Nvidia’s (NASDAQ:NVDA) performance this year has been nothing short of impressive, boasting an almost 80% rise. This has not only driven the Nasdaq and S&P 500 to new heights but also positioned NVDA as the most popular stock among retail investors, surpassing Tesla (NASDAQ:TSLA). With the buzz around AI and Nvidia’s stock price soaring, there is speculation that we might be in a bubble. Let’s delve into both sides of the argument.
Nvidia’s stock performance has remained strong despite a bear market, largely due to its robust financials. From FY 2023 to FY 2024, the company’s revenue leaped from $26.91 billion to $60.92 billion, marking an almost two-and-a-half-fold increase. More notably, profit margins soared from a modest 16% to nearly 50%.
This surge in earnings has significantly reduced its forward P/E ratio to just 33x. This is a considerable drop from previous years when it had peaked at 72.98x since 2020 and averaged around 44.28x. Bulls argue that this makes Nvidia a discounted buy, as the increased earnings have boosted its valuation, justifying the price.
Unlike other hyped technology stocks that saw their bubbles burst, Nvidia emerged stronger from 2022. This is thanks to tangible advancements in AI technology. Many argue that Nvidia is ideally positioned to capitalize on the AI market, with nearly 90% ownership of the AI chip market.
Nvidia’s original market, gaming, gave it a first-mover advantage with its use of parallel processors, ideal for AI applications. Beyond speed, Nvidia outperforms competitors with its network power and software. The acquisition of Mellanox has enabled Nvidia to link thousands of GPUs in a data center, enhancing performance. In terms of software, Nvidia’s investment in this area is a key reason it outperforms AMD, even though its chips aren’t significantly more powerful.
However, Nvidia faces several challenges that could potentially result in lower-than-projected revenue. One such challenge is China, where Nvidia has been caught in the crossfire of the US-China cold war. The Biden administration’s restrictions on Nvidia’s latest chip sales have resulted in China accounting for only single-digit revenue, compared to 19% in FY 2023.
Nvidia also faces a concentration risk. The company relies heavily on semiconductors from Taiwan Semiconductors to create GPUs. As competitors ramp up AI chip production, Nvidia risks losing leverage as TSMC’s (NYSE:TSM) largest buyer, which could lead to decreased gross margins as TSMC can increase costs.
Furthermore, traditional competitors like AMD (NASDAQ:AMD) and Intel (NASDAQ:INTC) are aggressively trying to capitalize on the AI wave. Big tech companies like Microsoft (NASDAQ:MSFT), Meta (NASDAQ:META), Amazon (NASDAQ:AMZN), and Alphabet (NASDAQ:GOOG, NASDAQ:GOOGL), which account for a significant portion of Nvidia’s revenue, are also designing their own AI chips. This could potentially challenge Nvidia’s market share in the long run.
For investors, Nvidia’s stock has historically been volatile, with a high beta of 1.73. The stock has experienced over 50% drops on 14 occasions since its IPO. With one buyer reportedly accounting for one-fifth of Nvidia’s AI chip sales, a slowdown in sales could easily send the stock spiraling.
Moreover, much of Nvidia’s value now rests on its future performance, making the stock riskier if it fails to meet investor expectations quarterly. Therefore, investors must understand that Nvidia is a high-risk investment and should be prepared for long-term holding.
In my opinion, there are better investment opportunities in AI stocks. While owning a bit of Nvidia doesn’t hurt, purchasing a share of the S&P 500 index would already provide most investors with exposure to Nvidia. The AI market is vast, and there are other stocks that haven’t been overhyped yet and offer more stability for returns.
Let us know what you think, please share your thoughts in the comments below.
