Bearish Into November. Room to Run After: Why Dan Niles Is Watching Hyperscaler Credit Default Swaps

**Justin Carbonneau** (0:02)
Welcome back to Excess Returns, I'm Justin Carbonneau. I'm here with Jack Forehand, as always. And today we are joined and have the privilege to be joined by Dan Niles. In my opinion, I think there's a small handful of people we consider elite thinkers when it comes to the technology sector. And for a number of years, I've admired Dan and his work. He is founder of Niles Investment Management, has been portfolio manager at Niles Investment Management for two decades. And you have over 30 years experience in researching and investing in the technology business. And it's a very interesting time to be someone that has your views on tech, Dan. There's a lot going on. And so, yeah, just thank you for joining us. We think this is going to be a great discussion. A lot of it's going to be focused around AI, but we know you have thoughts on a lot of things when it comes to tech. So we really appreciate you taking the time to join us today.

**Dan Niles** (0:59)
My pleasure, Justin. Thanks for having me on.

**Justin Carbonneau** (1:02)
I want to start with something that you said earlier in the year, and I think it was along the lines that, yes, we are 100% in a bubble, or maybe there was a specific pocket you were talking about, but that you specifically kind of keyed in on, you thought that semiconductor stocks were going to see somewhere in the range of 30 to 50% pullback. And since then, some of these have pulled back quite a bit from June. So just kind of where, let's use that as a starting point to where you think we are currently in sort of this bubble cycle, if we are on one.

**Dan Niles** (1:36)
Yeah, maybe to look at a very big picture.
So if you look at every gray industrial revolution that we've had, and that's, whether it's canals in the late 1700s, or railroads in the early 1800s, or radio, TV, fast forward to electricity, or the internet most recently, if you believe you're in one of those revolutions that's gonna reshape the landscape of the world, then by definition, you're going to have a lot of people chasing that opportunity because they know if they're the last company left, they're gonna make an inordinate amount of money. And so if you believe that AI is one of those technologies, which I do and I think most people do, then by definition, you have over investment going on. Now, the thing is that that over investment doesn't necessarily mean it's a bad time to invest. And in fact, it means it's a great time to invest. The problem is when that eventually breaks, you know you're going to have a much bigger than normal meltdown on the other side of it. The good news about what's going on today relative to the internet is valuations aren't at these stratospheric levels that they were back then. If you take Cisco as a good example, which was sort of the Nvidia of its day, it was trading at a PE valuation of over 100 times earnings. Nvidia, in contrast, is at 15 times. So when the bubble does eventually break, you're not going to have the same kind of, or at least I hope you don't have the same kind of meltdown that you saw back from the peak in March of 2000 to October of 2002 And that's why I'm hopeful that any meltdown in semiconductors, which are sort of the tip of this AI sphere, will be limited to 30 to 50%.

**Justin Carbonneau** (3:34)
How do you think about, because you hit on something interesting there, it's still a great, even if we're in the bubble, it doesn't mean you go to cash or anything, but that bubble type of environment can last a lot longer than many people think. But what would be the things, and you kind of hit on valuation a little bit, but what would be the things you'd be looking at to make you questioning, okay, we're more towards the end here, this bubble, than not?

**Dan Niles** (3:59)
The number one, well, there's two main factors, right?
You've got the revenue picture, and within that, you have two very simple things. There's number of tokens being produced and what you can charge for each of those tokens.
And what you've seen since end of May is what you can charge for those tokens has gone down by about 50 percent. Why? Because you have this thing called open source or open weights that are coming out with all of these cheaper models. So, what you can charge for each token being produced, which is sort of the unit of currency for AI, has gone down 50 percent, which seems terrible. Except that the number of tokens being actually produced is up two and a half times since the end of May.