Long-term investing is the key to sustainable returns in the stock market because it smooths out short-term volatility to let a company's fundamentals shine through. Nvidia (NVDA 2.17%) investors know this better than most. If they managed to hold through the ups and downs, they would have a return of almost 800% over the last three years.
That said, generative artificial intelligence (AI) is no longer a brand-new industry that can maintain itself off of hype. Costs will need to fall, and consumer-facing AI software companies will need to develop more-compelling monetization strategies. Let's explore what the near future might hold for Nvidia and this burgeoning industry as a whole.
Nvidia's growth is beginning to slow
The market reacted well to Nvidia's first-quarter earnings (shares are up 7% since they were released on May 28). But the results were a mix of good and bad news. Revenue jumped 69% year over year to $44.1 billion, but this is a sharp deceleration from the corresponding period last year when sales grew by 262%.
There are several reasons for this weakness. For starters, the Trump administration severely restricted export of the company's H20 chips to China, leading to a $4.5 billion impairment charge as it had to write down the value of excess inventory and purchase agreements. And while overall AI chip demand is still huge, there are some early signs that its specific business model could eventually hit a plateau.
NASDAQ: NVDA
Key Data Points
More and more companies are investing in custom-built chips that can be cheaper and more efficient than the company's one-size-fits-all solutions for specific workloads. Amazon has its Trainium and Inferentia chips, while Alphabet has its Tensor processing units (TPUs) designed to rival Nvidia's graphics processing unit (GPU) technology.
OpenAI is also working with the chipmaker's key supplier, Taiwan Semiconductor Manufacturing, to potentially reduce its reliance on Nvidia's hardware.
Image source: Getty Images.
As the AI industry becomes more mature, companies will probably seek competitive advantages through custom hardware design. And while Nvidia's powerful chip remains crucial in the nascent stages of the industry, it is unclear how much longer its economic moat will last.
Will sovereign AI save the day?
Nvidia's biggest customers could potentially become its rivals in AI chip design, giving them an incentive to replace its products wherever possible and making it crucial for the company to find business outside the private sector. Management is doing exactly that.
The company is pioneering a concept it calls sovereign AI, which suggests that different parts of the world need to build their own large language models (LLMs) to serve their unique historical, cultural, and political realities instead of relying on centralized sources -- typically in the U.S.
While these efforts are still in their early stages, Reuters reports a positive reaction from many European leaders and new data center build-outs in France and Germany with local partners.
The company is also making progress in the Middle East, where it is working with a Saudi Arabian government-backed AI start-up called Humain to build Nvidia-powered AI data centers in the desert kingdom. Over the long term, national governments could become a stable and reliable source for the business' chip design, even as the private sector becomes more competitive.
Where will Nvidia stock be in the next 3 years?
Nvidia seems to be in that complicated place where it is transitioning away from being an explosive growth stock into a mature value stock. With a forward price-to-earnings ratio of just 33, shares look reasonably priced, assuming the expansion of sovereign AI helps counteract the likely plateauing of the company's private-sector chip business. And over the next three years, investors should expect slower but steady expansion.
