Two of the best semiconductor stocks to buy as investments in the burgeoning AI sector are Nvidia and Arm Holdings.
Artificial intelligence (AI) is poised to be one of the most disruptive secular growth trends in history. Most sources predict the global AI market will grow at a compound annual growth rate (CAGR) of 30% to 40% through 2030, reaching a market size of $800 billion to over $1 trillion in 2030.
The AI revolution has been underway in recent years, but it finally began to take hold in early 2023. This came on the heels of the emergence of generative AI, which has significantly expanded the potential use cases for AI. Generative AI stunned the tech world when OpenAI released the ChatGPT chatbot in late 2022.
There are a few main ways to invest in AI: In this article, we focus primarily on companies that develop and supply semiconductors, or “chips,” and other technologies that enable AI capabilities.
Best AI Chip/Tech Stocks
Company Market Cap Forward P/E Wall Street 5-Year Annualized EPS Growth Forecast 2024 YTD Return 10-Year Return Nvidia (NVDA 4.55%) $3.2 trillion 47 46.4% 161% 28,220% Arm Holdings (ARM 4.56%) $142 billion
86
31.2% 80% N/A* S&P 500 Index N/A N/A 19% 241%
Data source: Yahoo! Finance and YCharts. Data through August 23, 2024. P/E = price-earnings ratio. EPS = earnings per share. *Arm had its initial public offering (IPO) in September 2023.
Let's convert the 10-year percentage increase into monetary terms: If you invested $1,000 in each of the following items 10 years ago, how much would you have today?
Broader market (S&P 500): $3,410 Nvidia: $283,200 (yes, that's over $250,000)
1. NVIDIA
To say that Nvidia is “dominant” in the AI chip space is an understatement: The company's graphics processing units (GPUs) are the gold standard for accelerating AI workloads in data centers.
By all reports, Nvidia has more than 90% of the market share for data center AI GPU chips and more than 80% of the overall data center AI chip market. Lisa Su, CEO of Advanced Micro Devices, predicts that revenue from the fast-growing data center AI chip market will reach $400 billion by 2027, which represents a compound annual growth rate of about 73%.
Nvidia isn't AI-focused, but it's the closest thing it has to semiconductors: Its data-center market platform accounted for 87% of its revenue in the quarter that ended in late April, and the business primarily supplies chips and related technologies (including networking technology and software) to enable AI and high-performance computing.
AI also powers offerings on Nvidia's other platforms, including computer games (10% of revenue last quarter), professional visualization (1.9%) and automotive and robotics (1.5%).
NVIDIA is scheduled to report its fiscal second quarter (ending late July) results on Wednesday, August 28, after the market closes. Management expects revenue to grow 107% year over year to $28 billion. It also (through various indirect sources) expects adjusted earnings per share (EPS) to be $6.22, or a 130% increase.
2. ARM Holdings
UK-based Arm designs central processing unit (CPU) architectures and licenses its designs and related intellectual property (IP) to customers, which include many of the biggest consumer technology and semiconductor companies, including Apple, Nvidia and Qualcomm.
Founded in 1990, Arm played a key role in enabling the smartphone revolution, rapidly increasing its adoption due to its highly energy efficient chip architecture, which improves battery performance in smartphones. Arm-based chips can be found in approximately 99% of smartphones as well as countless other small form factor products.
In recent years, the company has expanded into high-value markets such as data center servers, AI accelerators and smartphone application (app) processors. AI is driving growth in all of these markets. “AI's massive energy requirements are driving growth of Arm's computing platform, the most power-efficient solution,” the company said in its latest earnings call.
In late July, Arm reported financial results for the first quarter of fiscal year 2025, which ended in late June 2024. Revenue increased 39% year over year to $939 million, well above the Wall Street consensus estimate of $908 million. Licensing revenue increased 72% to $472 million, and royalty revenue increased 17% to $467 million.
Even better news for investors is that Arm's profits grew faster than its sales, meaning its profit margins continue to expand. Adjusting for one-time items, net income came in at $419 million, or $0.40 per share, a staggering 67% increase from a year ago. The result was well above analysts' expectations of $0.34 per share.
To highlight just how profitable Arm is, we've also included its adjusted net income numbers: its adjusted profit margin for the quarter was 44.6% ($419 million divided by $939 million).
What about Nvidia and Arm stock valuations?
Nvidia's stock is trading at 47 times this fiscal year's expected earnings, which is expensive on a standalone basis but reasonable for a company that Wall Street expects to grow its earnings at an average of 46.4% annually over the next five years. Moreover, Nvidia regularly beats earnings estimates by a comfortable margin, so 46.4% will likely prove to be too low.
Arm shares are incredibly expensive. They're trading at 86 times this quarter's expected earnings, which is a very high price not only in isolation but also for a company that Wall Street is predicting will grow earnings at an average annual rate of 31.2% over the next five years.
So why do I consider Arm stock the second best AI tech stock to buy right now (after Nvidia)? I'm working on a full article on why Arm stock is worth paying top dollar for, but suffice it to say there's ample reason to believe Wall Street is significantly underestimating Arm's earnings growth potential. The company has beaten analyst consensus earnings estimates for four consecutive quarters as a public company.
That said, some investors may want to keep a close eye on Arm over the next few quarters before making any investment decisions to see if the company can continue to deliver solid revenue and profit growth and perform in line with Wall Street expectations.
