Is Nvidia or IBM the best AI stock to buy now? Find out which tech giant offers the best investment opportunities in the summer of 2024.
The boom in generative artificial intelligence (AI) has launched a golden age for chip designer Nvidia (NVDA 1.40%) and its investors. Software and services veteran IBM (IBM -0.09%) is also benefiting from the same trend, but in a very different way.
Which of these tech giants will be the better AI stocks in the summer of 2024? Let's take a look.
Benefiting from Nvidia's Generative AI
Before generative AI exploded, Nvidia wasn't a very exciting story. Two years ago, the company was doing its best to distance itself from cryptocurrency mining, and consumer interest in lockdown-inducing video gaming consoles was fading. Nvidia was already shipping loads of AI accelerator chips behind the scenes, but it wasn't getting much attention because no one had seen ChatGPT yet. Instead, at the time, Nvidia's involvement in self-driving car systems seemed like a promising growth catalyst.
Ah, times have changed.
It's no secret that ChatGPT's artificial intelligence is built around Nvidia chips, and the company has quickly emerged as a major supplier of AI accelerator hardware. A single Nvidia A100, H100, or L40S accelerator card costs between $8,000 and $30,000. It takes tens of thousands of these to train a modern large-scale language model (LLM). These chips are sold in large, highly profitable batches.
In its first-quarter report in May, Nvidia's revenue grew 262% year over year. Data center sales, which include the aforementioned AI accelerators, accounted for 87% of that revenue, up from 60% in the same period last year and 45% the year before that.
As a result, Nvidia's revenue and cash flow are soaring, as is its stock price. Nvidia investors have seen their holdings grow tenfold since October 2022's two-year low.
While there are obvious reasons for the stock's rise, the enthusiasm for AI feels a bit overheated: Whether measured by sales, earnings, or free cash flow, Nvidia is trading well above its average long-term valuation ratios.
In short, Nvidia looks overvalued despite its surging financials. I'd be a buyer again if the stock were to plummet, but I cashed in some of my Nvidia profits in the spring and have no intention of going beyond “hold” for now.
How IBM's dramatic strategy shift is paying off
Unlike Nvidia, Big Blue isn't a hardware provider these days, meaning that while its proprietary mainframe systems still provide some exposure to the hardware side of the technology world, the company as a whole has refocused on software and services.
The market has been a little slow to evaluate IBM for its AI promise because the company focuses solely on business-class customers. Enterprise-scale clients must subject new software tools to performance, security, and integration testing while also getting budget approval from multiple layers of management. This takes time, but the resulting contracts tend to be robust and long-term.
This is where the company is now: With much of the testing process and approvals complete, IBM is starting to see real revenue from its AI solutions under the Watson name.
In its second-quarter report in July, IBM reported that generative AI bookings hit $2 billion, up from zero a year ago as the underlying Watsonx service launches in summer 2023. Management raised its full-year software growth outlook to high single digits from mid-single digits, an impressive increase considering that more than 80% of IBM's software revenue is tied to multi-year contracts. And CEO Arvind Krishna now expects growth to rise into double-digit territory from 2025 onwards.
I expect Big Blue's AI growth to be more modest than Nvidia's, but more sustainable. A sudden increase in chip sales is one thing. Rising long-term software contracts is another. I'd rather invest in things that deliver slower, longer-term results.
And then there's the valuation perspective: Compared to Nvidia's lofty price-to-earnings multiple, IBM's valuation ratios make it look like a bargain.
NVDA PS Ratio Data by YCharts
Why IBM is the better AI stock to buy now than Nvidia
I still hold some old Nvidia shares, but I don't plan on buying more anytime soon — instead, my new funds are much more likely to be put into an IBM position, as the tech giant still looks undervalued.
While Wall Street has been slow to forgive IBM for shifting its decade-long strategy, I'd argue it was exactly the right move at the right time. The next few years will tell investors how well its new emphasis on software, services, cloud computing, and AI pays off in the long run. This is the best AI stock to buy now and hold for decades.
At the same time, Nvidia appears headed for a sharp price correction. Call me when the stock falls at least 30%, and preferably more.
Nvidia's rapid growth has been impressive but its valuation is too high, while IBM's radical strategic shift is beginning to pay off, providing a more stable growth story and making it an attractive alternative for new investments.
I heard it here for the first time.
