FidelityConnects: Denise Chisholm – Sector watch – November 6, 2025

[00:01:43] Pamela Ritchie: Hello, and welcome to Fidelity Connects. I'm Pamela Ritchie. Concerns about an AI bubble are dominating media coverage across platforms and the big debate, whether we're actually in one. Our next guest argues the AI bubble narrative simply doesn't match the data. What are today's underlying financial conditions showing us, especially compared to the dot-com era, and why is this distinction really the key to her thesis? Joining us here today to walk us through the data and what it means, ultimately, for investors is Fidelity Director of Quantitative Market Strategy, Denise Chisholm. Hi, Denise. How are you today?

[00:02:19] Denise Chisholm: Hi, Pamela. I am well despite the fact that it is not sunny in Boston.

[00:02:23] Pamela Ritchie: It is not sunny in Boston, I'm sorry to hear that. It's probably on the way because I think we had that weather yesterday, blowing through some sunshine and cold. In any case we'll invite everyone to send questions in for you over the next little while. We're absolutely going to ask you to walk us through what you do or don't see as too much capex and what that means for the markets. I wouldn't mind getting your thoughts if you don't mind, beginning with the Supreme Court case that's going on right now, we've heard arguments. It's consequential for Canada, for other countries as well, to know whether the tariff structure as we believe it is right now is legal. What do you hear and what could we expect?

[00:03:02] Denise Chisholm: Based on history, again, that's sort of what I do even with the Supreme Court, based on the history you would say that oral arguments certainly give you a very strong hint of the way SCOTUS is going to rule. It doesn't look like the administration will get all of their tariffs sort of through. How much from a magnitude perspective, is still questionable? I think that it is not likely that all of the tariffs stand. Some of the tariffs may stand. It's also unknown what rebates will do. There were some questions over rebates, it is definitely possible that they could stay rebates in terms of not administer them. We don't have any idea when the Supreme Court ruling will ultimately come down. There are some rumours that it might be before year end, that would be early historically. There have been some controversial cases where they wait to the end of the docket, which would be June. Again, a lot of unknowns on what the ultimate ruling will be in terms of magnitude but I think it's important for investors to understand that there are other options for this administration to piece back together tariffs in a more cohesive policy structure.

[00:04:08] You might not get to the same exact dollar value but there is one statute, and I'm not sure of the numbers with the section, that allows the administration unilaterally to apply 15% tariffs for 150 days, after that 150 days it has to be ratified by Congress. In the meantime of that 150 days there could be more Section 282 style tariffs that are along the lines of national security. A lot of what we're seeing in the Supreme Court doesn't even apply to the tariffs we're seeing on autos, on copper, on lumber, all of those resource sort of driven national security 282 tariffs. When I look big picture I think that when you add up all the tariffs, as much as we thought it was a massive change in global trade, it was still just a tax that wasn't big enough to tip the U.S. consumer into a recession. It meant less to the U.S. consumer than we thought, partly because we had so many tailwinds pushing the consumer forward, and that was even more true for corporate America, meaning the tax cut more than offset the drag from tariffs in aggregate, which is not to say there aren't winners and losers.

[00:05:17] Even if tariffs get pieced back together I think what you might end up with is a situation where, yes, maybe there is a modest tailwind but not a severe tailwind, but the decline in uncertainty from what might look like more cohesive policy than weekend tape bombs where investors are concerned might actually also be a bullish thing for stocks. I don't think a whole lot changes but I do think it reduces uncertainty maybe going forward that's more positive. I also don't think it's like the gift that keeps giving and all of a sudden tariffs and the tax associated with them are just going away.

[00:05:53] Pamela Ritchie: That's so interesting that you think it may be more cohesive policy in the sense that it's sort of got a stronger foundation because it's law built in a way that is stronger. I mean, it sounds like that could really create roots, which is good and bad from I think the Canadian economy perspective but it's an interesting cohesive policy. Just tell us more about that.

[00:06:19] Denise Chisholm: There's definitely other options. I think that the problem with emergency tariffs or that IEPA structure is that everything seems like an emergency. It's very difficult to get a read on what your business and supply lines and cost structure will look like. When you go through these other avenues there is sort of more cohesive structure associated with them. Certainly, the 282 tariffs, and even the 15% tariffs, so 150 days then ratified by Congress. All of that looks more like something that you can get your arms around as a business. Remember, for corporate America wherever, and really just corporations in general, once you know the answer then you can plan. I think it's really the struggle around not knowing the answer. Not that the answer is good or bad but you need to know the answer and what this looks like on a go-forward basis to plan. Then you can understand what your supply lines need to look like, what your cost structure needs to look like.

[00:07:16] I do think it might end up just more sustainable. Like I said, I don't think tariffs are going away. Historically speaking, once a government gets their hands on some revenue they tend not to give it up. Again, I don't think that all of a sudden tariffs are gonna go away and then we're gonna get these taxes back and rebates to the U.S. consumer and this is going to be some sort of blow-off top. I've heard that argument, that's definitely not my base case. Again, on the margin I think it improves the risk-reward on a more cohesive structure with declines and uncertainty and maybe a slight tailwind more than a headwind, which just means that numbers need to come up more for corporate America and that stocks are less expensive than you think.

[00:07:54] Pamela Ritchie: Oh, my goodness, that's so interesting, which ends up being possibly bullish. You'll tell us more about that. Let's go to the capex cycle which is what we're going to talk about a bit more fulsomely here. Thank you for your commentary on that because it gives us some brackets to watch whatever decision comes out in the next little while. There is capex and then there's capex. This is capex, this cycle is about growth companies essentially making sure that they can pour money into a data centre buildout, essentially, an AI buildout, a structure. Why is that different, for instance, growth companies going at this than, I don't know, when you think about utilities need to update themselves back through the 1980s or whatever, different types of clunky infrastructure that we think about as a capex cycle. What's different about it?

[00:08:48] Denise Chisholm: All capex is not created equal. This cycle is meaningfully different than the dot-com bubble, I would say. Look, I've seen a lot of data going around where people focus on five or six or seven companies, the Mag Seven, and you look over the last five years and all of a sudden capex is growing exponentially from a hockey stick perspective relative to free cash flow. All of a sudden when you narrow in your focus on that it looks like a red flag. But when you back up and you look at really the forest, not just the individual trees, you start to see a bigger pattern. When you add up all the capex and all the free cashflow in the Russell 2000, or Russell 3000, excuse me, so top 3,000 stocks across the universe, what you will see is this is nothing like we saw in the dot-com bubble.

[00:09:37] If you look at the first chart, I think I have a chart. I don't always show my charts but I think that you need to really see this visually. If you pull up the first of capex relative to free cash flow you'll see back in that dot-com bubble really starting off in the mid to late '90s you were seeing corporate America in aggregate spend four times, three and a half to four times the amount they had in free cash flow on capex. Where are we right?

[00:10:04] Pamela Ritchie: Wow. I mean, they were stretched.

[00:10:06] Denise Chisholm: Completely stretched. Where are we right now, capex is below free cash flow. Again, back to starting points always matter. That looks like egregious relative to history. Where we are currently doesn't even look egregious relative to the capex cycle we saw in energy infrastructure going into 2007, going into the financial crisis. I think that this is just apples and oranges from is this a capex bubble just when you look at the magnitude. Specifically for the technology sector it's massively different. Again, my lens is always on sectors, not just seven or eight companies but on the entirety of the sector.

[00:10:49] If you look at the next chart, the second chart, this is for technology as a sector specifically. The grey line is free cash flow. The blue line is capex. These are log scale. You can see in the blue line, you'll definitely see the hockey stick in terms of capex and you could definitely narrow  in on the last 24 months and say capex is growing exponentially faster than free cash flow, this is a problem. But look where we were going into the dot-com bubble. Free cash flow was below capex for the entirety of that decade before. Where are we now? Free cash flow has been above capex for 15 to 20 years in the tech sector, which is a way to think about the fact that, look, it is very different, that doesn't mean there's ROI on every technology but that difference matters because this time they have it to spend. That is very different from what we saw in the dot-com bust.

[00:11:49] Does it matter that the companies that are spending, that have free cash flow, that are pushing this forward, are what you'd like to call asset light? They have people sitting at desks using computers. It's not heavy equipment that needs that type of capex. That said, these companies that have light assets in some cases are, in fact, issuing debt to go and plow money straight into actually energy assets, in some cases, like clunky infrastructure to take stuff out of the ground or to create a nuclear power outlet to plug in what they do at their desks for light asset work. They are actually pulling a couple of sectors together through some of this spending. Is that, I don't know, relevant, interesting or just an aside?

[00:12:33] Denise Chisholm: When you think about capex as a quant, if you ask any quant on the street, if you find a quant on the street and you just ask them what do you think of capex spenders historically they will tell you that generally speaking high capex spenders underperform the S&P 500, or any benchmark over time. It's partly around the mix shift that you just highlighted in terms of historically speaking those capex spenders have been low operating margin, low P/E businesses like metals and mining, like energy infrastructure. They tend to overbuild in capacity. That's not true across the board. I mean, obviously, that was true in the dot-com bubble for technology but when you think that on average capex spenders don't outperform it's not 100% of them. To the extent that capex is actually correlated with growth, profitable growth, that hasn't been a bad thing. It's always about growth. It just tells you that most of the time in history when people were spending a lot in capex those are either in industries that don't grow or that the capex didn't relate to permanent growth.

[00:13:41] Back to the it's different this time, and we can actually show a chart, if you want to show the chart we can show the chart, but what is different this times is that what you are seeing ... you can debate on future profitability but I don't think you can to debate whether or not the capex that has been spent to date has been profitable. You do have to have a starting point that says, again, back to the, look, it's not the same kind of bubble, right now the fundamentals justify the valuation. If you go to the next slide, chart 3, shows you sort of the median earnings for technology. You can say how different this is for the median or average or however you want to characterize it technology company. I know that there's a lot of narrative around the fact that it's all just driven by seven stocks. I think that most of the time that can't be further from the truth. What you saw in, again, the '90s was that profitability for the median technology stock, and I could put telecom in here as well, peaked in 1996. There was just massive disconnect between operating margins basically declining, returns declining, median earnings declining for the median technology stock for four years before we actually saw the bubble. You're not seeing any of that right now. The average technology company is getting more profitable as they've been spending more.

[00:15:04] Pamela Ritchie: Demand is insatiable for companies that have everything from electricians to land to, obviously, the chip story is there but to build essentially the infrastructure, which is data centres, and putting everything together. We haven't even begun to do that yet, have we? I mean, they're just getting the money pile set.

[00:15:26] Denise Chisholm: No, it is all still, in some ways, in the future. It's ironic because you always have these two things can be true at the same time. In the stock market overall capex spenders tend not to outperform but if you look at capex from an economic perspective or, again, we've sort of talked about this before, if I add up all the capex in the Russell 3000 and I divide it by sales, and I call capex over sales growing, so capex growing faster than sales, and I call that a capex cycle, that's actually very strongly correlated with future GDP growth, meaning that it's quite good for economic growth and overall earnings growth. The debate is sort of whether or not it's idiosyncratically good for these seven stocks. Those two things are true. We can debate whether or not it's good for these seven stocks and what I would tell you is that historically speaking, to the extent that they are still profitable it's not a problem for those stocks or those sectors. Overall for the economy it tends to be a good thing for overall earnings growth it tends to be a good thing.

[00:16:24] Pamela Ritchie: We saw some wobbles in the stock market through this week and lots of different comments on whether that's something coming, some volatility, a useful moment to buy, lots of interpretations. It followed on a week of earnings where we saw the big players, and as you say it's many others than that, but we saw that big players confirm that they're going to, through their earnings calls and through their forward guidance and so on, spend more and dump much more money, at least for sort of the medium term, the next year or so through 2026, into exactly what we're talking about right now. It sort of underpins the fact that the money is going to be sloshing around in the economy and things in that sense should be fine for another year or so. I mean, do you feel like the narrative has shifted since the earnings calls wrapped up on some of those companies?

[00:17:12] Denise Chisholm: The narrative always depends on who you're talking to. In our hallways everybody is I have an opinion on everything. I think at the end of the day stocks do not move in a straight line and you always have to expect corrections as an investor. We always say corrections are normal and healthy and we also feel that that's true until they happen and then everybody panics because there's probably a reason for the correction or a rationale or a narrative around the correction. Maybe it's because of capex or maybe it is because the Fed isn't going to be that friendly or maybe it's because there's liquidity problems in the bond market and where are we in terms of required reserves and an ample reserve regime. All of those things are debated but to me it always looks like the stock market does what the stock market wants to do even despite the news which is not moving a straight line.

[00:18:00] Remember, corrections between 5% and 15% happened in 60% of the years since 1962 but in 75% of those years stocks end up higher by an average of 10% to 15%. I think you always have to understand that there are corrections that are normal and healthy even if there is some rationale behind why they're happening. To me that's the math behind buy the dip. When you have very visible earnings growth, and to me, again, I am not dissuaded statistically by valuation, when you had very visible earnings growth I think you have a very strong secular risk-reward with stocks. To the extent that we do get a dip I do think that the risk-reward is still there for U.S. leadership, specifically in technology.

[00:18:46] Pamela Ritchie: When you go back to the research and all the work that you've done on median earnings and their growth does that make a correction in theory less severe or you're able to use it and it's not a falling knife. Does it make it a little bit easier to take? You've got a bunch of companies that maybe are median, medium sized and across the boards, with your ball in motion that should stay in motion.

[00:19:13] Denise Chisholm: Median earnings is definitely the differential right now where, again, we've been driven by cap-weighted earnings over the last two, two and a half years and median earnings is finally inflecting for the first time in three years. We are emerging from the average stock having a contraction or an earnings recession. That usually is durable and that is meaningful. Does it limit your downside? Not necessarily in terms of peak to trough declines. Always remember ... I was just explaining to one investor the other day how to get your arms around the average recession. I showed him sort of an average chart of how stocks progressed through recessions. They were like, yeah, but that only shows like a 10% correction, aren't recessions more like 35, 40? I was like, well, some recessions are but some recesses, especially on monthly data, are more like 10%.

[00:20:01] When you look at 1980, when you look at 1960, similar situations. There's a variety of things that happen to stocks during recessions, and some non-recessionary bear markets are much deeper, meaning 1998 long-term capital, the crisis like that, and even the debt issues that we had in Europe in 2011. So recessions or non-recessions but what you can see is when you have an underlying cycle like a fundamental driver like earnings growth any correction tends to be less persistent. It doesn't mean stocks can't go down 10 to 15% but it's unlikely that they are persistently down if that driver is intact. Again, you can always expect volatility but I think that persistence in terms of loss is much more bolstered by the fact that you have the average stock now growing earnings faster than it was 6 to 12 months ago.

[00:20:59] Pamela Ritchie: With that said, and maybe taking a look at using a correction as an opportunity and so on, does it also then mean though that if there is going to be a correction that things are a little expensive right now? Or does that go back to expensive is okay if growth is there, essentially?

[00:21:18] Denise Chisholm: To me expensive is always okay if the earnings growth is there, and expensive is just a reflection of the fact that earnings growth is visible. That's why you get these weird strange correlations with the more expensive stocks or sectors are the more likely they are to outperform over the last 20 years because it's the secular trend of profitability that actually matters much more than the starting point on valuation. The ending point on fundamentals, remember we talked about this with CAPE measures, the ending point in terms of where you end with the cycle is more impactful, which is not to say that it's the only impact, but more impactful than the starting point on valuation.

[00:21:53] Even when you think about the dot-com bubble the starting point in terms of valuations I think almost double where we are now in terms of the median stock or cap-weighted stocks and then the relative valuation of the technology sector, double where we are now. But the ending point was almost more important because operating margins almost went negative and net margins went deeply negative. It became from a profitable sector to a deeply unprofitable sector. Right now technology is, on a secular basis, more profitable cycle to cycle and operating margins you're continuing to expand. Once you have those fundamentals in place, again, it looks like to me, when I look at all of the data, things are expensive for a reason and right now I think technology is proving that point.

[00:22:40] Pamela Ritchie: We started out talking a little bit about what those with lots of free cash flow are investing in. It's versions of a data centre buildout. There are other ways of looking at it too and other things they're spending on. With that said, are the sectors, which you look at much of the market through sort of the lens of sectors you're saying, are they shifting? Are they changing? They do change sometimes.

[00:23:06] Denise Chisholm: Without a doubt. Sometimes [indecipherable] changes them too which changes the way I talk about it. Really, communication services, we always had the old telecommunication services sector and then many tech-like companies like Meta and Google are actually now in comm services. The way we structure and think about that does change on a go-forward basis. Health care is a little bit more unilateral, energy is a bit more unilateral or cohesive, but you definitely see shifts in terms of sectors along the margin, financials and technology. What's a fintech? What's a tech? There is always a debate in terms of the cohesion of sectors and how they shape shift through technological advancements that change how they're either consumed or supplied.

[00:23:50] If you want to sort of think about just how shifty environments can be with a new technology, if you say that the dot-com bubble will have the starting point in terms of when Netscape hit, and if you say our AI, I won't call it a bubble, but our AI capex driver started with ChatGPT, with the launch of ChatGPT, if we think we're in similar cycles what you would see is where we are right now relative to the dot-com bubble, Google wasn't even a company and Mark Zuckerberg was in middle school. The ultimate winners and losers of this technology, and if you all like that that's actually not my quote, the ultimate winners and loser, we don't even know who they are yet. We don t know what sector they will even belong in yet. You do have to stay humble, certainly, about what might happen given the new technology and the shape shifting as it relates to sectors and what they might end up as being.

[00:24:57] Pamela Ritchie: For investors that want to take a look at certain types of sectors, get access to things maybe through a sleeve, what do you say to that? I mean, the answer is probably being very careful and making sure that you have a diversified portfolio with lots of stock picking within it. I'm just curious, how should you start to think about sectors a bit differently in terms of your investment?

[00:25:19] Denise Chisholm: Whenever I think about how I like to either shape shift with or without this I'm looking at the data that I'm seeing historically. You guys don't have the same data that I do but we have data going back to 1962. That's why I'm very comfortable talking about the technology sector because we have data that adds up all of those companies for whatever I'm looking at in terms of valuation. When you start to see divergences within either the industries of the sectors, or the sector itself, right, like consumer staples, massive divergence relative to what we experienced in the 1980s when they were growth companies now they are not growth companies this cycle. You have to evaluate the fundamental shift in an individual sector of what it means now.

[00:26:00] What I'm looking for in technology, remember I'm a technology investor so you can either buy actively managed technology funds that are benchmarked against the technology sector or ETFs, your choice. That's sort of what I focus on in Denise Chisholm's sort of PA or in Denise Chisholm's pilot which I signal to our diversified PMs, I focus on that section because I have the historical data. To the extent that the historical data, the fundamentals match the valuation, that's when you still see a positive risk-reward. When you start to see divergences then there's another potential way to analyze it.

[00:26:34] Pamela Ritchie: Okay, which is what?

[00:26:37] Denise Chisholm: Which is thinking about how differences matter more than similarities. History can be used both ways. You can look to find patterns that are similar and then you can look to find differences and see if those differences have had a meaningful impact on performance.

[00:26:54] Pamela Ritchie: There's a great question that's come in. You've addressed part of it but I think just come back to it. I think it really is on everyone's minds. What are your thoughts on companies investing in building data centres and reporting higher revenue despite operating at a loss? Wait, hang on a second here. I guess they need to get their SG&A in order. basically.

[00:27:16] Denise Chisholm: What you are seeing is at least an aggregate, and certainly for the companies that are announcing a lot of capex they have their free cash flow currently. Whether or not the incremental profitability of that data centre I think that it'll depend on sort of the accounting associated with that. Right now, again, we can debate the ROI in the future, right now the capex that has been spent to date has been profitable, meaning that you're seeing a correlation between better earnings growth and more capex. The persistence associated with that I think is still up for debate but I think what's not up for the debate is that these companies have it to spend right now, and that creates less problems than we've seen historically in bubble type markets. Right now we are being driven by a fundamentally justified cycle. I think that that's massively different in terms of the risk-reward when I hear people talk about, well, this is another bubble and capex is too far too fast. When you have the ability to spend on a new technology because you've been generating free cash flow in excess of what you need for the last 15 years then the market gives you a free pass for a time to see if those profitability streams still hold up.

[00:28:32] Pamela Ritchie: Just quickly, do we see some of that spending, okay, data centres, we've talked about that for sure, the companies that have this money to spend, they're going to spend it, they've signalled they're going to spend it, do you have an idea of how much consolidation that'll lead to? So large company, lots of free cash flow, willing to deploy capex, just by gobbling up a lot of companies, we have seen announcement of a number of those deals or different types of partnerships that are similar to that, or is it a bit more we're going to invest it in sort of the picks and shovels. Is it a wholesale takeover of some of these companies out there that will help them build out or is it a bit more investing into companies and then working with partnerships? I'm just kind of curious the nature that you think we might see.

[00:29:16] Denise Chisholm: Not close enough to the data but I think it's across the board. I think it's every and all based on the dollars that we're seeing. From my perspective, I look at it from a GDP perspective, what you saw was, again, capex as the GDP accounts was pretty escalated and elevated in the dot-com bubble by about, I think, it was only 5%, 5 to 7% depending on how you calculate it of GDP. As much as we've sort of declined, obviously, the dot-com bubble deflated from a stock market perspective but spending in terms of capex, if you look at that, what I'm calling sort of that infrastructure spend, has remained fairly constant. It's shifting up again but that doesn't mean that it can't grow even more. Back to the can the data help us, am I seeing anything anomalous in the spend either in corporate America, their own profitability, or in the GDP accounts and nothing right now looks particularly anomalous, which means that I think your base case has to be that it's more sustainable than I think people expect. Again, to the extent that that sustainable capex is also profitable then this is a positive environment for technology stocks still.

[00:30:30] Pamela Ritchie: Fantastic. Denise Chisholm, thank you so much for sending us on that course and bringing that data and research work to us. We appreciate you sharing it.

[00:30:39] Denise Chisholm: Always great to be here.

[00:30:41] Pamela Ritchie: That's Denise Chisholm joining us today from Boston. Coming up on Fidelity Connects tomorrow, assistant portfolio manager to Mark Schmehl, Evan Zehnal, he joins us live from San Francisco to unpack the biggest trends shaping the tech world and what they mean for Canada's growing technology sector.

[00:30:57] Next Monday Fidelity Director of Global Macro, Jurrien Timmer, is back to kick off the trading week with the macro themes on his radar.

[00:31:04] Next Tuesday portfolio manager, David Tulk. He shares the latest insights from the Global Asset Allocation team. He'll provide a positioning update on Fidelity managed portfolios and address how key macroeconomic themes may be shaping their outlook. We'll fold lots of different economic questions there in that discussion with David. The webcast on Monday and Tuesday will be presented in English but also have live French interpretation. Thanks for watching. We'll see you soon. I'm Pamela Ritchie.