Wow. I can't think of a better word to describe what a year 2023 has been so far for Nvidia (NVDA 2.72%). Shares of the chipmaker have skyrocketed close to 190%. Nvidia even joined the exclusive club of companies with market caps of $1 trillion or more.
The stock has easily been the biggest winner in my portfolio year to date, and some on Wall Street think it has even more room to run. The most bullish analyst's price target reflects an upside potential of 65%.
But I just sold all my Nvidia stock. Here's why.
Breaking up is hard to do
Warren Buffett wrote in his 1988 letter to Berkshire Hathaway shareholders that his "favorite holding period is forever." That's my preference, too. I like to buy a great stock and hang onto it. That's exactly what I did even when Nvidia's share price plunged close to 60% below its peak last year.
Many people overlook the context of Buffett's statement. That forever holding period is only applicable for "outstanding businesses with outstanding managements." But I firmly believe that Nvidia is an outstanding business with an outstanding management team.
I also agree 100% with the key tenets of The Motley Fool investing philosophy, which includes the following great advice: Let your winners run. I've done just that with Nvidia through the years. The stock was a multibagger for me even before this year's tremendous gain.
Some might be skeptical about the artificial intelligence (AI) boom that has provided such a huge catalyst for Nvidia stock in 2023. Not me. I fully expect that AI will transform nearly every aspect of life. And I think that Nvidia will continue to be at the forefront of the revolution for a long time to come.
I tell you all of this to underscore just how difficult it was for me to sell Nvidia. As the old Neil Sedaka song says, "Breaking up is hard to do."
A disconcerting disconnect
So why did I sell? I differentiated the business from the stock. Don't get me wrong: I understand that owning stock is owning a portion of a business. However, it's possible for a stock to become temporarily disconnected from its underlying business. I think that has happened with Nvidia.
The company's shares currently trade at nearly 41x sales. That's a steep multiple if we're talking about earnings. But we're talking about sales, not earnings.
Sure, Nvidia's revenue is poised to grow rapidly. Even if we use the consensus Wall Street revenue forecast for 2025, though, the stock still trades at nearly 21x sales. To put that multiple into context, the semiconductor industry (of which Nvidia is a part) trades, on average, at less than 5x sales.
I'm not the only one concerned with Nvidia's valuation. Here's what NYU finance professor Aswath Damodaran tweeted a few weeks ago after discussing Nvidia's tremendous growth prospects:
Even with that upbeat story, with revenues growing ten-fold and operating margins approaching 40%, I get a value per share of about $240, well below the price of $410 (on June 12, 2023). https://t.co/1LSZhET5Pc pic.twitter.com/kAiDrbPPnr
-- Aswath Damodaran (@AswathDamodaran) June 23, 2023
Damodaran wrote the book on stock valuation. Actually, he's written several of them. He also owned Nvidia stock at the time of his tweet. However, Damodaran nonetheless believes that Nvidia's fair valuation is around $240 (more than 40% lower than the current share price) -- even with its revenue soaring by 10x.
Sooner or later
Could Nvidia stock continue its sizzling momentum? I think it's possible. By selling all of my shares, I could miss out on even bigger gains.
But a disconnect between a stock's valuation and the underlying business prospects can only exist for a finite period. Investors will eventually either be proven wrong about the share price or the business.
I suspect the stock will fall sooner or later to better align with realistic business prospects. When that happens, I'll gladly buy Nvidia stock again. It really is an outstanding business with outstanding management -- and outstanding growth potential. All it's lacking is an outstanding price.