If you’ve been investing and not heard the words “artificial intelligence” and “ChatGPT” over the past six months then you’ve probably been living under a rock.
That’s because the AI craze has seen some of the world’s biggest technology stocks become even bigger. And where do the biggest tech stocks reside? Typically, in the US stock market.
A lot of these firms have been investing – or plan to invest – substantial amounts of money into AI and its potential.
But one of the clear winners will be semiconductors, given AI requires an intense amount of computing power.
With that in mind, it’s perhaps not been a huge surprise to see that cutting-edge chip giant Nvidia Corp (NASDAQ: NVDA) has had a stellar run so far in 2023.
Indeed, Nvidia’s shares are up around 195% so far this year, marking an incredible run for the likes of megacap tech.
So, what’s caused this? And should investors be chasing this red-hot, AI-fuelled rally in Nvidia stock?
AI is more than just buzz
The market’s reaction to the release of generative AI chatbot ChatGPT, developed by OpenAI which is itself backed by Microsoft Corporation (NASDAQ: MSFT), highlighted how serious investors are taking the technology.
It has been compared to the advent of the iPhone and the “platform” of mobile computing. Yet, if we remember back when the iPhone launched (in 2007), it took quite a few years before its full potential was realised.
Similarly, AI is in the very early stages. Yet because of the technology that Nvidia possesses, the company has been able to forge a competitive advantage for itself in the space of semiconductors.
That’s mainly been down to Nvidia’s dominant position in graphics processing unit (GPU) chips, which were initially designed for advanced gaming but have also turned out to be pretty handy at running the complex algorithms that AI requires.
What’s driven the Nvidia rally?
Usually, these types of crazy rallies are driven purely by hype but in Nvidia’s case, a material amendment to its guidance also spurred a strong rerating of the stock by the market.
After it released its Q1 fiscal year 2024 (FY2024) earnings in late May, Nvidia also guided for US$11 billion in its current quarter.
This turned out to be a blowout revenue number, coming in 50% higher than analysts’ estimates of around US$7.2 billion.
While it was already up over 100% in 2023 at the time of its earnings release, the guidance news also saw Nvidia rally 25% in a single day – adding more than US$150 billion to its market cap.
Amid its actual earnings, which also beat, the guidance for higher revenue came on the back of “surging demand” for its data centre products, in the words of Nvidia CEO Jensen Huang.
Should investors chase Nvidia stock?
Investors should remember that Nvidia has always been an “expensive” stock, even before its eye-watering rally.
Yet, the company’s earnings potential now seems to be coming into focus given the AI “picks and shovels” play that Nvidia is.
The firm’s trailing 12-month price-to-earnings ratio is over 200 times, versus a range of 20-35 times for the traditional megacap tech stocks worth over US$1 trillion.
That gives it an extremely lofty valuation and the S&P 500 Index, if we exclude seven of the market’s largest megacap “Big Tech” stocks that have driven nearly all the index’s gains year-to-date, is essentially flat in 2023.
That tells you how narrow this stock market rally in the US has been. And the main driving force of that rally has been Nvidia.
So, for long-term investors it may be time to take stock of the rally and think about the valuation of Nvidia.
However, if you do want to buy Nvidia stock then perhaps it would be better to dollar cost average (DCA) into it and hold it for the long term.
Disclaimer: ProsperUs Head of Content & Investment Lead Tim Phillips owns shares of Nvidia Corp and Microsoft Corporation.
