Microsoft drops from L1 Capital's top 10 holdings amid Azure execution concerns

L1 Capital International Fund, a global investment manager, released its second-quarter 2026 investor letter discussing a "two-speed" but resilient global economy marked by an uncertain future and potential AI bubble. Against this backdrop, the fund returned +2.6% (net of fees) for the quarter ended June 2026, underperforming its benchmark return of +12.5% (all in A$). The underperformance, the fund noted, was driven more by holdings it did not own than by holdings it did own.

In its Q2 2026 update, the fund highlighted a significant portfolio change: Microsoft Corporation, a multinational software company dominant in software, cloud infrastructure, generative AI, and gaming, was removed from the fund's top 10 holdings. The fund rebalanced portfolio weights between Alphabet and Microsoft, signaling a shift in conviction. On July 17, 2026, Microsoft closed at $393.82 per share, with a market capitalization of $2.93 trillion（約470兆円）. Over one month, the stock had returned 7.21%, but it had lost 22.79% over the past 52 weeks.

The fund explained its rebalancing with a detailed critique of Microsoft's Azure cloud business relative to competitors. Microsoft, the fund wrote, "is behind in developing its own chips (GPUs, CPUs, ASICs) to support AI workloads at lower cost and reduce reliance on Nvidia." Additionally, Azure had previously pulled back on some data centre investments and is now "capacity constrained and more dependent on neocloud capacity for immediate needs." The fund also noted that Azure is "more OpenAI-centric and less Anthropic-centric, and recently Anthropic has been out-executing OpenAI." Despite these concerns, the fund stated that Azure "is a trusted partner of many of the largest organisations globally" and expects the business to "deliver strong growth, and sound returns on its massive capital expenditure."

Beyond Azure, the fund acknowledged that Microsoft is "considerably more than" its cloud division. Xbox is struggling, and the Windows operating system franchise faces cyclical challenges. Microsoft 365, however, "remains of critical importance to the Microsoft investment case and valuation, particularly the ongoing development of Copilot." The fund noted that management changes have been made to improve performance, and cited new business head Jacob Andreou's assessment: "Microsoft needs to lift its game and execute better to clear the higher bar." The fund remains focused on quality, valuation, and the avoidance of permanent capital loss, and believes its portfolio is positioned to deliver attractive risk-adjusted returns for patient investors.

L1 Capital's rebalancing reflects a growing divide in the market between those betting on broad AI momentum and those demanding proven execution. The fund's characterization of the global economy as "two-speed" yet resilient sets the stage: it is distinguishing between companies with strong fundamentals and those riding speculative momentum. Microsoft's removal from the top 10—despite its $2.93 trillion（約470兆円） market capitalization and dominance in enterprise software—signals that size and past market position no longer insulate a company from portfolio scrutiny in an AI-centric investment environment.

The specific criticisms the fund raises about Azure's competitive standing are material. Developing proprietary chips is now a table-stakes advantage; Azure's data centre retrenchment and subsequent capacity constraints suggest a strategic stumble at a moment when cloud infrastructure is the foundation of AI deployment. The observation that Azure leans more heavily on OpenAI than on Anthropic, and that Anthropic has recently out-executed OpenAI, hints at a deeper partnership risk: if customers increasingly value Anthropic's capabilities, Azure's reliance on a potentially cooling partner becomes a vulnerability.

Microsoft's broader portfolio adds to the fund's caution. While Microsoft 365 and Copilot remain central to the investment case, Xbox weakness and Windows' cyclical exposure create drag. The appointment of Jacob Andreou as business head and his acknowledgment that the company must "execute better" suggests management recognizes the stakes—but for a patient long-term investor like L1 Capital, acknowledging the problem is not the same as solving it. The fund's expectation of strong Azure growth indicates it has not written off Microsoft, but the portfolio rebalancing reflects a belief that capital can earn better risk-adjusted returns elsewhere.

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