Nvidia's Stock Is Up More Than 200% in 2023. Is It Still Worth Buying as an Artificial Intelligence Play?

Nvidia's (NVDA 2.24%) stock has more than tripled since the beginning of the year. That rally was driven by the explosive growth of the artificial intelligence (AI) market, since its data center GPUs are widely used to process advanced AI tasks.

However, investors might be reluctant to invest in Nvidia after those massive gains. Let's review its growth rates and valuations to see if it's still a worthwhile investment on the AI market. 

Image source: Nvidia.

How rapidly is Nvidia growing?

Nvidia is the world's top producer of discrete GPUs for gaming PCs and data centers. In its latest quarter, it generated 76% of its revenue from its data center chips and another 18% from its gaming chips. The remaining 6% came from its other types of chips. Here's how its two largest businesses fared over the past year.

Data source: Nvidia. YOY = Year over year. FY 2024 started in January 2023.

Nvidia's data center and gaming businesses both experienced growth spurts during the pandemic as more companies upgraded their cloud servers and more gamers upgraded their gaming PCs. However, both segments experienced post-pandemic slowdowns throughout fiscal 2023, which ended in January, as the macro headwinds drove data center operators to rein in their spending and consumers bought fewer gaming PCs. That deceleration was exacerbated by the collapse of the crypto market, which drove disillusioned miners to flood the market with cheap secondhand GPUs.

Analysts initially expected that slowdown to drag on through fiscal 2024, but the arrival of OpenAI's ChatGPT and other "generative AI" platforms over the past year flipped that bearish thesis upside down. Most of those platforms run on Nvidia's top-tier GPUs, so the subsequent AI land grab lit a raging fire under is data center business. Its gaming business also recovered as the cryptocurrency market stabilized.

Nvidia expects that acceleration to continue with 170% year-over-year revenue growth in the third quarter of fiscal 2024. For the full year, analysts expect its revenue to rise 103% to $54.6 billion as its adjusted earnings per share (EPS) jump 222%.

But can Nvidia maintain its momentum?

But once again, that growth spurt will set Nvidia up for difficult year-over-year comparisons next year. For now, analysts expect its revenue and adjusted EPS to grow 49% and 55%, respectively, in fiscal 2025.

That outlook is still impressive, but a lot of that growth is already priced into its stock at 45 times forward earnings and 21 times this year's sales. Its smaller rival, Advanced Micro Devices, is growing at a slower rate, but it trades at just 26 times forward earnings and seven times this year's sales. In other words, Nvidia's stock could suffer a steep drop if it fails to live up to Wall Street's high expectations for the AI market.

Therefore, investors must decide if the AI market is driven by hype or built on reality before they make a call on Nvidia. If you believe data centers will rein in their spending on AI chips upon realizing the limitations of current AI technologies, then it doesn't make sense to buy Nvidia right now. But if you believe the genie won't go back in the bottle and will only grow bigger as more industries recognize the benefits of AI technologies, then it could still be one of the best AI stocks to buy.

The generative AI market could still grow at a compound annual growth rate of 34% from 2023 to 2032, according to Allied Market Research. If Nvidia merely matches that growth rate, its annual revenue could skyrocket nearly 15 times from $27 billion in fiscal 2023 to $400 billion in fiscal 2032. If it achieves that growth rate, it could easily generate more multibagger gains even if its valuations gradually cool off.

Is it still worth buying as an AI play?

There's still a lot of froth across the AI market right now, but I believe that market will continue expanding over the long term as more companies leverage AI tools to analyze their data and optimize, automate, and accelerate their business processes. Without any meaningful competitors on the horizon, I believe Nvidia's stock will remain the top play on that secular boom.