In the past year, Nvidia (NVDA 1.32%) stock has increased 46%, while Sandisk (SNDK 5.39%) shares have added 1,220%. But two hedge fund billionaires bought Nvidia and sold Sandisk in the fourth quarter.
- Cliff Asness at AQR Capital Management bought 3.9 million shares of Nvidia, increasing his stake by 18%. He also sold 318,600 shares of Sandisk, reducing his stake by 22%. Nvidia is now the largest position in his portfolio. Sandisk does not rank among the top 50.
- Steven Schonfeld at Schonfeld Strategic Advisors bought 2 million shares of Nvidia, more than tripling his stake. He also sold 41,800 shares of Sandisk, reducing his stake by 27%. Nvidia is now the third-largest position in his portfolio. Sandisk does not rank among the top 50.
Asness and Schonfeld handily beat the S&P 500 (^GSPC 1.22%) during that last three years, which makes their portfolios a good place to search for inspiration. Both fund managers clearly favor Nvidia over Sandisk. Here's why I agree.
Image source: Getty Images.
Nvidia has a larger market opportunity than Sandisk
Sandisk and Nvidia are semiconductor companies that design data center hardware that supports artificial intelligence (AI) workloads. However, they compete in different product categories and have achieved different levels of success within their respective markets.
Sandisk builds data storage solutions based on NAND flash memory, such as enterprise solid-state drives (SSDs). It is the fifth-largest supplier of NAND flash memory behind Samsung, SK Hynix, Micron, and Kioxia. Meanwhile, Nvidia develops graphics process units (GPUs) and networking hardware. It is the market leader in both categories.
GPUs and networking are the most expensive hardware components in an AI data center. They account for over 50% of the total cost, while storage systems account for 1% of the total cost, according to Bernstein and TD Cowen. That means Nvidia has a stronger competitive position in its respective product categories, and the company has a larger market opportunity.
Nvidia has more durable economic moat than Sandisk
Flash memory has been commoditized, so chips from different companies are essentially interchangeable. That leaves Sandisk with minimal pricing power. The company adds some differentiation at higher levels with proprietary controllers and firmware, which affect performance through data organization, error correction, and garbage collection.
Nevertheless, Sandisk has very little pricing power compared with a company like Nvidia, whose GPUs are highly differentiated based on superior performance and an unmatched ecosystem of supporting software. Sandisk has raised prices significantly in recent quarters, but the same is true of many memory chip manufacturers. In general, those price increases were made possible by supply constraints, not economic moats.
The proof is the financial results. Sandisk reported a gross margin of 51% in the last quarter, up 19 percentage points from the prior year. Competitor Micron had a gross margin of 57%, up 21 percentage points from the prior year. That both companies have similar gross margins (which are increasing at roughly the same rate) suggests that neither one has much more pricing power than the other.
Nvidia is a different story entirely. Its gross margin was 75% in the last quarter, up 2 percentage points from the previous year. Competitor AMD had a gross margin of 54% in the last quarter, up 3 percentage points from the prior year. That Nvidia maintains a gross margin so much higher than its closest rival in the GPU space is a sign of immense pricing power, which itself hints at a durable economic moat.
NASDAQ: NVDA
Key Data Points
Nvidia trades at a cheaper valuation than Sandisk
Sandisk's lack of pricing power means its financial performance depends primarily on the balance between memory chip supply and demand. Demand currently exceeds supply due to an unprecedented shortage, so Sandisk is growing quickly. However, the memory chip market is notoriously cyclical, which means supply will eventually surpass demand and Sandisk's growth will slow (or perhaps turn negative).
Sandisk currently trades at 83 time adjusted earnings, a reasonable valuation for a company whose adjusted earnings increased 404% in the last quarter. But the market will probably afford Sandisk a much lower price-to-earnings (P/E) multiple when the memory chip cycle has passed its peak, which means the stock could drop sharply in the future.
Meanwhile, Nvidia is likely to retain its dominant position in AI infrastructure not only because its GPUs offer the best performance, but also because the company designs adjacent hardware and software that reduce costs for customers. Purchasing a turnkey solution for AI infrastructure from one company is much easier than assembling parts from several companies.
Nvidia currently trades at 38 times adjusted earnings, a relatively cheap valuation for a company whose adjusted earnings increased 82% in the last quarter. Moreover, the current P/E multiple is a substantial discount to the two-year average of 53 time earnings. Nvidia's cheaper valuation makes it less risky than Sandisk.
