Sometimes, a really interesting opportunity comes along in the stock market. Take Nvidia (NASDAQ: NVDA) as an example. Having soared 1,576% in five years and recently become the first $4trn listed company ever, I would hardly say Nvidia stock is flying under investors’ radar.
But its price is pretty interesting, in my view. From a long-term perspective, I am not confident that Nvidia today is reasonably priced.
I think it may turn out to be either very overpriced – or selling for a song.
The one big question for Nvidia
That is because I reckon Nvidia’s valuation down the line ultimately hinges on one key question: how big will the future market for AI-related chips be?
In my view, if it is as big as today or bigger and Nvidia maintains its dominant position, the current Nvidia stock price could be a bargain. But if that total market size shrinks, I think Nvidia is badly overvalued.
You will notice I am focusing mostly on market size here. That is because I reckon Nvidia has a strong chance of maintaining or growing its market share over time.
Barriers to entry are high. Nvidia has a talented workforce, proprietary technology, a large installed user base, and a proven business model.
That could change, especially over time. Competitors may prove to be more nimble, or outsmart Nvidia when it comes to chip design.
But I think it is credible to think that Nvidia will maintain a powerful market position. Its economies of scale and pricing power already make it massively profitable.
If it can grow sales volumes, its profit margins could get even fatter thanks to greater economies of scale. That could help propel the Nvidia stock price far above today’s level — if it happens.
Everything to play for
It may not happen, of course.
Sometimes a key technology comes along and sparks a sales boom, only for it to later fall in popularity or become obsolete.
If all those companies paying top dollar for Nvidia chips decide they already have enough from their initial installation, or land on an alternative technological solution for their AI dreams, the market could collapse.
Personally I do not expect that to happen, but it could do. The sort of spending we have seen in the past couple of years from large tech companies seems hard if not impossible to sustain over the long term in the absence of transformational business results, I reckon.
There is also a risk that Nvidia could lose market share regardless of what happens to the market size. While I see its position as fairly secure for now – in the absence of curveballs like export bans – over time I have less confidence.
Plenty of rivals would be thrilled if they could eat Nvidia’s breakfast and the more time they have, the more likely it is that at least one of them will figure out how to do it.
The risk of a demand collapse puts me off buying Nvidia stock at its current price.
But I would be surprised if the price is the same five years from now. I think it is most likely to be markedly higher – or a lot lower.
