors from the products and services that go into building them. From gensets to cables to racks, there are a multitude of industrial products that are massively used to build big centers. Some hidden ones could be businesses that are into transformer fluids, industrial lubricants, power cables and products related to power electronics, connected infrastructure like racks etc. where one can look for investment opportunities.

In summary, though the highly visible ones from this emerging theme have seen their stock prices surge, there could still be downstream undervalued opportunities on stock-specific basis for the savvy ones. Interesting times!