Nvidia designs most of the advanced chips that power artificial intelligence, and that has made it an earnings machine, producing astonishing profits that have buoyed the entire stock market.
In the last year, Nvidia shares have returned nearly 150 percent, helping to fuel the nearly 25 percent gain in the S&P 500 stock index. Yet, starting in late August, as the bedazzling aura surrounding Nvidia ebbed, the market stumbled.
“The magic spell has broken,” Aswath Damodaran, a New York University finance professor, said in an interview. For a year or so, he said, Nvidia could have reported virtually anything at all “and investors and traders would have found a way to convert that into good news.”
What changed? Nvidia hasn’t faltered. Its latest earnings report was awesome. Of all the companies associated with A.I., Nvidia has reaped the most benefits. Giants like Meta (Facebook), Alphabet (Google), Microsoft, Amazon and Oracle are voracious buyers of Nvidia’s technology.
The problem seems to be that, like a child who has eaten too many extravagant sundaes, the stock market didn’t find Nvidia’s latest rich offering of profits to be quite as phenomenal as it had come to expect.
For investors, the crucial questions concern the future: How big will A.I., the generational tech wonder, ultimately become and what will Nvidia’s stake in it be? Most crucially, how much is Nvidia, perhaps the core A.I. stock, really worth? The answers are significant for the entire market, where A.I. and Nvidia rival the presidential election and the Federal Reserve’s rate-cutting plans in importance.
As a long-term, buy-and-hold index fund investor, I don’t own Nvidia, or any individual stocks. But to understand where the stock market and the trajectory of technology may be going, you have to understand Nvidia, and so I called Professor Damodaran for help.
Second to None
I’ve been underwhelmed by the A.I. chatbots. They don’t summarize text or cite sources accurately and are only starting to reliably do math. But commercially available A.I. is improving — and I have no reservations about the prowess of Nvidia.
How high will Nvidia go? The sky’s the limit, you might have said with some justification just a few months ago. Nvidia shares were rising in a sustained trajectory that few American stocks have experienced. That may seem an immoderate claim. I don’t make it lightly.
No publicly traded U.S. company with a life span of at least 20 years has ever surpassed Nvidia’s stock performance through 2023, according to a July study by Hendrik Bessembinder, a scholar of stock valuations based at Arizona State University. From its initial public offering in 1999 through the end of 2023, Nvidia’s stock rose an annualized 33.4 percent.
Contemplate how staggering annual returns like that are: “This equates to a cumulative compound return of 131,500 percent,” Professor Bessembinder wrote. That means that for every dollar invested when Nvidia went public, you would now have $1,316.
No wonder Jensen Huang, Nvidia’s founder, has become one of the richest men in the world, with a net worth of more than $90 billion, according to FactSet. The problem for the stock market is that Mr. Huang was worth considerably more before Nvidia shares started sliding.
From June 20 through Sept. 6, the company’s stock fell more than 21 percent, though it has since risen. The summer decline was a mere hiccup compared with the roughly 2,500 percent that Nvidia gained over the last five years. But if you’re a short-term trader, you could have been hurt.
As a long-term investment, however, Nvidia has been a gem. The company has outpaced its peers, with chips and software that have become essential in exponentially growing industries: video games, bitcoin mining and now “artificial information factories.” That’s what Mr. Huang calls the server farms built on Nvidia technology — the physical underpinning of the A.I. bots summoned up by millions of people on smartphones and computers.
No One Rules Forever
Nvidia’s deep-pocketed corporate customers can’t buy its products fast enough. (Because the Biden administration has deemed its most advanced chips and software to be strategically important, Chinese customers can’t easily buy them but have managed workarounds.)
Nvidia’s latest earnings report was extraordinary. Its sales and revenue more than doubled in its most recent quarter, and its gross profit margin amounted to 75 percent. On more than $30 billion in revenue, it earned more than $22 billion.
Coveted as Nvidia’s tech may be, it’s hard to imagine that it will be this profitable forever. Basic economics tells us that the company’s exorbitant dominance of the growing A.I. infrastructure sector — now at roughly 80 percent of the market — contains the seeds of its own demise. The financial incentives for Nvidia’s competitors to develop equivalent technology, and for its customers and suppliers to shed costs, both seem too high for Nvidia to command its lucrative perch indefinitely.
Few companies can grow this rapidly and profitably for very long, as Professor Damodaran points out in his new book, “The Corporate Life Cycle: Business, Investment and Management Implications.” It elaborates on a concept that he has expounded for years: Like human beings, companies have a cycle of growth, decline and, sometimes, rejuvenation.
In a blog post this past week, he assessed an Nvidia predecessor: Intel, the great chip designer of the last generation. He described it as an aging superstar that needs to accept a lesser role in the corporate universe. Intel, which was founded in 1968, was as dominant in its early years as Nvidia is now. At the moment, it is trying to compete not only with Nvidia as a designer but with Taiwan Semiconductor as a manufacturer. Intel’s share price has fallen nearly 50 percent over the last year, to a level that Professor Damodoran finds attractive. He says it can prosper as a sensibly conservative enterprise with pared-down ambitions.
But Nvidia seems to still be in its growth phase. Larry Ellison, founder and chairman of Oracle, told analysts on Monday that just one of Oracle’s new A.I. data centers will contain “acres” of Nvidia chip clusters. Monumental purchases of Nvidia equipment are “required to stay competitive in the race to build one, just one, of the most powerful artificial neural networks in the world,” Mr. Ellison said. OpenAI, whose ChatGPT bot set off the A.I. frenzy, is raising billions to buy more computing power — much of it coming from Nvidia equipment.
The total market for the kind of A.I. technology supplied by Nvidia is $60 billion a year, Professor Damodaran estimates, but it can grow to $500 billion in a decade. Nvidia’s share of this A.I. infrastructure revenue is now 80 percent. If the company stays on top of its game, that share may drop only to 60 percent, which would keep the cash flowing. Similarly, while Nvidia’s profit margins are likely to fall, he projected that they will be high enough for Nvidia to remain highly lucrative.
Putting all that together, Professor Damodaran’s assessment of Nvidia, which he acknowledges is imperfect, changeable and, at best, one man’s view, won’t please die-hard Nvidia enthusiasts, but it’s still relatively positive.
After its meteoric rise, he said, Nvidia was roughly 20 percent overvalued before it started rising again. “It’s a solid company,” he said. It’s just a bit overpriced at the moment, he said, adding that another wave of mass enthusiasm could propel it even higher.
Whether the companies pouring vast sums into Nvidia technology will profit from their investments, individually or as a group, seems less clear. How powerful will A.I. become and what will its economic impact be? Though I’m not a true believer, I can’t help but be intrigued. Nvidia is prospering and, like it or not, we are all being swept up in Nvidia’s world.
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