HSBC upgrades US data center stocks on AI demand

Investing.com -- HSBC (LON:HSBA) analysts upgraded ratings for US data center stocks Equinix (NASDAQ:EQIX) and Digital Realty (NYSE:DLR) Trust, citing “strong AI-driven demand and constrained supply in major markets.”

Equinix was upgraded to 'Buy' from 'Hold' with a new price target of $1,000, up from $865, while Digital Realty was upgraded to 'Hold' from 'Reduce', with its target price raised to $160 from $124.

The demand for data centers has significantly exceeded supply year-to-date in 2024, driven by robust AI demand and limited supply in key markets.

Despite this, shares of Equinix and Digital Realty have underperformed compared to the broader index due to specific company concerns. However, HSBC anticipates that these operational challenges will diminish, leading to strong momentum in 2025.

For Equinix, the upgrade is supported by several factors. Improved utilization rates are expected to boost revenue growth to 10% in 2025, an increase from the 7% forecasted for 2024. This growth is attributed to a lower interest rate environment benefiting small and medium-sized enterprise consumption and increased capacity in major markets.

Furthermore, contributions from the xScale joint venture are projected to grow significantly, and Equinix is expected to be “a major beneficiary when AI moves to the inferencing phase,” HSBC notes.

Also, Equinix's growth potential seems higher and more stable than that of Digital Realty, due to its exposure to the retail vertical and an attractive valuation.

Meanwhile, Digital Realty's upgrade reflects a strong pricing environment for the ">1MW" power block segment over the next one to two years. Still, growth may be limited due to the company's lease expiration schedule, according to HSBC’s team.

Despite this, adjusted funds from operations (AFFO) growth is expected to align more consistently with revenue growth due to a leaner balance sheet, although it may be lower than that of Equinix.

Digital Realty's greater exposure to the ">1MW" segment is anticipated to secure higher bookings from AI, but the benefits of bookings and pricing power seem to be already reflected in the market price.

The raised target price for Digital Realty is based on an increased target multiple to reflect a better AFFO growth trajectory, the note states.