The past year has been a disappointing one for Nvidia (NVDA 0.35%) investors. Shares of the once high-flying chipmaker have fallen off a cliff and lost 33% of their value over the past 12 months, which seems deserved as it has lost its wheels amid slowing personal computer (PC) sales. But recent stock price action indicates that investors have been using the sharp decline to add to their long positions.

Nvidia stock is up 40% over the past three months, outpacing the 5.6% appreciation in the S&P 500 index over the same period. Analysts are also upbeat about the stock's prospects over the next year. Nvidia sports a 12-month median price target of $200 as per a consensus of 38 analysts, which points toward a 18.5% upside over the next year. But will Nvidia stock be able to live up to analysts' expectations and rise impressively over the course of the coming year, or will it disappoint once again? Let's try to find out.

Addressing the elephant in the room

The gaming business has turned out to be Nvidia's Achilles' heel in recent quarters. The company's gaming revenue plunged 51% year over year in the third quarter of fiscal 2023 to $1.57 billion. Nvidia management blamed "lower sell-in to partners to help align channel inventory levels with current demand expectations as macro-economic conditions and COVID lockdowns in China continue to weigh on consumer demand."

In simpler words, people held off on buying new gaming graphics cards last year as economic activity slowed, and fears of a recession took hold. Moreover, graphics card sales were solid during the pandemic-stricken years of 2020 and 2021, as people stuck at home spent on upgrading their PCs so they could play the latest games and keep themselves entertained. Not surprisingly, sales of discrete graphics cards that are used in desktops and laptops dwindled in 2022 after two solid years. Jon Peddie Research estimates that discrete graphics card sales were down 19% year over year in Q3 2022.

Tepid demand from cryptocurrency miners has been another headwind for the graphics card market. The challenging conditions in this market have led to an alarming increase in Nvidia's graphics card inventory, negatively affecting the company's financial performance.

So, a turnaround in the video gaming market will be the key to Nvidia sustaining its recent stock market rally over the coming year. The bad news for Nvidia is that the PC market's decline is expected to continue in 2023. IDC forecasts a 6.5% decline in PC sales this year. This explains why analysts expect Nvidia rival AMD's graphics card shipments to decline 7% in 2023.

In all, Nvidia's gaming segment may not be in the best shape this year, and that could weigh on the chipmaker's stock price.

Nvidia has a couple of catalysts in the bag

Analysts are hopeful about an acceleration in Nvidia's growth in fiscal 2024 (which begins next month). The chipmaker is expected to end fiscal 2023 with flat revenue and a 26% drop in earnings per share. But it could see revenue increasing 8.9% next year, along with an impressive 30%-plus increase in earnings per share.

Nvidia's data center business could help the company live up to Wall Street's growth expectations this year. Nvidia reportedly controls over 91% of the data center GPU (graphics processing unit) market, with AMD holding the rest, and this explains why the former's revenue from this segment has been growing impressively.

The chipmaker's data center revenue shot up 31% year over year in the fiscal third quarter to $3.8 billion, accounting for 64% of the top line. This business looks set to get bigger in the coming year. The demand for data center GPUs is reportedly growing at an annual pace of 23.5%, a pace that this market is expected to sustain until the end of the decade.

However, there is an additional catalyst for the data center business in 2023 that investors need to keep an eye on. Nvidia is entering the market for Arm-based server processors this year, a fast-growing niche that's expected to triple in size over the next decade. The company has already lined up several server OEMs (original equipment manufacturers) who will be bringing chips based on its Arm processors to the market this year.

So, Nvidia's data center business could get an additional boost over the next year, and that could help the company offset the weakness in the gaming space.

What should investors do?

Nvidia's recent rally has made the stock expensive. It is trading at a rich 74 times trailing earnings, compared to the S&P 500's price-to-earnings ratio of 19.1.

Buying Nvidia at this valuation looks like a risky affair, especially considering that the gaming business may be under pressure in the coming year. Of course, strength in data centers could be a tailwind for Nvidia, but investors should note that the company needs to consistently deliver high levels of growth to justify its rich valuation. In other words, Nvidia needs to outperform Wall Street's growth expectations significantly over the next year for the stock to soar. Any further signs of weakness in the company's business could crush this tech stock once again and bring an end to its latest rally.

That's why it may be a prudent idea for investors to wait for a dip in Nvidia stock and wait for an attractive valuation before they buy it. Analysts are anticipating a solid 21% annual earnings growth from Nvidia for the next five years, which is not surprising given the multiple catalysts the company could take advantage of, including digital twins and server processors. So, Nvidia could turn out to be a solid investment in the long run, which is why investors should consider adding it to their watchlist and take advantage of potential pullbacks in the stock. This approach will help set their portfolios up for long-term gains.