Earlier this year, I predicted that cyber-security would vault from a “hot” to “red-hot” technology trend.
And the more research I do on this topic (I’ve spent more than 18 months doing so, in fact), the more convinced I become that the situation is escalating.
In turn, the profit opportunities for investors are even more substantial.
In short, without adequate cyber security, our world is doomed.
Think about it: We’re zooming towards a completely digital and internet-connected world.
Already, nearly 90% of business assets are digital. And with the billions-upon-billions of dollars pouring into the Internet of Things, everything is eventually going to be connected to the internet – and therefore, vulnerable to attack.
That puts all of our critical infrastructure at potential risk – power grids, banks, hospitals, airports, communication networks – nothing will ever be completely, 100% secure.
For once, even our own government gets it, pegging cyber-security as “one of the most serious economic and national security challenges we face as a nation.”
“When,” Not “If”
According to Admiral Mike Rogers, Commander of Cyber Command and Director of the National Security Agency, “It’s only a matter of ‘when,’ not ‘if’ we’re going to see a nation-state, group, or actor engage in destructive behavior against critical infrastructure in the United States.”
Clearly, we’re dealing with an unprecedented crisis. But it also represents an unprecedented opportunity.
With that in mind, there are obvious winners here – but also two not-so-obvious ones that you should be tracking.
More Data = More Risk = More Opportunity
Despite the fact that we’ve criminally underinvested in cyber-security – relative to the threats we face – cyber-security has nonetheless been one of the fastest-growing areas of technology over the past few years.
Total spending is set to eclipse $60 billion this year, and is growing at an annual clip of about 7%. That’s nearly twice the growth rate of overall IT spending and IT services.
You haven’t missed out on anything, though… the trend is only just heating up.
Our “always-on” society creates an astonishing 2.5 quintillion (one followed by 18 zeros) bytes of new data every day.
All that data needs to be stored – and protected – across multiple locations and devices.
In fact, if cyber-security spending increased at the same rate as data expansion, we’d be talking about a $2.6 trillion industry.
Yet even the most bullish estimates only call for spending to hit $128 billion by 2020 – an 18% annual growth rate.
Add it all up, and the stage is set for cyber-security budgets to explode, as every company, agency, and government tries to beef up their defenses to avoid being a victim – or worse – the enabler of a national tragedy because of inadequate safeguards.
Against such a backdrop, the top cyber-security vendors should easily be able to sustain 25% revenue growth over the next five years.
By comparison, the average S&P 500 company is only increasing sales by about 3%.
So where do the specific opportunities lie?
The Shotgun Approach
If you’re looking for an easy, well-diversified way to take advantage of this boom, the PureFunds ISE Cyber Security (NYSE:HACK) is an obvious candidate.
In one, low-cost investment, the ETF gives investors exposure to nearly three-dozen cyber-security firms, all at the cutting-edge of the industry.
Undoubtedly, such a diversified approach is the smartest way to invest in cyber-security.
But it’s not the only one.
As you know, I’m always on the lookout for under-the-radar, individual opportunities. And as the cyber security industry evolves, here are other two up-and-coming areas that I’m tracking…
Emerging Cyber Opportunity #1: Cyber Insurance
When companies can’t adequately or affordably defend against any risk, they buy insurance to bridge the gap.
Cyber-security is no exception. In fact, The Travelers Companies (NYSE:TRV) revealed it had over 9,000 cyber policies in force in 2014 alone.
That being said, the cyber-insurance market still remains in its infancy. The total premiums now stand at about $2 billion per year. But it won’t be long before this market expands rapidly.
In fact, Morgan Stanley analysts predict that cyber insurance premiums are set to quadruple by 2020. Why?
Well, it’s always easier (and quicker) for companies to pay for insurance, rather than install and constantly upgrade technology.
But the more pressing driver is the fact that cyber coverage is severely lacking.
Consider: The average company carries coverage for 51% of the potential physical damage of its property, plant, and equipment (PP&E). No surprise there.
But by comparison, the same company only carries insurance for 12% of any potential loss associated with its digital assets.
The best way to play this trend promises to be with insurers and reinsurers. The only problem?
There aren’t any pure-plays at the moment. The heavyweight firms like American International Group (NYSE:AIG), Chubb (NYSE:CB), Axis Capital Holdings Limited (NYSE:AXS), XL Group plc (NYSE:XL) and The Travelers Companies Inc (NYSE:TRV) are all involved in this area, but it makes up too small a percentage of their revenue – around 2% to 4% – to warrant any investment right now.
But as the cyber insurance market matures, these companies could all become attractive investments. So put them on your watchlist.
Emerging Cyber Opportunity #2: “Baked-in” Security
Most cyber-security comes in the form of software.
However, leading semiconductor companies like ARM Holdings (LON:ARM) and Intel Corp (NASDAQ:INTC) have had embedded security in their hardware for decades. It simply hasn’t been deployed across many verticals. Yet.
But given the anticipated growth of IoT devices, I’m convinced that a trend to secure assets via “baked-in” security in hardware (secure chips, for example) will emerge.
Indeed, ARM has already filed patents related to such technologies – a clear indicator of what’s to come.
Other companies to watch in this space include NXP Semiconductors NV (NASDAQ:NXPI) and Cavium Inc (NASDAQ:CAVM), which I previously singled out as a takeover target.