Adam Xiao, Portfolio Manager of KAR’s Thematic Quality Strategy sat down with The Wall Street Transcript to talk KAR’s investment philosophy, his research process, and the role of AI in the investment world.
Investment Philosophy
Discussing KAR’s investment philosophy, Adam says “There are two parts to it — the quality investment philosophy, which is shared across Kayne Anderson Rudnick’s investment strategies, and then the thematic overlay. Starting with quality, as a firm we view quality to mean differentiated businesses with enduring competitive protections, favorable long-term prospects, and robust economic characteristics. When I speak about themes, it’s a framework for recognizing that there are structural changes to our economy that frequently happen at an accelerated pace. These changes can be because of technology, demographics, or global issues. And what these changes do is either create entirely new industries or reshape the market share of existing industries through the introduction of better-fit products or services.”
The Research Process
The research and investment process can be broken down simply to seeking out the highest-quality businesses that we can identify through our fundamental bottom-up research process. What we’re looking for are companies with effective competitive barriers, prudent management teams, steady and consistent earnings growth and strong free cash flow and above average returns on capital. Our research process includes reading company documents, meeting with management teams, attending conferences, and speaking with industry participants.
When it comes to portfolio construction, an important element is high quality. Because we are managing high conviction, concentrated portfolios with low turnover and long holding periods, once we identify a great business, we want to hold on to that building and not dilute the ownership.
The Future of AI in Investments
Adam touches on a topic that is on the minds of many investors and that is generative AI. Adam says “Artificial intelligence is a very important technology. Today, most of the spending is on semiconductors, the hardware, and the data center groundwork to deliver more performance and higher-volume generative AI capabilities.”
Adam’s view is that businesses have only scratched the surface of what can be achieved with generative AI paired with real-time data access. “Usually for a business, capex expense is a percentage of sales, and not vice versa, where sales are a percentage of capex. So, from my perspective, for the AI business model to be sustainable, end-product revenues would have to grow to become multiples of the amount of dollars spent on GPU capital expenditures today.
That is why I believe there’s another leg of growth that could eventually come from the total generative AI industry that could dwarf the growth seen this year, just in its nascent stage.
Therefore, we see opportunities today in the important enabling technologies that have more recurring type revenues and strong opportunities to be a lasting part of the AI stack. These, in my view, are attractive approaches to invest in the future usage of generative AI and include vendors at the edge of computing and the data management layer.”
Download The Wall Street Transcript report to read the rest of Adam’s thoughts on AI and learn about specific holdings in KAR’s Thematic Quality strategy.
Watch Adam discuss the Thematic Quality strategy in a Q&A here.
