With shares up by almost 28,000% in just 10 years, Nvidia's (NVDA +1.13%) rally will go down in history. A $2,000 investment made in 2014 would be worth $560,000 today -- more than enough to buy a medium-priced home in cash. But returns like that probably won't continue forever.
New investors must decide whether the risks of holding Nvidia stock today justify the potential rewards. Let's discuss two reasons why it might be time to sell the stock, and one reason to consider buying more.
Experts are beginning to sound the alarm
After almost two years of artificial intelligence (AI)-driven growth, Nvidia's future is now intimately linked to the future of this one industry. Most retail investors are not fluent in this highly technical field, so we must rely on experts to crunch the numbers. Some of their perspectives are alarming.
NASDAQ: NVDA
Key Data Points
According to MIT Professor Daron Acemoglu, only around a quarter of AI tasks may be cost-effective in the next 10 years. He believes large language models (LLMs) like OpenAI's ChatGPT or Alphabet's Bard will need higher-quality data to improve -- more so than better hardware. And it is unclear where this data will come from, considering that many quality sources have already been tapped.
Acemoglu's concerns echo remarks from analysts at investment bank Goldman Sachs, who claim tech companies may struggle to monetize the $1 trillion they will pour into AI investment over the coming years.
As a picks-and-shovels AI company, Nvidia can make money even when its customers lose. But this situation can't last forever. Eventually, consumer-facing AI algorithms will need to become profitable, or clients will stop buying the expensive Nvidia chips to run and train them. This risky situation could lead to a decline in the company's growth rate and, by extension, it's valuation. So now might be the best time for investors to take profits.
Nvidia's valuation isn't that great anymore
With a market cap of roughly $3 trillion, Nvidia is the third-biggest company in the world -- trading for 47 times forward earnings.
At first glance, this looks reasonable, if not downright cheap, because of the company's explosive growth rate. Second-quarter revenue doubled to $13.51 billion, while net income surged 843% to $6.2 billion. But the situation is a little more complicated than it appears on the surface.
Image source: Getty Images.
Nvidia's valuation prices in future growth, which means the market expects the company to continue expanding past its already massive size. The cracks forming on the consumer-facing side of the AI industry will make this harder to pull off. Nvidia will also face challenging comps as it seeks to exceed this year's spectacular performance.
It is risky for investors to hold stock in an overvalued company because they are betting on growth that hasn't occurred yet. And it might make more sense to offload shares before market sentiment sours.
Nvidia has some long-term advantages
Nvidia stock is in a challenging place. The AI industry faces an uncertain future in monetizing LLMs, and the company's valuation looks too high, considering its undiversified revenue base and the challenging comps it will face next year and beyond. With all that said, long term investing is the key to sustainable returns in the stock market because it allows investors to wait out near-term challenges in order for a company's long-term value to shine through.
For buyers, Nvidia still represents the best way to bet on the future of AI technology because of its picks and shovels business model and technological lead over rivals bolstered through its software solutions like CUDA, designed to work specifically with Nvidia hardware and make clients less likely to switch to rival chipmakers. Investors who buy the stock now are betting on its ability to navigate near term headwinds as the AI industry matures over the coming decades.
