The first intuition of investors is that massive capital expenditure is to be followed by massive earnings growth as that capital is “turned on” and used for business operations. A paper in the Journal of Finance, however, found the opposite to be true, and dubbed it the “asset-growth anomaly”. Asset expansion activities, such as M&A, equity issuance and new loans, tend to be followed by low returns. The anomaly is that the opposite is also true. Asset contracting activities, such as buy backs, debt prepayments, spin-offs, and dividends initiation, are often followed by positive returns.
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Link Explanation: The linked note was created in 2024, when the world was probably most optimistic about AI. Since then, and as of today, several companies have seen incredible run ups in their market caps. Other companies, notably the hyper scalers - Meta, Amazon, Microsoft, and Google - have invested unfathomable amounts of capital in AI data centre build outs to which it is still unclear if a return will be captured. While there is evidence of revenue from AI labs like Anthropic and OpenAI, there is also evidence that the cost of LLMs is unsustainable. The asset-growth anomaly would imply that these hyperscalers are likely to underperform for the foreseeable future, even if they are seeing appreciation in their stock price today (Google, Amazon).