Nvidia’s business has been performing exceptionally well. There’s just one hiccup — the Chinese market.
Nvidia (NVDA 0.67%) stock generated staggering gains this year, with share prices up more than 200%. Making chips for artificial intelligence (AI) purposes and being a big benefactor of more data processing, Nvidia stock has soared to a valuation of more than $1 trillion.
The rapid valuation jump makes it much harder for the AI stock to remain a good buy right now. It’s getting more difficult for investors to justify buying a stock with so much growth already priced in. That’s a key reason that, despite posting strong earnings results in November, Nvidia’s rise slowed in recent weeks.
Another reason for the stock leveling off relates to the U.S. government restricting the types of chips that companies can sell to China. The new restrictions are a problem for Nvidia, as China accounts for a significant part of its business. Of the $18 billion in revenue that Nvidia reported in Q3 of fiscal 2024 (ended on Oct. 29), more than $4 billion (about 22%) came from China. That’s up from last year when Chinese sales represented 19% of Nvidia’s Q3 top line.
Although business is booming for Nvidia, investors shouldn’t look past the risk that tensions with China present. Nvidia projects overall Q4 sales will top $20 billion — representing a year-over-year growth rate of 231%. What’s impressive is that Nvidia expects growth in other parts of the world to more than make up for the declines in China.
Share prices of Nvidia have more than tripled this year, hitting record highs. But with that optimism also comes extremely high expectations for the future. Investors are not only factoring in future growth, but they also expect perfection from the business. And even though Nvidia’s guidance for the fourth quarter is impressive, the headwinds in China suggest that things aren’t going perfectly, and that Nvidia’s growth rate would have been even higher if not for the U.S. government’s restrictions. The result is underwhelming stock performance.
Nvidia’s stock trades at more than 115 times its trailing profits. Even though the stock has traded at a high premium in the past, the levels it reached this year are well above the norm for Nvidia.
The natural counterargument to this is to say that Nvidia’s profits are going to soar due to the strong demand for AI chips. And true enough, Nvidia trades at only 25 times its estimated future profits, which makes it look like a potential deal. But the problem is that with the U.S. government changing restrictions on which chips can be shipped to China and economic conditions also uncertain, it can be difficult to determine how accurate those future earnings estimates will turn out to be. Like analyst price targets, earnings expectations can also become outdated, and that can make relying on them dangerous for investors.
Nvidia’s stock looks to be losing a bit of steam, as over the past three months it’s up by just 5%. But as long as you are willing to hold on to the stock for multiple years, Nvidia should still generate positive gains for your portfolio. AI alone can be a huge growth catalyst for the business, with Nvidia owning a 70% market share of AI chips, according to estimates. Its strong position in the chip market makes this a promising stock to hang on to for the long term. The fact that it can still generate strong growth even despite significant headwinds in the Chinese market is a strong sign of Nvidia’s growing versatility and diversification.
