Equities

The Transformative Power of Technology

April 18, 2019
Artificial intelligence, machine learning, and energy innovations are changing U.S. industries.

Key Points

  • Artificial intelligence will revolutionize a number of industries in the coming years.
  • The automobile and energy industries are likely to see significant change.
  • Companies focused on emerging technologies could experience major growth.

Advancements in artificial intelligence (AI) and energy storage are not yet seamlessly integrated into day-to-day life, and thus the full extent of their potential to fundamentally change industries remains underappreciated by consumers and investors alike. However, innovations in these technologies are increasing their effectiveness while lowering costs at an impressive rate.

Indeed, the day is approaching when these burgeoning technologies will reshape industries traditionally viewed as less susceptible to business model disruption. A prime example is the automobile industry.

Facing disruption on two fronts

A confluence of machine learning and cheaper and stronger computing power is creating the potential for a fully autonomous vehicle. This presents several challenges for traditional automakers and original equipment manufacturers (OEMs).

For starters, machine learning and robust computing power are not these firms’ core competencies—leaving room for new entrants. Additionally, the business model of selling cars to individual customers can be disrupted in a world where cars can drive themselves.

Autonomous vehicles should significantly push down the cost per mile for ride-hailing services, and as this happens, consumers will begin to weigh the cost of owning a car versus paying for one as needed. Families, for instance, could decide to own one car instead of two—if they decide to even own one at all.

This better economic model is further supported by auxiliary benefits, such as increased safety and freeing up drivers to do other things. Focusing on the passenger experience is yet another area in which traditional automakers could do better.

At the same time, declining battery and electric vehicle (EV) powertrain component costs are on a path toward making EVs a more affordable option than vehicles with internal combustion engines. EVs currently cost approximately $10,000 more to produce than a combustion engine car. In about 10 years, improved battery chemistry, specifically NMC 811 lithium battery technology, is projected to drive down EV costs to a point where a combustion engine car will cost approximately $5,000 more to produce.

The lower upfront cost for an EV coupled with greatly diminished operating costs—no more oil changes or visits to the gas station—may become impossible to ignore for most consumers. Traditional automakers and OEMs have very little content on EVs. Currently, their intellectual property in a car is centered on the transmission, powertrain, and drivetrain. The electrification of vehicles significantly reduces the prominence of these technologies.

We estimate that OEMs that do not contribute a part of the EV powertrain will see their value as a percentage of total cost of the car cut by approximately 60% by 2025, with more of the total car value contained in the battery. (See “Changes in the Auto Supply Chain.”) Such an environment could come sooner than the market appreciates. An aggregation of third-party forecasts points to EVs accounting for approximately 10% to 15% of sales in 2025, but we think the reality will be the other way around—only 10% to 15% of consumers will want to buy a combustion engine car at that time.

The broad consensus is that EV adoption will be gradual, but we believe we’ll witness more of a tipping point in adoption. EVs’ lower relative cost and auxiliary benefits will make them a compelling choice. This is compounded by the increased rate at which combustion engine cars will depreciate because of the clear path for EVs to be a larger portion of the fleet. The limiting factor for EVs may be the ability to add battery capacity—not consumer demand, because consumers are still at the early stage of appreciating the transformative nature of EV propulsion.

The impact on natural resources

In the natural resources sector, smart grid technologies enable utility companies to operate more efficiently with automation and self-healing. Big data complements new smart grid technologies. Ultimately, these companies will have more information to help manage demand more precisely, reduce peak needs, and provide the predictive analytics to determine when an outage is likely to occur. This helps improve reliability while reducing costs.

Improved energy storage technologies also will accommodate many more renewable energy sources because they can significantly reduce intermittency issues, which have long plagued renewables. As a result, electrification will be more reliable, secure, flexible, and clean. And utilities will play an important role in enabling the widespread adoption of EVs through individual services and infrastructure upgrades. In total, these technologies are going to help utilities have lower cost profiles, which should alleviate some financial pressure and enable capital investment that grows earnings. Renewable energy prices already are declining amid these technological developments. (See “Sources of Net Energy Generation.”)

Since 2010, renewable costs in the U.S. have fallen by 70%, and we expect further cost reduction. For instance, evidence suggests that wind is among the cheapest sources of new power in some regions of the U.S., even without subsidies. More advanced turbines and enhanced blade designs will further lower overall costs and increase output. Solar costs, while still higher than wind, have been declining at a faster rate, and so solar looms as a significant opportunity. Firms with business models that rely on high or volatile energy prices could be in a more difficult environment in the future.

A collaborative approach to investing

Trends in the adoption of new technologies do not happen in isolation, and T. Rowe Price’s analyst teams frequently collaborate to identify which companies in a particular sector are positioned to win or lose as technologies reshape sectors. The firm’s automobiles, industrials, and natural resources analysts recognize that AI is a common denominator behind significant changes within these sectors, and they actively seek out insights from our technology portfolio managers and analysts.

AI will become a horizontally enabling technology. As it is more and more deeply integrated into our daily lives, companies with a competitive advantage in this area stand to emerge as major beneficiaries, but these firms also will enable companies with AI needs but which lack AI expertise.

AI depends on four main pillars: access to talent, access to data, strength of computing infrastructure, and depth of applications to which AI can be applied. (See “The Four Pillars of AI.”) Alphabet, Google’s parent, has strengths across all four pillars. In addition to its talent, the company collects data through a range of products and services, operates on the cutting edge of computing, and benefits from seven applications with more than a billion users each, including Google Search, Android, and YouTube.

Looking ahead, many companies will have unique applications that AI could enhance and proprietary data sets that could help inform AI. More often than not, though, these companies may fall short in the strength of their computing infrastructure and their access to talent. AI-capable firms will help fill in these gaps. This already is being witnessed in the public cloud computing industry. Such leaders as Amazon Web Services, Azure, and Google Cloud are providing access to computing power in a low-friction, highly scalable way that is accessible to all companies. Many of these same firms also are developing tools that will enable companies to use AI without in-house experts.

It will take time before AI tools being developed today reach a point when they can replace raw, in-house AI talent, particularly for large-scale AI projects. For example, addressing the complexities in autonomous vehicles still requires the very best talent—and a lot of it.

T. Rowe Price’s investment process, which is rooted in close collaboration among research analysts and portfolio managers, is well positioned to fully assess the sweeping impact of these powerful technologies. Much like new innovations feed on each other, the firm’s research analysts and portfolio managers actively share research, debate possible outcomes, and conduct company visits together so that they can uncover valuable investment insights across industries and sectors.

As of March 31, 2019, Google parent Alphabet made up 5.3% of the T. Rowe Price Communications & Technology Fund, Amazon made up 14.0%, and Microsoft (which operates Azure, the cloud computing service) made up 0.7%. This fund offers substantial upside potential but also carries a high level of risk. Due to its concentration on specific industries and its exposure to mid-caps and foreign securities, the fund's share price could be more volatile than that of a fund with a broader investment mandate.

The T. Rowe Price Communications & Technology Fund

Investing in innovation with a fund that seeks to provide long-term capital growth.

Fast-growing companies that are focused on meeting ever-changing consumer demands hold promise for investors. To capitalize on this potential, the T. Rowe Price Communications & Technology Fund (PRMTX) maintains an emphasis on disruption and innovation.

The fund seeks to deliver long-term capital growth through investing in media, telecommunications, and technology companies. Globally, these sectors are quickly evolving and offer the potential for strong growth. The fund typically invests in both domestic and foreign large- to mid-cap companies, with nearly 80% of the fund invested in U.S. companies and 18% invested in foreign companies as of March 31, 2019.

In addition to companies that produce and distribute content, the fund also invests in various wireless, broadband, and data service providers. The fund also focuses on companies that develop and advance tech products, typically for communications or e-commerce companies. These products include new software, hardware, parts, and services. The strategy has proven effective to date—the fund has outperformed its Lipper category average over the 1-, 3-, 5-, and 10-year periods and since inception (10/13/93).1

1As of 3/31/19, the T. Rowe Price Communications & Technology Fund outperformed the Lipper Telecommunication Funds Average over the 1-, 3-, 5-, and 10-year periods and since inception: 12.71%, 19.20%, 14.72%, 21.82%, and 14.71% to 4.82%, 6.08%, 4.98%, 10.93%, and 8.95%, respectively. The Lipper Telecommunications Funds Average since-inception returns are as of 10/31/93.

Current performance may be higher or lower than the quoted past performance, which cannot guarantee future results. Share price, principal value, and return will vary, and you may have a gain or loss when you sell your shares. For the most recent month-end performance, visit troweprice.com/mtf.
The fund’s expense ratio as of its fiscal year ended 12/31/18 was 0.78%. Average annual total return figures include changes in principal value, reinvested dividends, and capital gain distributions.

Prior to 5/1/18, the name of the Communications & Technology Fund was the Media & Telecommunications Fund.

Source for Lipper data: Lipper Inc.

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