With shares falling post-earnings, should you buy the pullback in Nvidia (NASDAQ:NVDA) stock? This “tech blue chip” has been one of the biggest winners during the novel coroanvirus. Shares sold off during March’s panic. But, with the stay-at-home economy, a massive tailwind, shares in this CPU and GPU maker rallied to prices substantially above where they were pre-pandemic.
Can this continue? That’s debatable. On one hand, in a market where winners keep winning, it’s tough to call a top. As underlying performance remains strong, there’s little reason for investors to stop bidding shares higher.
Yet, things may be running out gas. Video game demand remains strong, but data center demand may be starting to cool. Although the story behind this stock remains in motion, a little bearishness may now be warranted.
So, what does that mean for those who own shares today? It may be high time to cash out. And, if you haven’t dived in yet, sit things out for now.
NVDA Stock and Q2 Earnings
As InvestorPlace’s William White wrote Aug 19, the chip maker crushed it on earnings for the second quarter. Sales of $3.87 billion for the quarter ending July 26 trounced Wall Street’s $3.65 billion estimate. And adjusted earnings of $2.18 per share exceeded consensus of $1.97 per share.
Nvidia’s guidance remained strong as well. The company expects third quarter sales of around $4.4 billion, above analyst projections of $3.97 billion for Q3.
Yet, this good news failed to put more points in NVDA stock. Instead, shares have started to head lower post-earnings. Sure, a few points lower means little, as shares are up about 106% year-to-date. But, investors may be realizing they got carried away with this stock.
What do I mean? Sure, today’s pandemic tailwinds may translate into long-term benefits. Millions working and playing at home bodes well for the key end markets for its chips (namely video games). But, this factor may already be priced into shares. And then some.
As this commentator recently noted, tech stocks like this one have been bid into the stratosphere in today’s 1999-esque stock market bubble. At today’s prices, even better-than-expected growth out of this company may not be able to sustain its valuation. In short, plenty of reason why we may be soon toward the top.
Of course, valuation alone isn’t a reason to bail out of a stock. But, besides a premium multiple, other factors at play may mean today’s the time to make an exit.
More Than Just Valuation
There’s more to the bear case for NVDA stock than just a premium forward price-earnings (P/E) of 53.9. But, taking a look at analyst consensus for earnings between this fiscal year and the next, there’s good reason why valuation concerns could push shares lower.
Analyst consensus calls for earnings per share between FY21 (ending January 2021) and FY22 (ending January 2022) to rise just 11.4%. Sure, double-digit earnings growth is nothing to sneeze at. But, it’s hardly the level of growth that can sustain Nvidia’s current valuation.
In short, valuation contraction may be in the cards. If valuation contracts to a forward multiple of 30x, shares could easily fall back to $300 per share (based on FY22 earnings estimates of $10.04 per share).
Sure, strong numbers could continue to justify today’s high multiple. However, there are signs that growth in the coming quarters falls short of expectations. Nvidia has already hinted at that, as seen from its remarks regarding the company’s data center business.
As this pundit noted, analysts believe strength in the gaming space may offset the expected cool-down in data center demand. And, given it probably won’t be until early 2021 that we’ll have a readily available Covid-19 vaccine, the stay-at-home economy fueling gaming growth could stay strong.
That being said, even the gaming catalyst could start to cool, as there only so many gaming consoles you can buy during a yearlong pandemic. Also, a continued “new normal” could mean further declines in the company’s weakened workstation and automotive sales.
After an Epic Run, it’s Time to Cash Out
Investors who saw ahead of time the pandemic would be more a tailwind than a headwind for Nvidia won big in the past five months. Shares have rallied more than 260% off their March lows. But, even as the “new normal” means better-than-expected performance out of this company, things could start to cool.
That’s not to say the company will soon see massive declines in sales. But, if demand, and in turn, earnings growth start to slow, shares could head lower from here.
If you bought in at lower prices, it’s time to take profit. And, if you are just looking at shares today? Don’t grasp for straws to justify a buy, avoid NVDA stock completely for now.
Thomas Niel, contributor to InvestorPlace, has written single-stock analysis since 2016. As of this writing, Thomas Niel did not hold a position in any of the aforementioned securities.