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NVIDIA (NASDAQ:NVDA) has been experiencing a remarkable upward trajectory, leading some to speculate whether it might be headed for a bubble burst similar to Shopify's (TSX: SHOP) experience in 2022. Notably, NVIDIA has also listed on the Toronto Stock Exchange (TSX:NVDA), thereby broadening its accessibility to Canadian investors. This development underscores the growing interest in TSX tech stocks.
In just five years, NVIDIA has soared from $39.04 to $822 per share, delivering an astounding 2,000% return. Notably, much of this growth has occurred since October 2022, with a staggering 610% increase in value over the past year and a half.
But how sustainable is this rally? While NVIDIA has experienced a surge in earnings due to its pivotal role as a chip supplier for artificial intelligence (AI) developers, competitors are eager to enter the fray, and customers seek cost reductions. NVIDIA's dominance in producing AI accelerator chips (GPUs) has essentially granted it a monopoly in this niche market. Leveraging its position as a leader in GPUs, NVIDIA seamlessly transitioned into becoming Silicon Valley's go-to chip supplier for AI applications.
Support from Earnings:
Contrary to perceptions of speculative frenzy, NVIDIA's stock rally has been closely aligned with its earnings growth. In the past year, earnings have outpaced stock price increases. Notably, NVIDIA's revenue, earnings, and free cash flow have surged by impressive margins:
- Revenue: 126%
- Diluted earnings per share: 561%
- Free cash flow: 338%
While the stock price has also risen by 250% over the trailing 12 months, earnings have seen even more substantial growth.
High Multiples and Potential Risks:
Despite robust growth, NVIDIA's valuation multiples raise concerns, especially considering assumptions of continued high growth. Trading at 68 times earnings and 33 times sales, NVIDIA's multiples appear steep, even factoring in an assumed 20% annual earnings growth for the next five years. However, the inherent challenge lies in sustaining such exponential growth as the company expands.
Drawing parallels with Shopify's trajectory, NVIDIA faces the risk of overheating. Shopify experienced a similar scenario, with its stock price soaring to unsustainable levels, fueled by astronomical expectations for revenue growth. When growth slowed, the stock plummeted, highlighting the perils of excessive valuation.
The Bottom Line:
While NVIDIA presents an enticing opportunity, particularly for risk-tolerant investors, its lofty valuation warrants caution. Given the parallels with Shopify's historical performance, conservative investors may find NVIDIA too pricey. However, for those willing to assume some risk, allocating a small portion of their portfolio to NVIDIA could be a strategic move. Ultimately, thorough assessment and risk management are essential in navigating the potential pitfalls of investing in high-growth, high-valuation stocks like NVIDIA.
