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Metaverse interest fades as AI challenges take centre stage

Patient investors can still find opportunity, but progress will be gradual and volatile.

Metaverse themed funds were one of the hottest investment stories of 2022 with 35 metaverse-labelled ETFs launched to capture the theme.

A year later investors would be hard pressed to find the word metaverse in the news.  The worst tech stock collapse in two decades means that investor interest in areas with a promising future, but limited short term prospects has dried up.

But that doesn’t mean development of the metaverse has stopped. Patient investors can still find opportunity as it continues to develop, analysts say, but progress will be gradual and volatile.

For now a more urgent focus for companies such as Meta Platforms Inc. (NDQ:META) is how to respond to the challenges unleashed by generative artificial intelligence personified by Open AI’s Chat GPT. Microsoft Corp. (NDQ:MSFT) is an Open AI partner and opened a competitive floodgate by integrating the software into its Bing search engine and Azure cloud service.

“Every investor is talking about generative AI and trying to figure out how to invest it and how to avoid being disrupted by it,” says Brad Erickson, who leads RBC Capital Markets’ internet equity research team. “That’s the biggest reason that metaverse relevance has died: Generative AI.”  

Mr. Erickson says metaverse development is an evolution, rather than a revolution and “a decade’s long journey” whose final destination is unknown.

He says Meta’s goal is to build a dominant platform that will act as a gateway for its 2.9-billion active monthly Facebook users.  This platform will be a “walled garden” where other products and services pay to gain access to Meta’s audience. The near-term challenge is to shore up advertising revenue. Mr. Erickson estimates that US $2 billion of Meta’s announced $12 billion of cost cuts could be metaverse related.

“There are not running away [from the metaverse], it’s still an important, strategic long-term initiative,” he says. “But there’s so much change in digital advertising they have had to focus [there.] That’s far more important this year.”

There is plenty of metaverse-related news. Walt Disney Co. (NYSE:DIS) recently closed a division that was working on metaverse strategies. The cuts were part of its wider layoffs. Microsoft has wound down its industrial metaverse project as a part of its layoff of 10,000 people. Instead it is teaming up with graphic chip leader Nvidia Corp. (NDQ:NVDA)

 Nvidia’s omniverse system is using Microsoft’s Azure cloud to allow engineers to collaborate on projects. Siemens AG, Europe’s largest industrial manufacturer, is piggybacking on Nvidia’s  efforts. Its engineers and designers can access Nvidia-generated 3D representations of products, machinery or entire manufacturing facilities to optimize designs.

Microsoft’s US $69 billion pursuit of video game maker Activision Blizzard Inc. (NDQ:ATVI ) is seen in part as a long term metaverse play. The acquisition faces regulatory headwinds, but gaming is one area where virtual reality has taken off. The acquisition bolsters Microsoft’s gaming business.  In another initiative, Microsoft is working with the US Pentagon to develop virtual reality night vision googles.

Elliot Johnson, chief investment officer at Toronto-based Evolve Funds Group Inc., says investors have reason to be positive.

“You need to look five to 10 years out,” he says. “It’s very easy to be bearish on tech. But do we think that the innovation in the technology world is going to stop because there was a bad year in the stock market?”

Evolve ETFs Elliot Johnson believes Meta isn’t wrong, just early. Credit: Supplied Photo

Evolve markets one of two Canadian metaverse ETFs launched as part of the craze. Both are quite small and had sharp sell offs in 2022, though both have rebounded this year. The strategies differ, but they have overlapping holdings. For example, Evolve Metaverse ETF MESH-T and the Horizons Global Metaverse Index ETF  MTAV-T  both hold Meta, Nvidia, Alphabet,  Microsoft and Activision Blizzard.

Mr. Johnson believes Meta isn’t wrong, just early. When it changed its name, investors expected something big to follow. When it didn’t, they wondered what the fuss was about.

 So what should investors do?

One strategy is to invest in the mega cap techs such as Microsoft, Meta and Alphabet, who have the financial depth to develop the theme while generating cash from core businesses.

Another strategy is an ETF with a broader tech focus because it offers a diversified approach with a mix of large and small companies as well as sub-sectors such as hardware, software and services, networking, digital content creation.

“If you look back at the internet early on, you didn’t want to buy Palm Pilot only to find out that  BlackBerry has beaten them and then Apple launched the iPhone and beat BlackBerry,” says Mr. Johnson.

Nick Clegg, Meta’s head of Global Affairs maintained in a recent interview with Bloomberg News that the metaverse is still a core focus for the company.

“We’re going to stick with it, because the early evidence suggests that something like this will be the heart of the new computing platform,” he said. “But it’s going to take a while.”

That’s a clear message for investors.

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