Citi Stays Positive on A.I Theme and Lays Out the Key to Finding Winning Stock

Citigroup remains optimistic about the tech subsector of artificial intelligence (AI) despite the end of its early innings. According to the bank's recent note to clients, the key to identifying winners in the next phase lies in assessing cash flows.

‍

The significant year-to-date surge in profitable AI stocks should not deter investors, as the medium- to long-term opportunities in the AI theme continue to show an accelerating growth trajectory and attractive dynamics in terms of free cash flow, which are expected to improve further.

‍

While AI-related stocks have experienced a remarkable increase in valuation this year, with Nvidia shares leading the pack with a surge of over 200%, Citigroup emphasizes that the initial positive thesis remains intact. Investors should not overlook the importance of free cash flows, which are increasingly compelling. Profitable AI stocks are already generating substantial cash, and recent AI developments are likely to accentuate this trend and lead to higher free cash flow margins and growth.

‍

In light of this, Citigroup has screened AI-related stocks that are expected to outperform market growth expectations and witness an uptick in free cash flow margins.

‍

Among the selected stocks are Amazon, which holds the highest consensus expectation of more than 48% long-term growth. Despite concerns that Amazon may be lagging in the AI race, CEO Andy Jassy reassured investors of the company's commitment to investing in AI across various segments. Earlier in the year, Amazon introduced a generative AI service called Bedrock for its Amazon Web Services unit, enabling clients to create their chatbots and image-generation services using language models.

‍

Alphabet, the parent company of Google and creator of Bard, a competing chatbot, also made the cut. With its shares rallying 38% as it competes with Microsoft-backed OpenAI's ChatGPT, consensus estimates project long-term growth of more than 17% and a near-term free cash flow margin of nearly 24%.

‍

The screening also included a few financial stocks, such as Mastercard, which boasts the highest near-term free cash flow yield of the group at 48.4%. Its long-term consensus growth estimate is around 19%. Other stocks that made the list include Ford Motor, Match Group, and ServiceNow.

‍