Artificial intelligence (AI) markets have gone gangbusters. But there's one AI stock in particular that's leading the market higher this year. It's not necessarily a pure-play AI stock in terms of the products it makes, but rather this company has positioned itself as a key supplier to the AI industry.
Without this company, it's possible the market wouldn't see the massive innovation that is occurring worldwide right now when it comes to AI.
This May, the stock price of this AI component supplier grew so much that management instituted a 10-for-1 stock split. Yet the surge continued, with shares rising another 60% since the split -- resulting in a 186% increase in valuation since the year began.
Is there still time for you to get into this massive growth opportunity? The answer might surprise you.
NASDAQ: NVDA
Key Data Points
Meet this year's best-performing AI stock
Of course, the AI superstar is none other than Nvidia (NVDA 2.17%). The company has an enviable position in the AI supply chain, and it's not hard to see why shares have skyrocketed this year.
Nvidia isn't so much of an AI company as it is a supplier of AI components. Most AI models, especially those related to generative applications, require huge datasets and a large amount of training in order to grow in strength and capability. All of this training and computation requires specialized high-powered chips. Nvidia's top-of-the-line graphics processing units (GPUs) like its H100 and A100 models are considered some of the best in the industry for those types of computational workloads.
Most estimates peg the company as having a 70% to 95% share of the AI chip market. So as AI infrastructure spending explodes, Nvidia becomes a prime beneficiary.
NVDA Revenue (TTM) data by YCharts
Will Nvidia shares continue to rise?
There's little doubt that Nvidia's revenue base will continue to increase over the coming years. AI infrastructure overall is expected to grow at an annualized rate of nearly 30%, and Nvidia's sales in particular are expected to grow by 126% in its current fiscal year.
The problem for the stock isn't sales growth, it's expectations.
Nvidia stock recently traded at 35 times sales -- an incredibly high premium. And its valuation premium hasn't dipped even as revenue growth rates have reverted toward the industry's overall growth rate.
A few quarters ago, Nvidia's sales growth was above 200% year over year, and its price-to-sales ratio was hovering between 24 and 42. This fiscal year, sales growth is expected to slow to 125%, and estimates for the following year project that it will slow even further to just 42%. Yet the valuation remains toward the higher end of its recent range.
NVDA PS Ratio data by YCharts.
At these levels, most of the easy money has already been made with Nvidia stock. That's true given company's sales growth will likely trend closer and closer to industrywide spending growth rates of around 30%.
It's also true because competition will likely heat up considerably in the coming years -- as has happened in every previous chip war. There's always an initial winner, but massive investments by competitors in R&D and production capacity generally cause such gaps to narrow, sometimes enough to change which company is the market leader several times.
At a minimum, expect there to be pressure on Nvidia's gross margins, which recently stood at around 75%. Intel and AMD, for comparison, have gross margins of between 40% and 50%. Nvidia's competitive position won't erode overnight. But it's a reasonable expectation given how much money is at stake in the AI infrastructure sweepstakes.
"Nobody can deny that today Nvidia is the hardware you want to train and run AI models," said 3Fourteen Research Chief Data Scientist Fernando Vidal during an interview by CNBC back in June. "But there's been incremental progress in leveling the playing field, from hyperscalers working on their own chips, to even little start-ups, designing their own silicon."
Is Nvidia still a great bet for those looking to make a long-term bet on the rise of AI? Absolutely. Even if its competitive position erodes over time, investors can expect Nvidia's sales base to grow significantly over the next decade.
But in order to see Nvidia's business grow to a level that justifies its extremely high valuation, investors will need to remain very patient. Don't jump in today expecting the rapid returns of the past.
