While the dominant AI model seems uncertain at this point, a consensus is building around Nvidia as the cornerstone company in this technological revolution. Mark Twain noted, during another California goldrush almost 2 centuries ago, “during a gold rush it’s a good time to be in the pick and shovel business.” As Qualcomm and Cisco were the shovel makers for the dot-com revolution, Nvidia is – for now – the shovel maker for AI, creating the chips and software that underly cutting edge AI models.

Nvidia’s graphics cards, which were originally designed for videogames, have turned out to be extremely efficient at the calculations central to AI models. Nvidia has demonstrated tremendous foresight, investing for years into AI-specific hardware as well as a robust software ecosystem supporting AI development, which combine to create an impressive moat. Nvidia is now the silicon dealer to leading-edge AI projects.⁶ That lead has only grown in recent years as Nvidia has made savvy acquisitions in architecture and networking to service enormous clients including Amazon, Google and Microsoft.

Nvidia’s massive ambitions, competence in securing its position, and validation by the markets breed overconfidence. Nvidia appeals on two separate dimensions to an insidiously intuitive story.

First, the AI boom is a textbook story of a Big Market Delusion.⁷ NVIDIA’s price reflects a certitude that its CPU architecture will continue to dominate, that it will not be displaced by new entrants or internal projects at other AI firms, and that current market expectations aren’t excessively optimistic.

A second hidden assumption is that Nvidia’s size makes it a safe play.⁸ As we’ve documented repeatedly, investors should be less enamored of “too big to fail” and more alert to the risk that the largest companies are often “too big to succeed.” Competitors and regulators love to take the largest companies down a notch. Customers stop rooting for an underdog when it becomes a top dog. The very competitive practices that allowed a company to become dominant are suddenly seen as anticompetitive and predatory.⁹

Unlike many in the dot-com bubble, Nvidia’s existing track record of sales and profits is already impressive. Its profits are up 32-fold since 2000, with per-share earnings and sales showing compounded annual growth of 16.3% and 14.9%, respectively, since 2000. Where Qualcomm and others demonstrated incredible promise with rapidly increasing profitability (Qualcomm’s per share profitability increased 7 times over in the 5 years leading up to its 2000 peak), Nvidia has an established long-term record.

Today, according to Bloomberg, Nvidia’s P/E sits at 110, half of of Cisco and Qualcomm at their 1999-2000 peaks. Even so, we believe that—like Cisco and Qualcomm during the dot-com bubble—Nvidia is a company with terrific long-term business prospects and its stock price may be a bubble.

When a bull market emerges from a powerful narrative propelling the stock prices of a narrow group of popular companies, those stocks may disappoint in the years to come. For example, following the peak of the tech bubble in March 2000, the average stock in the S&P 500 rose by 25% over the following two years while the cap-weighted index, dominated by popular tech stocks, declined by 21%.

The same pattern repeated in the aftermath of the Global Financial Crisis (GFC) and the Covid-induced value rout. After the March 2009 GFC low, the average stock in the S&P 500 beat the S&P index by 23% over the next two years. After value turned higher in September 2020, the average stock in the S&P 500 beat the index by over 15% before Chat GPT launched the latest surge in AI/tech stocks¹⁰.