Billionaire David Tepper runs Appaloosa Management, the hedge fund he founded in 1993, and has long been one of the brightest stars on Wall Street. He has been called "arguably the greatest hedge fund manager of his generation," by Forbes. Tepper has "consistently outperformed his industry peers and the broader global markets since [Appaloosa's] inception," according to Tepper's bio posted by Carnegie Mellon University.
Over the past three years, Appaloosa has outperformed the S&P 500 by 15%, no small feat, given the macroeconomic backdrop. His strong track record suggests that Tepper's stock picks might be worth further review.
Image source: Getty Images.
Investors might be surprised to discover that, to close out the third quarter, Tepper had a whopping 47.1% of Appaloosa's portfolio invested in just five artificial intelligence (AI) stocks:
- Meta Platforms (META 0.43%): 11.6%
- Microsoft (MSFT 1.82%): 10.2%
- Amazon (AMZN 3.43%): 9.4%
- Nvidia (NVDA 6.18%): 8.8%
- Alphabet (GOOGL 10.22%) (GOOG 9.96%): 7.2%
Let's take a look at Tepper's five top picks to see why he's so heavily weighted toward these AI stocks.
1. Meta Platforms
Meta Platforms might seem a surprising choice, but the company has a long history of using AI to bolster its business. The vast majority of Meta's revenue comes from digital advertising, and AI can more accurately surface relevant ads and other content on its social media sites.
As the world's second-largest digital advertiser, the recent rebound in ad spending has bolstered the company's fortunes. Meta has also released several AI-powered tools to help advertisers more accurately connect with their target market. Perhaps as importantly, the company developed a leading open-source AI model -- Llama (Large Language Model Meta AI) -- which is available on all the major cloud infrastructure platforms, resulting in an entirely new revenue stream for the company.
At just 20 times forward earnings, Meta is selling at a discount compared to the broader market -- which likely factored into Tepper's investing decision.
2. Microsoft
Microsoft saw the writing on the wall and invested $13 billion in ChatGPT creator OpenAI over the past few years, helping spotlight the potential for generative AI. Its big tech rivals quickly follow suit, kicking demand for AI into overdrive. The tech giant answered the growing demand by infusing AI functionality across a broad swath of its software-as-a-service (SaaS) offerings. Furthermore, all the most popular AI models are available on Azure Cloud.
The biggest coup, however, was the debut of Microsoft Copilot, its AI assistant. Its ability to increase user productivity has generated strong demand and could produce incremental revenue of up to $100 billion by 2027, according to analyst calculations. Azure's growth outpaced the competition in the third quarter, and Microsoft pointed out that three percentage points of that growth was the result of growing demand for AI.
Microsoft is currently trading for 31 times forward earnings. While that's a slight premium to the market, the company's strong legacy businesses and the opportunity afforded by AI make Microsoft a bargain at this price, which likely didn't escape Tepper's notice.
3. Amazon
While some viewed Amazon as slow out of the gate, it has jumped into the AI opportunity with both feet. The company has long used AI to handle product recommendations, inventory levels, delivery routes, and more.
Yet that's just the beginning of Amazon's AI opportunity. The company is now using generative AI to improve product listings, generate review summaries, and refine advertising. It also is working on an AI-powered tool that can answer questions about specific products.
There's more. Amazon Web Services (AWS) offers a growing list of popular generative AI models, including a few of its own via its Bedrock AI. The company has also unveiled several AI-centric chips, including Inferentia and Trainium, designed to speed AI processing for AWS customers.
Despite its strong recovery last year, Amazon is still selling for just 2 times forward sales, the standard for an underpriced stock, which likely piqued Tepper's interest.
4. Nvidia
No discussion about AI stocks would be complete without a nod to Nvidia, a point highlighted by Tepper's position. Nvidia pioneered the graphics processing units (GPUs) that revolutionized gaming and are the gold standard for AI applications.
Nvidia's processors have cornered the market in both data centers and machine learning, with an estimated 95% share in each. Experience in the field helped Nvidia quickly pivot to address the growing demand for generative AI.
Competitors are scrambling to develop competing processors, but Nvidia continues to maintain its edge. For the nine months ended Oct. 29, 2023, Nvidia spent $6.2 billion, or 16% of its total revenue, on research and development. The company's track record of continuing innovation will make it difficult to supplant.
Despite the stock's recent run, Nvidia is still remarkably cheap, sporting a price/earnings-to-growth ratio (PEG ratio) of less than 1 -- that benchmark for an undervalued stock -- of which Tepper was no doubt keenly aware.
5. Alphabet
Like Meta Platforms, Alphabet makes the lion's share of its revenue from digital advertising, in this case fueled by Google Search. The company has an impressive track record of deploying AI to improve its search algorithms and ad targeting, and the recovering ad market will no doubt improve the company's results.
Alphabet didn't sleep on the potential of generative AI. The company integrated AI functionality into many of its flagship Google and Android products. As one of the Big Three cloud providers, it was able to expand the number of AI systems available to its Google Cloud customers.
Its most recent offering, Gemini AI, is being hailed by the company as its "largest and most capable AI model," outperforming rivals using a variety of widely used benchmarks. Furthermore, Alphabet's Vertex AI provides access to 130 foundational AI models with something for just about every use case.
The company's rebound over the past year notwithstanding, Alphabet still sells for just 19 times forward earnings, a valuation that Tepper likely couldn't pass up.
