Written by Christopher Janati, CFA
Individuals, companies, and even governments are working to change their relationship to data.
Now, with just an internet connection, services like Spotify (spot) allows you to access almost entire discs. The The idea of trying to carry all of one’s data no longer makes sense.
Data centers and a seamless and efficient connection to the Internet are responsible for this change.
Cloud Providers vs Data Centers
Cloud computing has received a lot of attention as a huge trend in its own right. In 2022, global sales are expected to exceed $495 billion, and could reach more than $1 trillion by 2030. Nearly 30% of enterprise workloads have been shifted to the cloud.1
When we think of the “cloud,” some of the largest companies in the world come to mind. Amazon (AMZNAmazon Web Services (AWS) is the leader; Integrated with Microsoft (MSFT) and google (The Google) (The Google), the three companies account for 65% of total global cloud services spending.2
But when we say “the cloud”, what does this look like in the physical world? We may consider that software is always present on our smartphones, tablets and computers, but this all depends on a specific and purpose-built infrastructure.
Figure 1 comes from Equinix (EQIX) Investor Presentation Q2 2022. Equinix is the leading provider of data center infrastructure, operating on six continents in 31 countries with 248 data centers.3 Here, they take in four of the “superstars” – companies that run cloud platforms that allow many of the world’s digital needs to be met.
Although we may know the names of the interns – these tend to be some of the largest by market capitalization companies in the world – we may not immediately know the name “Equinix”. However, it is very clear that Equinix is fundamental to the functioning of the digital world today.
Figure 1: Equinix provides a physical basis for Cloud Hyperscalers
Anatomy of an economic profit pie
Now, Equinix gets about 35% of its total rent from the largest cloud service providers. Do you want to sit on the other side of the negotiating table from the biggest companies on earth? If one controls the impact of energy costs, the big tech companies pay roughly half the rent that a small business or government tenant would pay.5
The question of whether data center providers will ever replace the largest companies in the world in terms of their ability to extract economic value from the cloud ecosystem is probably the wrong question. Alternatively, it may make sense to think about the relationship between the current price and expected future supply/demand balances. Data center infrastructure is, in the broadest sense, a commodity, assuming that service providers can bring cloud computing companies the same set of capabilities.
The world’s increasing focus on climate and the environment is making it more difficult to build more data centers that use a lot of water (cooling) and a lot of electricity. In the first six months of 2022, rental demand for data centers in major US locations increased by 5.9% compared to the same period in 2021. If this trend continues, 2022 will likely be the first year of positive rental growth for data centers since 2017. .6
Will the superstars go “their own way?”
The world’s largest corporations, due to their vast resources, are able to think strategically over long periods. people outside of Apple (AAPL), for example, you may have realized in hindsight that the perceived association with Intel (INTCIts chips weren’t always bound, and Apple — with the right commitment and investment — could design its own chips to improve its customers’ experience. When companies generate tens of billions of cash flows on an annual basis, those resources combined with long-term thinking can make the perceived limitations fade.
Hedge fund manager Jim Chanos is already betting against data center infrastructure providers, such as Equinix and Digital Realty Trust (DLR). Those folks could build some of their own facilities, a Microsoft data center in Chicago that spans 700,000 square feet, roughly the size of 52 Olympic-sized swimming pools.7 Why don’t they start moving to build all of their facilities, thus eliminating the cost of data center infrastructure providers?
While there is absolutely nothing ‘impossible’, when one thinks of properties of such strategic value, location is important. If Equinix or Digital Realty Trust has its infrastructure in the most ideal locations, connected to the most important networks with the right infrastructure, it is not possible to go in and build something new in the same location. If the superstars were starting from scratch today, they would probably build a lot themselves. As these companies seek to use existing infrastructure where they can serve their customers – assuming companies like Equinix and Digital Realty Trust own these properties – they are likely to continue to occupy their place in the ecosystem. The convenience of connecting to existing settings may replace the cost savings of doing it themselves.
The customer base is also likely to develop. Just as those with high calibers might think of ways to extract more economic value and pull out the expense item that is being paid to technology infrastructure providers, other companies are seeing big outlays being paid to the likes of Microsoft, Amazon, Google Cloud, etc. A variety of companies undergoing their own “cloud migrations” could explore direct relationships with infrastructure providers in the future.
People have debated this idea almost since super people were in the cloud computing business, and even now, data center infrastructure providers, such as Equinix and Digital Realty Trust, still exist.
Conclusion: Digital transformations need a physical infrastructure
We spend a lot of time thinking about different mega-trends, such as cloud computing, artificial intelligence, 5G, the Internet of Things… the list goes on.
Figure 2 shows that data transmission standards – things we know like 2G, 3G, 4G, and 5G – tend to have a lifespan of about 20 years.8 The shift towards 5G tells us that more and more data will be generated and processed, and we will need a data center infrastructure to support it.
Figure 2: US Delivery Standard Developments
If investors think of a different way to spot megatrends – their own underlying infrastructure rather than the more direct players – the concept of “new economic” real estate may offer something unique that may have different risks and returns than more growth oriented tech stocks. Learn more about our specific strategy: WisdomTree New Economy Real Estate Fund (WTR).
1 Source: “Cloud Computing Giants Compete to Protect Fat Profits,” economic8/29/22.
2 Source: Aaron Tilley, “Companies’ cloud expectations cool down as customers tighten spending” The Wall Street Journal8/25/22.
3 Source: Equinix Investor Presentation, Q2 2022.
4 Source: Carol Ryan, “Data centers are unpopular. All the better for their stocks,” The Wall Street Journal8/30/22.
5 Source: Ryan, 30/8/22.
6 Source: Ryan, 30/8/22.
7 Source: Anna Gross, “Is the cloud killing the data center? Jim Chanos thinks so,” financial times8/29/22.
8 Source: “Introduction to the American Tower and Tower Industry” American Toweras of 12/31/21.
As of September 9, 2022, WTRE holds 4.70% and 5.03% of its weight in Equinix and Digital Realty Trust, respectively. click over here For a complete list of fund holdings.
Important risks related to this substance
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Christopher Janati, Chartered Financial Analyst, Global Head of Research
Christopher Janati started at WisdomTree as a Research Analyst in December 2010, working directly with Jeremy Schwartz, CFA®, Director of Research. In January 2014, he was promoted to Associate Director of Research where he was responsible for leading various groups of analysts and strategists within the broader research team at WisdomTree. In February 2018, Christopher was promoted to Head of Research Europe, who will be based out of the WisdomTree office in London and will be responsible for the entire WisdomTree research effort within the European market, as well as supporting the UCITs platform globally. Christopher came to WisdomTree from Lord Abbet, where he worked for four and a half years as a regional advisor. He received an MBA in Quantitative Finance, Accounting, and Economics from New York University’s Stern School of Business in 2010, and a BA in Economics from Colgate University in 2006. Christopher holds the title of Chartered Financial Analyst.
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