High demand for grid upgrades, electricity stocks too cheap Goldman Sachs: Next wave of AI trading in Europe

AI trading remains hot. Earlier, it was reported that maintaining AI data center operations requires a huge amount of electricity, which will become the "next AI trade". In response, Goldman Sachs has launched the "Power Up America Trading" index (GSENEPOW). This trading strategy has lived up to expectations, with a return rate surpassing the "Magnificent 7" of the US stock market, as well as the two baskets of stocks "Broad AI" and "Data Centers".

Financial media ZeroHedge wrote on Tuesday that there is still significant upside potential for the "Power Up America Trading", but looking beyond the US, there are other similar trades that are even more profitable. If the US is the fertile ground for AI electrification, then Europe is a true gold mine.

Europe's Electricity Consumption Expected to Increase by 40% in the Next Ten Years

Goldman Sachs previously released a research report titled "Charging Ahead", pointing out that Europe's electricity demand is expected to grow by 40% in the next 10 years, mainly due to the rapid expansion of AI data centers and the accelerated progress of the electrification process "REPower EU". Moreover, as the energy consumption of AI data centers is expected to be 10 times that of traditional data centers, Europe is projected to account for 20% of the global data center electricity demand in the future. This is because Europe's power grid has an average age of 40 years and urgently needs to be upgraded to support AI data centers.

Therefore, following the "Power Up America" index, Goldman Sachs has introduced the "Power Up EU Index" GSPIPOWR Index, which consists of European infrastructure companies most likely to benefit from grid renovation, with an expected upside of 20%.

In the research report, Goldman Sachs predicts that Europe's electricity consumption is expected to grow by over 40% in the next 10 years. In recent years, due to low investment, European electricity demand has fallen 10% below the 2008 level, but electrification and AI are expected to be the main contributors to the turning point in European electricity demand.

Goldman Sachs analysts predict that as the EU advances its large-scale electrification goals (REPower EU plan), the focus on heating, transportation, manufacturing, and hydrogen will support an additional 35% or more of electricity demand. The use of renewable energy will be crucial, with investments in wind and solar energy expected to reach 850 billion euros, potentially driving the clean earnings per share compound annual growth rate of major renewable energy companies to 5% to 6% over the next five years.

At the same time, as the oldest regional grid in the world, the modernization needs of the European grid, which is already 45 to 50 years old, will drive an 80% to 100% increase in grid investments. Goldman Sachs predicts that by the end of this century, total transmission and distribution expenditures will approach 800 billion euros, with grid capital expenditures nearing 50 billion euros, driving the regulatory asset base compound annual growth rate to around 10% between 2023 and 2028

Data Centers and AI Will Become Catalysts for the Transformation of European Power Grids

Currently, it is estimated that the energy consumption of a single ChapGPT search query is 10 times that of traditional Google searches. According to analysts at Goldman Sachs, the rise of AI alone could increase Europe's future electricity demand by 2.5% to 5.0% over the next decade.

On the other hand, traditional data centers have also been expanding recently to match the higher demand from retail (cloud computing, social media, streaming), potentially adding another 5% to 9% to Europe's electricity demand by 2033. Countries with the lowest electricity prices, including the Nordic countries, Spain, and France, or countries with intensive financial and technological activities such as the UK and Ireland, may be most affected.

Goldman Sachs predicts that the additional consumption from AI and traditional data centers over the next 10 years will reach around 220TWh, equivalent to the current electricity consumption of the Netherlands, Portugal, and Greece combined, with Europe's data centers expected to capture a 20% share of the global electricity market.

The research report points out that power supply and cooling companies, grid equipment and cable companies have the highest exposure in the data center sector and may benefit more from the transformation driven by AI in terms of revenue. For investors looking for higher returns in the short term in the AI data center theme, Goldman Sachs recommends the GSXEACDC Index, which includes large European electrical companies.

European Power Stocks Could Rise by Another 20%

Goldman Sachs points out that the stock performance of European utility companies so far this year has lagged behind their American counterparts, as potential future growth has not been priced in. Data shows that the "Charge Europe Index" GSPIPOWR has risen by 14% year-to-date, lagging behind the 37% increase in the "Charge America Index" GSENEPOW, mainly due to the drag from European utility companies.

The research report states that the entire sector of the "Charge Europe Index" has experienced a valuation compression of 35% to 75%, and the current trading levels are very cheap for two main reasons. Firstly, the rapid decline in European natural gas prices last winter led to a reset of earnings expectations, and the higher interest rate environment compared to American companies has constrained the balance sheets of European companies due to stricter regulations and higher leverage. In particular, a significant mismatch between assets/liabilities in the industry - with asset terms of 30 years and short-term debt maturity of only 7 years - has impacted the sector's performance.

The report indicates that the current pricing of most European renewable energy stocks does not reflect future growth at all, and even the contribution of future growth is negative, shifting the focus of pricing from capital expenditure to capital return, implying a sustainable EBITDA growth rate of 7% to 10% per year.

The Charge Europe Index GSPIPOWR rose by 6% last week, mainly benefiting from the performance of several large enterprises and improvements in macro factors, such as the normalization of natural gas prices and expectations of a rate cut by the European Central Bank in June. Goldman Sachs points out that European public utility stocks still have a 20% upside potential to catch up with their American counterparts Goldman Sachs stated that the GSPIPOWR Charging Europe Index is more sensitive to the AI theme, and has risen by 14% year-to-date. In comparison, traditional ETFs and the STU:FP European Utilities Index, which are closest to this index, have only risen by 1.6%. According to the research report, the GSPIPOWR Charging Europe Index covers all major growth drivers in the electrification process, including companies in the electrical grid and equipment industry that help support grid modernization, large electrical companies that aid in AI capital expenditure growth and data center, and renewable energy companies that help meet the growing demand for clean power