It’s been a wonderful 2019 for Nvidia (NASDAQ:NVDA) stock. The shares have risen 78% so far this year. Seemingly everything has gone right for Nvidia stock, largely because nothing much has happened.
Obviously, that’s an oversimplification, but there’s some truth to it. NVDA obviously had an eventful fourth quarter last year, when the cryptocurrency bubble burst and Nvidia stock dropped more than 50%. In 2019, the goal was simply for the company to get back to normalcy, which Nvidia management promised would arrive in the second half of the year.
That promise was kept. The crypto issues seem to be behind Nvidia. Its performance is back on track, and investors are upbeat on Nvidia’s outlook again. But now the question is, what will happen to NVDA in 2020? And that issue is a bit dicier.
Nvidia’s earnings and sales will continue to grow in its fiscal 2021, which ends in January. In fact, analysts’ estimates suggest that its growth will be impressive. But the comparison to a soft FY20 helps. And with Nvidia stock getting back toward its valuation of late 2018, quite a bit of success has been priced into the shares.
I’ve been bullish on Nvidia stock for most of this recent rally, and I’m not yet ready to declare NVDA stock a “sell.” But it’s fair to wonder if the easy money has been made, and it certainly seems like the returns of Nvidia stock at least will moderate in 2020.
Nvidia’s Growth and the Multiple Assigned Nvidia Stock
Even after its 78% rally, on its face NVDA stock still seems reasonably cheap. The stock does trade at about 33 times analysts’ average 2020 earnings per share estimate. But their mean estimate also projects 30% EPS growth next year.
In this market, 33 times earnings for 30% growth is a steal. Microsoft (NASDAQ:MSFT) has a forward multiple of 26 based on roughly 12% EPS growth. Adobe (NASDAQ:ADBE) is nearing a 30 multiple, with its earnings expected to rise less than 20%. There simply aren’t many stocks in this market that, like NVDA, have a so-called ‘PEG’ (price to earnings to growth) ratio of around one.
But it’s important to remember that Nvidia’s easy comparison is a big factor behind its growth. Thanks in part to the bursting of the crypto bubble, Nvidia’s adjusted earnings are expected to decline 16% year-over-year in FY20. Average estimates call just 9% growth, total, between FY19 and FY21. The company’s three-year, annualized EPS growth rate is in the range of 14%.
Meanwhile, rival Advanced Micro Devices (NASDAQ:AMD) is on track to more than double its earnings in two years, and it trades at 41 times the average 2020 EPS estimate.
Obviously, there are moving parts for NVDA. In recent years, its growth was influenced by crypto demand, which boosted its results in FY18 and FY19. AMD has lower margins, which enable it to more easily increase its profits. Investors well could see more opportunities for chip stocks than for software names (though I personally wouldn’t agree with that).
Still, the valuation of NVDA stock may be getting a bit stretched. After all, Nvidia stock now trades at a forward multiple similar to that in September 2018. And that did not end well. Analysts’ estimates were slashed, the multiple compressed, and NVDA stock plunged by 50%.
The Competitive Risks to NVDA Stock
To be sure, I don’t expect a repeat of Q4 of 2018 to play out any time soon, if ever. Again, the impact of cryptocurrency mining demand has largely receded. Nvidia has enormous opportunities in artificial intelligence, datacenter, and automotive. Nvidia stock isn’t cheap, but there aren’t good reasons that it should be cheap.
That said, NVDA is facing fierce competition, and that situation will continue. AMD has become a real competitor in GPUs (graphics processing units) with its Radeon line. Intel (NASDAQ:INTC) will defend its turf in datacenter and is targeting AI applications as well. Amazon.com (NASDAQ:AMZN) has developed its own chip, as have other tech titans like Microsoft and Alphabet (NASDAQ:GOOG,NASDAQ:GOOGL).
Certainly, there will be enough growth in end markets to go around. But investors need to remember that Nvidia stock won’t be the only play on multi-year trends in tech. And, at this valuation, it may not be the best play.
A Good, But Quieter, 2020
Again, none of this is to say that NVDA stock is a candidate for a short sale, or even that the current owners of Nvidia stock should sell their shares. In this market, growth has mattered more than valuation, and NVDA should return to growth in a big way in FY20. The chart of Nvidia stock still looks bullish; there seems to be a path toward last year’s highs above $280.
But even those highs represent less than 20% appreciation from the stock’s current levels. The average analyst price target, at $235, is below the current NVDA stock price. Its forward earnings multiples are as high as they’ve been in years.
At the least, the returns of NVDA seem likely to slow in 2020, unless Nvidia can significantly outperform expectations. That could certainly occur, particularly if the company can increase its share of the datacenter market, which should recover next year. But that, like further huge gains by Nvidia stock, is far from guaranteed.
As of this writing, Vince Martin has no positions in any securities mentioned.