Move Over, Artificial Intelligence (AI) -- Businesses Are on Pace to Spend More Than $10 Trillion on This Trend Over the Next Decade

For the better part of two years, the stock market has been in an undeniable uptrend, and investors haven't had to dig too deeply to uncover the catalysts behind this decisive move higher.

A confluence of factors, including a resilient U.S. economy, a reduction in the prevailing rate of inflation (compared to a peak of more than 9%), and better-than-expected corporate earnings have lifted the Dow Jones Industrial Average, S&P 500 (SNPINDEX: ^GSPC), and Nasdaq Composite to numerous record-closing highs.

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But among this laundry list of catalysts, none has shone brighter than the rise of artificial intelligence (AI). With AI, software and systems have the capacity to reason and act on their own, and can become more efficient at their assigned tasks, as well as learn new skills, over time.

Image source: Getty Images.

According to a report released by PwC (Sizing the Prize), the AI revolution is expected to boost global productivity by $6.6 trillion come 2030, as well as provide a $9.1 trillion benefit via consumption-side effects. Altogether, AI is forecast to increase worldwide gross domestic product by $15.7 trillion, which is a big enough pie to excite investors.

Not surprisingly, businesses are aggressively investing in AI-data center infrastructure and software solutions to gain first-mover advantages. Many of the "Magnificent Seven" companies are spending tens of billions of dollars to purchase graphics processing units (GPUs) that act as the brains of their high-compute data centers.

Yet in spite of Wall Street's most-influential businesses putting big bucks to work on the evolution of AI, there's another trend set to dwarf it in terms of aggregate spending. Over the next decade, S&P 500 companies are on pace to spend in excess of $10 trillion -- i.e., average more than $1 trillion per year -- on another scorching-hot investment.

S&P 500 companies are set to spend $1 trillion (or more) per year on this trend

What's even hotter than the AI revolution, in terms of corporate spending? Look no further than (drum roll) corporate buybacks!

Between 2011 and 2017, S&P 500 companies repurchased between $413 billion and $592 billion worth of their stock each year, which works out to an average of around $100 billion to $150 billion per quarter. But things changed in a big way once Donald Trump took office for his first term as president.

Trump's flagship Tax Cuts and Jobs Act (TCJA), which was signed into law in December 2017, reduced the peak marginal corporate income tax rate from 35% to 21%. This represents the lowest peak corporate tax rate since 1939, and it's put more cash in the coffers of time-tested public companies than they've known what to do with.

Excluding the uncertainties tied to the COVID-19 pandemic and ensuing lockdowns, S&P 500 companies have purchased a collective $815 billion to $950 billion worth of their own stock on an annual basis since the TCJA went into effect. President Trump has intimated that he'd like to see the peak marginal corporate income tax rate slashed by another 29% for companies that manufacture their products in America.

Based on estimates from Goldman Sachs, S&P 500 stock buybacks are expected to reach a record $1.075 trillion in 2025. With the TCJA making corporate income tax rate cuts permanent, and Trump holding office for the next four years, the trajectory is for share buybacks to progressively increase.

Companies typically undertake share repurchases for three reasons. Firstly, buybacks help to incrementally increase the ownership stakes of existing shareholders, which incents long-term investing. It's one of the primary reasons Warren Buffett has spent close to $78 billion buying back shares of Berkshire Hathaway stock since mid-2018.

Secondly, it sends a strong message to Wall Street and investors that the board and/or management team still view their company's stock as a bargain.

Third, and perhaps most importantly, companies with steady or growing net income that undertake buybacks on a regular basis can increase their earnings per share (EPS) and make their stock more fundamentally attractive to value-focused investors. Earnings growth associated with share repurchases has played a key role in the current bull market rally.

Image source: Getty Images.

Wall Street's greater-than $10 trillion investment may not be enough to prevent a stock market crash

While all signs continue to point to businesses -- especially S&P 500 companies -- putting a lot of their capital to work via buybacks over the next decade, share repurchases alone are unlikely to mask a historically pricey stock market.

Although "value" is an entirely subjective term that can change from one investor to the next, most investors tend to put a lot of faith in the traditional price-to-earnings (P/E) ratio. The P/E ratio is arrived at by dividing a company's share price by its trailing-12-month EPS. While this valuation tool allows for quick assessments of mature businesses, it's not particularly useful for growth stocks or when shock events and recessions occur.

What's been a far more accurate valuation measure for Wall Street is the S&P 500's Shiller P/E Ratio, which is also known as the cyclically adjusted P/E Ratio, or CAPE Ratio. This valuation measure, which has been back-tested to January 1871, relies on average inflation-adjusted EPS from the prior 10 years. This ensures that short-lived shock events can't skew the reading.

As of the closing bell on March 7, the S&P 500's Shiller P/E Ratio stood at 36.34, which is more than double its 154-year average of 17.21. Further, it's the third-highest reading during a continuous bull market.

S&P 500 Shiller CAPE Ratio data by YCharts.

Including the present, there have only been six occurrences since 1871 where the Shiller P/E has topped 30, and the previous five instances all saw the S&P 500 shed at least 20% of its value. Though the Shiller P/E isn't a timing tool, it does have a flawless track record of foreshadowing big-time downside in equities.

Share repurchases can only extend valuation premiums on Wall Street so far. For instance, Apple (NASDAQ: AAPL) has accounted for $695.3 billion out of the S&P 500's $7.11 trillion in cumulative buybacks over the trailing decade (through Sept. 30, 2024), based on data from S&P Global.

Despite spending more on share repurchases than any other public company, Apple's EPS has been flat over the last couple of years. Over that time, its net income has fallen from $99.8 billion in fiscal 2022 (Apple's fiscal year ends in late September), to $97 billion in fiscal 2023, and finally $93.7 billion in fiscal 2024. Apple is the ideal example of the promise and limitations associated with aggressive share buybacks.

Not even Wall Street's greater-than $10 trillion investment over the next decade can save it from an eventual move lower.

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Sean Williams has no position in any of the stocks mentioned. The Motley Fool has positions in and recommends Apple, Berkshire Hathaway, Goldman Sachs Group, and S&P Global. The Motley Fool has a disclosure policy.