Fed Holds Rates — Inflation Back in Focus

Ed Elson speaks with Michael Gapen, Chief U. S. Economist at Morgan Stanley, about the Fed’s path forward and the dollar’s decline. Then Ed breaks down Meta and Microsoft’s earnings with Gil Luria, Head of Technology Research at DA Davidson. Finally, Ed lays out his investment thesis for his latest stock pick: Adobe. Check out our latest Prof G Markets newsletter Follow Prof G Markets on Instagram Follow Ed on Instagram, X and Substack Follow Scott on Instagram Send us your questions or comments by emailing [email protected] Learn more about your ad choices. Visit podcastchoices.com/adchoices

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• 1:29Ed Elson?

  Today's number four. That's how many years some octopus mothers will go without food while they guard their eggs from predators. Scientists have described these maternal instincts as an inspiration. However, Brooklyn Beckham believes they're doing too much.

• 2:00Ed Elson?

  Welcome to Prof G Markets. I'm Ed Elson. It is January 29th. Let's check in on yesterday's market vitals. The S and P 500 hit 7,000 for the first time ever to start the day. Still, all three major indices ended the day flat after the Fed's interest rate decision. More on that in a minute. Meanwhile, the yield on 10-year Treasuries increased. Oil climbed after President Trump warned Iran that a "massive armada is ready for violence", and Tesla stock rose after hours as the company posted a better-than-expected fourth-quarter report. However, revenue for the full year dropped for the first time in company history. Okay, what else is happening? The Federal Reserve is holding rates steady after three

• 2:44Ed Elson?

  consecutive cuts last year. The central bank explained that unemployment is showing "some signs of stabilization" while inflation remains "somewhat elevated". In his remarks, Chair Powell said that the outlook for economic activity has "clearly improved since the last meeting, and that should matter for labor demand and employment over time". Meanwhile, two governors, Stephen Myron and Christopher Waller, dissented. They voted in favor of a quarter-point cut. Stocks wavered after the decision to hold, pulling back from a record high earlier in the session. Okay, here to discuss this Fed decision and what it might mean for markets, we're speaking with Michael Gapen, Managing Director and Chief U.S. Economist at Morgan Stanley. Michael, thank you very much for joining us on Prof G Markets.

• 3:28Michael Gapen?

  Thanks for having me on.

• 3:30Ed Elson?

  So, this Fed decision, the Fed held steady, pretty much as expected. There was some dissent from Stephen Myron, from Christopher Waller. Let's just start with your initial reactions. Did anything jump out to you from this Fed meeting?

• 3:47Michael Gapen?

  Well, as you noted, the decision to stay on hold was widely expected. That was no surprise. And so I think what markets and I was looking for really was, is the Fed, have they paused or are they on pause? Right? In other words, was this a hawkish hold, meaning they want to signal that they will be on hold for a long time? They don't anticipate adjusting the policy rate for a long time? Or was it, hey, things look a little bit better? But we think as inflation comes down, we might ease later, right? Did they maintain an easing bias? Right, so that was really the key, I think, for for all of us in markets and what I was looking for. Was it a hawkish hold or a dovish hold? And I think we did get the latter.

• 4:31Michael Gapen?

  So the Fed certainly felt like the economy has gotten better. There are some signs that the labor market has stabilized. There doesn't appear to be a lot of upside risk to inflation. So given that they had already moved seventy five basis points or cut three times, I think they felt like it was time to stop, look around and see how the economy evolved.

• 4:54Ed Elson?

  What does that mean for rate hikes or rate cuts moving forward? And what does that mean for the battle between Donald Trump and Jerome Powell? Of course, the president has been pushing for rates to come down. How does this change things, if at all?

• 5:10Michael Gapen?

  Well, I think the way that I would describe it is coming into the second half of last year, the Fed was cutting rates on concerns about the labor market. The Fed felt there were downside risks to employment, so they were labor market based cuts. But if they've upgraded the outlook, they say activity is is solid. I think that's hard to deny that. And they said the labor market is showing signs of stabilization. So I think what that means is cut shift to inflation based cuts. In other words, when it's when it's clear, if they're right, that tariffs only inject temporary upward pressure on inflation. And once that pass through is completed, inflation starts coming back down,

• 5:53Michael Gapen?

  then the Fed can normalize its policy stance further. So I would describe it as a shift from labor market based cuts to an outlook of inflation based cuts. So what would mean the Fed doesn't cut is that disinflation doesn't happen. Or if inflation firms further and the labor market tightens, then maybe the Fed has to even consider Great hikes, but I think Powell made it pretty clear. He said, nobody is considering, at least it's not in anyone's baseline case, that there should be rate hikes. So I think in some ways the Fed is still kind of cutting off the upper end of the policy rate distribution and saying, we're either on hold for a prolonged period, or inflation will decelerate and we

• 6:38Michael Gapen?

  can move our policy rate lower. As you pointed out, the administration would clearly prefer lower interest rates. So what they want may come later, but I think the Fed sees the economy as warranting lower rates, but it may take more time to get there.

• 6:54Ed Elson?

  If it's all about inflation now, or mostly about inflation, as you say, what is the Fed's view of what we're seeing with inflation right now? Because, you know, it's it's still pretty high. The target is two. We're at 2.7, although there are questions over whether that 2.7 number is accurate, given the shutdown that we had in the government. So I guess the question being, what does Jerome Powell think about inflation right now? Does it appear to be a real concern?

• 7:27Michael Gapen?

  I would say each with each passing month, they have greater confidence that inflation will be coming down later this year.

• 7:36Ed Elson?

  Okay.

• 7:36Michael Gapen?

  So the way that he's talking about it is, yes, there's clear evidence that tariffs are pushing goods prices higher, not meaningfully higher from the Fed's perspective, but certainly they're moving higher. And that's something to to watch. But there are other goods prices which are not as exposed to tariffs. Those aren't moving higher. And he said services inflation, which is mostly about domestically generated inflation, that that's decelerating. So they look at it, I think they say outside of tariffs, it looks like inflation is decelerating towards their target. So once we get through with the pass through, then goods prices can start to come down as well, or at least stop rising. And so they have a pretty favorable

• 8:21Michael Gapen?

  outlook. So I think it's more like a matter of time for them. How quick, how long does the pass through last? And then how quick does inflation decelerate? After, but a year ago, it was almost a year ago, right? After Liberation Day, very different story, right? They were very concerned about upside risk to inflation and inflation firming well above the target.

• 8:44Ed Elson?

  Yes.

• 8:44Michael Gapen?

  And I think as time has gone on, they've been able to see what part of inflation is linked to tariffs, what's happening there? Okay, it's moving higher a little bit, but the rest of inflation still looks good. In other words, no second round effects on inflation. So I think their view is about as confident as you can get, given the overall backdrop.

• 9:10Ed Elson?

  There are some other questions I have, but I'm just interested on your perspective on that view because, you know, as an observer, if the target is 2% and they're indicating that they're comfortable with 2.7 and yet, as I've said, you know, there are third-party sources saying the number is actually higher, given the shutdown and the lack of data that we've seen after the month of October that we've seen from the BLS. I guess I'm surprised that there is a sense of comfort with that number or that that is a reason to not worry so much. I mean, it seems that the 2% number, the target, has perhaps been abandoned, or at least they don't really believe that that is the true target.

• 9:55Ed Elson?

  What would you say to that?

• 9:58Michael Gapen?

  So I think it's fair to still have concerns and I think it's right to point to the fact that we don't have the entire picture on inflation. There's probably some catch-up still to be had in the January data and certainly even into next April. That's a legacy of the shutdown and the inability of the BLS to sample prices when they need to. So there is probably some makeup effect there. So I think we shouldn't be so quick to declare victory on inflation. I generally agree with the Fed's view, but what I would say is we should really have a watchful eye. Inflation has been above or well above the Fed's 2% target now going on five years.

• 10:42Michael Gapen?

  How long can that happen and inflation expectations still remain stable, consistent and low? Right? So if that market slips, if inflation slips and inflation expectations slip... Getting that realigned would be costly in terms of of economic output and perhaps unemployment. So I think the Fed's right. And I think the way they would answer this question, and I will answer this question, is that's why they're keeping their policy rate at least modestly restrictive.

• 11:13Ed Elson?

  Yes.

• 11:13Michael Gapen?

  So they, yes, they reduced policy rates and but they didn't get policy outright easy. They made it less restrictive. So they've left it, they've left it a little restrictive and they think that balances the pressures they're getting on inflation now versus the softness they were seeing in the labor market. Of course, we'll see if that's if that's true. But that's the way I think they would answer it. Hey, we're not, we're not even neutral. We're not even easy. We're still restrictive on on balance and that should help guarantee that tariff pass through is transitory.

• 11:48Ed Elson?

  Along these lines, more macro, another topic that's been making headlines this week is the the devaluation of the dollar. The dollar fell to its lowest level in four years on Tuesday. Meanwhile, the massive run up in gold and a lot of people, I can't tell how much of it is real, but a lot of people are talking about the debasement trade, the devaluation of the dollar, the unsustainable deficits and debts, which Jerome Powell discussed. And in concert with the massive rise in gold, it does appear that perhaps there is this kind of wholesale mistrust in US currency at this point.

• 12:29Ed Elson?

  And Powell's response to what we've seen with gold, he said, quote, "We don't take a strong signal from rising gold prices," which I found interesting. I noticed a lot of people are talking about that and saying, well, maybe you should care about gold prices. I just wanted to get your views on what we've seen with gold this week and also Jerome Powell's response.

• 12:49Michael Gapen?

  Well, I think the way the Fed would view it is that we're linking dollar policy and gold policy, or at least dollar movements and gold movements together. The Fed doesn't set its policy rate to target the currency, right? So it will respond to fluctuations in the currency and what that might mean about growth in net trade or inflation. But it doesn't make dollar policy, right? Other central banks, it's different. Primarily in the emerging market world, you may actually set interest rates to help guide the currency because that generates a lot of inflation, right? The tradable sector is much more important.

• 13:29Michael Gapen?

  So I think what Powell was saying is, look, dollar policy and de facto, then if gold is representing sustainability concerns, both of those are really treasury policy. And so we're not supposed to comment. And that's, there's a long history of that in terms of the division between the two institutions. But that said, let's put that aside to the premise of your question, right? There's a lot of concern out there. There's, let's say, there's a laundry list of concerns that all end up looking like greater country risk for the United States. And so whether it's concerns about an unsustainable fiscal profile, concerns about US policymaking

• 14:11Michael Gapen?

  broadly, and whether it's trade disconnections or geopolitical disconnections, right? There's a lot of concern about where US policy is going. The rest of the world holds a tremendous amount of US dollar-based assets. It's about $62 trillion that the rest of the world holds in US dollar assets, whether that's direct holdings of US corporates, or bonds, or equities, or money markets. And so there's really no asset class where the rest of the world can say, well, we don't want dollar assets anymore. We're going to sell 62 trillion and move them over here. Right? There is no other market to rebalance to.

• 14:56Michael Gapen?

  So what we think is happening is that means, well, I still have to hold dollar-based assets. The question is, at what price and how do I hedge them? So the dollar gets a lot of that expression, as we would say in markets. The escape valve for pressure and concerns about US policymaking, whether it's the debt profile or geopolitical or otherwise, all of that is getting reflected in the dollar. So there's a number of factors that are causing dollar volatility. And yes, usually officials, whether it's the Treasury or the Fed, will get worried about rapid movements in currency markets. And we did kind of get that this week, right?

• 15:37Michael Gapen?

  So and we had comments by Secretary, Treasury Secretary Besen today. No, we're not intervening in favor of a weaker dollar, right? So sometimes policymakers do have to step up to at least stabilize the situation and reduce volatility. But I would expect that these dollar concerns will be with us for some time. And to your point, concerns about debasement of fiat currencies, and therefore that may drive demand at certain points in time for things like crypto, Bitcoin and gold.

• 16:08Ed Elson?

  What did you make of the president's response to these concerns? I mean, he made a lot of headlines. He said, I'm not too worried about it. He said, you know, he said this comment about the dollar goes up, it goes down, it's like a yo-yo. A lot of conclusions, I think, people are trying to draw out of perhaps not that meaningful words. He's just, you know, talking to a reporter. But I'd be interested to hear your response to that. I think the takeaway for a lot of people is this is a big deal. And it sounds like from what you're saying, it is a big deal. And yet the president is saying, don't worry about it. Goes up, it goes down.

• 16:43Michael Gapen?

  Well, I think it's akin to what Treasury Secretary Besen said in the sense of, hey, we're, we're going to at least come to you in the moment without expressing too much concern. You know, we've got, we've got a handle on the situation. I would agree with you. I wouldn't read too much into, into those comments. And I would just read the totality of the administration's response to it, including what, what Secretary Besen said. So it's, you know, that said, you know, I think what the market is concerned about is.

• 17:19Michael Gapen?

  If you go all the way back to the Mar-a-Lago Accord, which was viewed as generally an expression of the administration's intent on economic and trade policy, there is a lot in that document about an overvalued currency and the negative effects that that has had on, say, US manufacturing employment and the outsourcing of activity outside the US. So I think investors come to the table in this discussion thinking the administration wants a weaker dollar. So they're probing, is this what you want? Is this what you wanted? And so that's where I kind of think that therefore they're hypersensitive to anything

• 18:00Michael Gapen?

  that the president or the Treasury Secretary would say around this issue.

• 18:05Ed Elson?

  One last question, we'll let you go. The Fed Chair is, or the new Fed Chair is an open question. We thought it was going to be one of the Kevins. Now it appears it's going to be Rick Reader, or at least his chances have gone up if we look at the prediction markets, at 46% probability at the moment. Do you have any thoughts on who the next Fed Chair might be and perhaps how much it matters?

• 18:31Michael Gapen?

  So I have a stronger view on maybe who it's not than who it will be of the remaining three.

• 18:37Ed Elson?

  That works.

• 18:38Michael Gapen?

  I do think that the timing of the DOJ subpoena served to the Fed has certainly helped, I think, reduce the likelihood that Kevin Hassett will be the chosen one. And Trump's remarks saying, I'd prefer to keep you where you are, I think foreshadows that a bit. So maybe it was the Senate's way of saying, not this person given the risks to the institution. So that leaves Rick Reader, Kevin Warsh, and Governor Chris Waller. I mean, Rick Reader, to your question, he's been in financial markets for about 35 years. So he has a deep, extensive knowledge about how financial markets work.

• 19:21Michael Gapen?

  That's important, of course, because Fed policy is transmitted to the economy.

• 19:27Michael Gapen?

  Through financial markets. Now, some will say, oh, but, you know, Rick Reeder isn't a PhD economist. And my response to that will be, well, neither's Jerome Powell.

• 19:37Ed Elson?

  Yeah.

• 19:38Michael Gapen?

  It's really not the job of the chair to necessarily be the best economist in the room. The job of the chair is to help build a consensus, to manage the committee, to herd the cats, and communicate to financial markets and the broader public. Rick is certainly capable of doing that. So I think whether it's Rick Reeder, or Kevin Warsh, or Chris Waller, I think they're all capable to do the job. And I would just say, recent events tell me more about who it's not going to be than who it will be. So no strong view for me. Betting markets, of course, have their view. We'll see what the president chooses.

• 20:14Ed Elson?

  Michael Gapen, Managing Director and Chief U.S. Economist at Morgan Stanley. Michael, this was extremely informative. Thank you so much.

• 20:20Michael Gapen?

  Thank you.

• 20:22Ed Elson?

  After the break, Meta and Microsoft report earnings. And for even more insights, you can also subscribe to my weekly newsletter at edwardelsin.substack.com.

• 20:38Speaker 00

  This episode is brought to you by Michelob Ultra. Good times mean competitions between you and your friends, like seeing who can throw some pigskin the farthest or rush the field the fastest. Winner gets an ultra. Because it's not just a superior light beer, it's also giving fans superior access to their favorite sporting events. Superior is worth playing for. Visit michelobultra.com/superioraccess to enter. Enjoy responsibly. Copyright 2026 Anheuser-Busch InBev Michelob Ultra Beer, St. Louis, Missouri.

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• 22:10Ed Elson?

  We're back with Profty Markets. Meta and Microsoft both reported earnings and both were a beat. Microsoft's revenue increased 17% year-over-year. However, cloud growth was slightly lower than the previous quarter and investors were not impressed by that. Stock actually fell as much as 5% after hours. Meanwhile, Meta's fourth quarter sales rose 24% from a year earlier. The company also issued stronger-than-expected sales guidance for the current quarter. That sent the stock up as much as 10% after hours. Here to help us break down these earnings, we're speaking with Gil Luria, Head of Technology Research at DA Davidson. Gil, welcome back to Profty Markets.

• 22:52Gil Luria?

  Thanks for having me back.

• 22:53Ed Elson?

  So we just got these earnings from Meta and Microsoft. I think we should probably start with Microsoft here. Beat on the top and bottom lines, but stock is falling as much as 5% in after hours. What did you make of the quarter? And what do you make of the market's reaction to the quarter?

• 23:13Gil Luria?

  It was a small beat. What I think the aftermarket activity is a little bit of investors being picky about Azure growth. They wanted 39% growth and they got 38% growth. Having said that, just a few seconds ago, they guided that next quarter will be a 37% to 38% growth. So I think investors will be able to relax a little bit, especially when they realize that some of the other numbers they reported, like remaining performance obligations for this year, are also up 39%, which is to say the growth of Azure this year.

• 23:47Gil Luria?

  Is already in the books. So they're in very good shape. I believe that by the time investors fully digest these results, they'll realize Microsoft is still doing great. Let's not forget that thirty eight percent compares to thirty two at Google Cloud and low twenties at AWS and Amazon. So Microsoft is still doing the best of all the large cloud providers. And again, we now know that that's going to be the case for the rest of the year.

• 24:16Ed Elson?

  Let's just touch on their remaining performance obligations here up. But something that stuck out to me, forty five percent of those remaining performance obligations are coming from OpenAI.

• 24:29Gil Luria?

  Yes.

• 24:29Ed Elson?

  This is something that you and I have discussed.

• 24:31Gil Luria?

  That's right.

• 24:32Ed Elson?

  Many times. Can you trust that? It seems like investors don't trust it, at least based on the initial reaction from the markets. What do you make of the fact that forty five percent of the revenue to come is coming from this company that we've discussed, we can't really trust?

• 24:50Gil Luria?

  The next couple of months are going to be critical from the OpenAI perspective. OpenAI is out in the market trying to raise capital. If they can raise the fifty billion dollars they're aiming for, they have somewhere between twenty and forty billion on the balance sheet. If they can raise the fifty billion, they'll be fine. And even if they raise less than that, what's different about Microsoft and the discussions we've had about Oracle or CoreWeaver AMD is that Microsoft is front of the line. Any dollar that OpenAI gets, Microsoft has first claim to it. Not only is it an investor, it's also the primary compute provider to OpenAI. So even if

• 25:31Gil Luria?

  we're in a scenario where OpenAI has to scale down significantly and may not be able to pay Oracle or CoreWeaver AMD. It'll pay its Microsoft bills, so that makes us feel better about that. But clearly, it's a huge part of Azure's growth. And it's the use of ChatGPT. We're all using ChatGPT more. And that's the piece of the business that Microsoft will continue to have. The more speculative parts is if OpenAI comes back to us and raises $100 billion, then everybody's dreams can come true.

• 26:04Ed Elson?

  Moving on to Meta.

• 26:07Ed Elson?

  I think the thing that jumped out to me, and I'd like to get your reaction, is the capex guidance. They're guiding $115 to $135 billion in capex in 2026. I guess what is striking to me, last year, they made that a similar announcement. We're going to spend a lot of money. Markets didn't like it. They're saying the same thing. Markets do like it. What did you make of the reaction?

• 26:35Gil Luria?

  That core Meta selling ads business is doing so well. Investors are willing to give Mr. Zuckerberg a pass. He's still growing that ads business in the mid 20s, 24%, 25%, which is remarkable at this scale. By the way, it's twice as fast as Google's growing its ad market, which tells you Meta is a significant share gainer, which just gives Mr. Zuckerberg a free pass to do whatever he wants.

• 27:02Ed Elson?

  Right.

• 27:02Gil Luria?

  Because let's not forget, the numbers you just talked about are pretty comparable to Microsoft. Microsoft turns around and sells that entire capacity to paying customers. Meta only uses a fraction of that capacity to make ads better and sell ads for more. The rest is just a sandbox to build new models that he's not even sure what he's going to use them for. He got asked a couple of times on the conference call, what's this even for? And he said, you know, this isn't a good time to ask me about that. Ask me about that later.

• 27:35Ed Elson?

  And people are OK with that. The growth in that ad business, what's the story there? Is that people using Meta apps more? Is that more users? Is that higher CPMs on advertising? What is it, all of the above? I mean, what's the story behind the more than 20% growth in that ad business, which is already gigantic?

• 27:57Gil Luria?

  Well, it's all of the above. They're selling a double digits more ads for double digits higher prices. And to be fair to them in terms of AI investment, it's because they're so good at AI. Our algorithms for feeding for our feed are getting so much better. And the algorithms for predicting what ads we're going to click on are so much better. That they can drive that kind of remarkable growth. Again, that doesn't mean they need 125 billion of CapEx to do that. They only need a fraction of that, but what they are getting so good. At using AI to make our feeds more compelling, more organic content, more original content, more domestic content.

• 28:37Gil Luria?

  More content that we find compelling, that it's helping them sell a lot more ads for a lot higher prices.

• 28:44Ed Elson?

  Just looking at the valuations here, Microsoft trailing PE of 34, Meta trailing PE 29, coming up on 30. Do you have any views on the valuations of these companies at this point? Does this change your view in any capacity?

• 29:01Gil Luria?

  So Microsoft is trading at a discounted historical trading rate. It's usually trade between 25 and 35 times forward PE. Right now, as of after the market, it's around 26 times. So on the lower end. Meta tends to trade at the low 20s, which is where it's at right now. But what's interesting to know is that Google is trading in the high 20s on PE. Where their historical range is more in the low 20s. And that's in spite of the two things that I pointed out. Microsoft Azure growing faster than Google Cloud, Meta Ads growing faster than Google Ads. So Google is trading at a premium to these two other businesses that are growing faster.

• 29:42Gil Luria?

  That's all narrative. That's all this belief that Google has already won AI, the game's over. And Google is the only winner. As you can tell from my tone, I'm a little skeptical of that. I think Google is our winner.

• 29:54Ed Elson?

  Yeah.

• 29:54Gil Luria?

  But it's probably not the winner. And therefore Meta and Microsoft should be able to outperform this year. As the market rebalances its perspective on who's winning and who's not winning.

• 30:04Ed Elson?

  It is very interesting, the vibe shift here, because if we were to rewind 12 months ago, I mean, it was a totally different narrative. And this was something that we talked about on our show. Why is Google getting beaten up and beaten down when it has all of this potential in AI? What you're saying is, I think correctly, the narrative has completely flipped. People are extremely excited about Google. If you had to sort of stack rank the big tech and the big AI companies in terms of vibes, in terms of how Wall Street, how investors feel about their growth projections and their ability to capitalize on AI, how would you characterize the vibes on each of these companies at this point?

• 30:45Gil Luria?

  So right now, the vibes for Google are the best and the vibes for Microsoft and Nvidia are the worst. And I would argue that Microsoft and Nvidia are going to do better this year than Google in terms of results. Because you mentioned that huge shift, right? Google was trading at 18 times forward earnings just a few months ago. Now it's trading at closer to 28 times earnings. You know that their estimates haven't moved.

• 31:09Ed Elson?

  Right.

• 31:09Gil Luria?

  So it's all multiple. It's not that the projections for the business have changed at all. Just narrative, just based on people getting excited about Gemini. So Google is very much in favor. Microsoft and Nvidia are very much not in favor. But if you ask me, who's going to actually grow the AI, get more of the profit dollars generated by AI this year, it's going to be first and foremost Nvidia, as it always has been. And then it's going to be Microsoft.

• 31:36Ed Elson?

  A final question before we let you go. Google search interest for AI bubble is off about 80% from its peak in November. Where do you land on the AI bubble fears or the AI bubble not fears? Is this something that you're thinking about still? I mean, what do you make of how the conversation has kind of progressed or maybe regressed in the past few months?

• 32:03Gil Luria?

  Yeah, no, it's all we think about. And where we land is AI is going to have a tremendous impact. We're still going to invest a lot. Everybody's going to use AI more for more things. Both as consumers as and employees that's going to drive a lot more data center build out. That's not a bubble. There's real behavior, real demand. There is a lot of bubblelicious behavior, a lot of bubble-like behavior happening. Anybody borrowing money to build a data center that doesn't already have customers, that's speculative behavior. That'll come back to bite us. So there is a lot of bad behavior, all those circular deals that we've talked about, bad behavior, but at the core, and again, that's when we especially talk about your Microsoft, your Amazon, your Google,

• 32:48Gil Luria?

  your Nvidia, at the core, our global economy is going to continue to invest in AI and get good results from that. And any big technology cycle, there's bad behavior that happens around it. But at the core, this is a good investment.

• 33:04Ed Elson?

  Gil Luria, Head of Technology Research at DA Davidson. Gil, always appreciate your time. Thank you.

• 33:09Gil Luria?

  Thank you, Ed.

• 33:14Ed Elson?

  Well, we haven't made a stock pick so far this year, but there's one company that we've had our eyes on for a while now. And that company is Adobe. For those that don't know about Adobe, this is the top design software company in America. They've been around for a long time, founded in 1982. They created Photoshop and Premiere Pro. They even created the PDF. So if you're using a computer, you're pretty much interacting with Adobe every day. Anyway, over the past few years, the stock has gotten hammered. It's down 33% from a year ago. It's down 50% from two years ago. It's down 56% from its peak in 2021. The past few years for Adobe have been pretty brutal.

• 33:58Ed Elson?

  And there are a few reasons for this. One is that revenue growth has slowed. They used to be growing around 20% a year. They're now growing around 10% a year. Two, there's been new competition that has emerged, for example, Figma, which we have talked about, and I'll touch on it in a moment, also Canva. And three, AI happened.

• 34:18Ed Elson?

  And the consensus among investors is that Adobe will be an AI loser. Why? Because AI will potentially reduce the number of designers and therefore reduce the number of designers that use Adobe. So that is kind of the bear case that has played out. And as a result, Adobe is now trading at one of its lowest valuations in a very long time. Its price to sales multiple is 5.5. That is roughly 50% lower than its five-year average. Its price to earnings multiple is 18, also 50% lower than its five-year average. More importantly, it's also about 40% lower than the average of the S and P. In fact, Adobe shares are now trading at their cheapest levels since the early 2010s,

• 35:02Ed Elson?

  when the market was just coming out of the Great Recession. So even if you're bearish on Adobe, even if you don't think it's a great company, the fact of the matter is the stock is cheap right now. But if you're not bearish, and if you do think Adobe is a great company, well, then it's really cheap. And we do think it's a great company for a number of reasons. For example, that revenue growth, perhaps 10% growth doesn't really excite you, but you have to also consider the base that we're working off of here. Adobe did $24 billion in revenue last year. That's almost 10 times larger than Canvas business. It's also more revenue than DoorDash and Airbnb combined, and yet it's still growing at a double-digit clip, which is still pretty impressive.

• 35:46Ed Elson?

  Plus, they're doing more with less. Adobe's revenue per employee hit more than $750,000 last year. That's 40% higher than Salesforce, and it also would explain Adobe's unbelievable gross margins of 90%. That is one of the highest of any large-cap software company in the world. Let's also talk about AI. As I mentioned, some people think that this is an AI loser, but that seems to contradict what is happening on the ground, and that is Adobe is already winning from AI. Their AI tools have already generated more than $5 billion in ARR. Meanwhile, since 2022, when AI first came on to the scene, revenue per employee jumped more than 20%.

• 36:29Ed Elson?

  In other words, AI is both enhancing the operations inside the company, but also making the product better, which is why they're making more money off of it. And that is kind of unsurprising when you consider what the product is. It's image generation, it's video editing, graphics design, all the kinds of things that AI is really good at. There's also a pretty significant and we think underappreciated tailwind for Adobe right now, and that is short-form vertical video. As I'm sure you know, this medium is huge. 95% of Americans are watching short-form content regularly. A third of us are watching it multiple times an hour. Short-form is the future of content.

• 37:11Ed Elson?

  And as a result, huge amounts of resources are being plowed into this medium right now. And this is happening at every media company. It's happening at The New York Times, CNN, ESPN, Fox. It's also happening at Prof G Media. We are investing heavily in short-form. And if you're doing that, which we all are, it's most likely that your team is using Adobe's products to edit and clip the content, specifically Premiere Pro. This is what most professional video editors use. Which brings me to the final point, and that is competition. Yes, Canva is growing very quickly. Yes, Figma is growing very quickly too. But that doesn't necessarily mean they're eating Adobe's lunch.

• 37:55Ed Elson?

  Perhaps in some instances, but you have to remember, this is a huge market and it's only getting bigger. One survey suggests that people in non-design roles are now doing way more design work right now, largely because of new AI tools. It basically just means there are more designers out there. Another survey found that more than 80% of creators are using some form of AI at this point. The implication being it's not just going to be one of Canva or Figma or Adobe that wins here. All of these companies are likely AI. Winners. And before you come for me in the comments, I understand that Figma has been controversial. It exploded to 120 after it went public, came crashing down to $28 per share.

• 38:40Ed Elson?

  I just want to be clear, I did not recommend Figma at 120. You can go back and listen to the episode. I recommended Figma at the IPO price, which was $33 per share. And by the way, I would still recommend it at 33, which is why I actually believe the stock is also a buy right now. It's trading at 28. But the topic of the day is Adobe, so let's stay with that. It is hard to deny the extent to which investors have beaten down this stock. And not necessarily because of the actual business, but because of their perception of the business, because of the story that they're telling about the business, a story which we don't think is that compelling.

• 39:20Ed Elson?

  As Warren Buffett says, the secret to investing is to find wonderful companies at fair prices. Well, this is a company with 90% gross margins, 24 billion in revenue, 7 billion in profit. It's trading at its lowest valuation in years. Two adjectives come to mind for us. Wonderful and fair.

• 39:44Ed Elson?

  Okay, that's it for today. This episode was produced by Claire Miller and Alison Weiss, edited by Joel Paston and engineered by Benjamin Spencer. Our research team is Dan Shalun, Isabella Kinsel, Chris Noddon, Hugh and Mia Silverio. Thank you for listening to Profiteam Markets from Profiteam Media. If you liked what you heard, give us a follow. I'm Ed Elson. Tune in tomorrow for our conversation with Katie Martin.

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