Three Wall Street analysts believe the party is nearly over for some Wall Street stocks focused on artificial intelligence (AI).
For the past 30 years, Wall Street and the investment community have been waiting for a breakthrough innovation or technology that could rival or even surpass what the Internet has done for American businesses. The rise of artificial intelligence (AI) may fit that bill.
When I talk about AI, I’m broadly talking about using software and systems to perform tasks that humans would normally be responsible for. What makes AI such a potential cornerstone innovation is the ability of software and systems to learn without human supervision. This ability to become more efficient at tasks over time, and to learn new tasks, gives this technology utility in virtually every facet of the U.S. and global economy.
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Exactly how big the AI revolution could be is a matter of interpretation and imagination. But according to high estimates from analysts at PwC, artificial intelligence has the capacity to add $15.7 trillion to the global economy by 2030. PwC arrived at this conclusion by inferring that $6.6 trillion would be added through productivity gains, with the remaining $9.1 trillion helped by consumption benefits.
Such big dollar figures have not gone unnoticed by Wall Street’s brightest minds. Most Wall Street institutions and analysts have set high growth expectations and sky-high price targets for leading AI stocks.
But there are exceptions.
Based on low price targets from select Wall Street analysts, the following three leading artificial intelligence stocks could fall by as much as 91%.
Palantir Technologies: Implied Downtrend of 65%
The first top AI stock to potentially be consigned to the trash bin, based on a Wall Street analyst’s forecast, is data mining specialist Palantir Technologies (PLTR 5.34%).
While one analyst believes Palantir still offers 35% upside from where it closed on July 3, RBC Capital’s Rishi Jaluria believes it’s worth $9 a share. If that prediction holds true, one of the hottest AI stocks would fall 65%!
While longtime Palantir bear Jaluria acknowledges that operating results are solid, a May 2024 note implies concerns about the company’s commercial segment. Jaluria specifically points to revenue siphoned off from special purpose acquisition companies (SPACs) that struck deals with Palantir. There’s no telling how sustainable or recurring that revenue will be.
While Jaluria’s concerns are valid (most SPACs have proven to be disastrous for investors), Palantir does bring identifiable competitive advantages that are clearly Doing earn a premium. For example, the scope of services that Palantir provides cannot be duplicated on a large scale by another company.
Palantir’s bread-and-butter business segment has long been Gotham, its AI-driven platform that helps governments collect data and plan missions, among other tasks. The company typically secures multi-year contracts from governments that use Gotham, leading to sustained double-digit revenue growth and predictable cash flow.
The company’s future, however, likely hinges on the success of its Foundry platform, the aforementioned “commercial” segment. Foundry’s mission is to help companies make sense of their data so they can streamline their operations. Its commercial customer base has grown 53% year-over-year (as of March 31, 2024), though this segment is still in its terribly early stages of growth.
While Palantir can deliver sustained double-digit revenue growth and is irreplaceable at scale, a forward price-to-earnings (P/E) ratio of 65 and a forward price-to-sales ratio of 25 (based on trailing 12 months of revenue) are tough to swallow in an already expensive stock market.
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Nvidia: Implied Downtrend of 22%
A second artificial intelligence stock that may face a loss is the company that has benefited most from the AI revolution: semiconductor giant Nvidia (NVDA -1.91%).
While most Wall Street analysts can’t set their price targets high enough for this leading AI stock, German BankRoss Seymour set a price target of $100 in May ($1,000 before Nvidia’s 10-for-1 stock split). If Nvidia were to hit $100 per share, it would lose 22% of its current value, representing nearly $700 billion in lost market cap.
In many ways, Nvidia’s expansion has been smooth sailing. The company’s H100 graphics processing unit (GPU) has quickly become the must-have chip for AI-accelerated data centers. Last year, Nvidia’s GPUs accounted for 98% of the 3.85 million AI GPUs shipped, according to TechInsights . With the next-generation Blackwell GPU architecture set to debut in the second half of this year, Nvidia should have no trouble maintaining its compute advantage in enterprise data centers.
History, however, has always been a thorn in the side of companies leading the next-big-thing revolutions. Since the advent of the internet, there has been no buzzing innovation, technology or trend that has avoided a bubble in its early stages. Investors routinely overestimate the uptake and growth potential of new innovations and technologies, while not giving them time to mature. Artificial intelligence seems likely to be no exception to this unwritten rule.
Nvidia’s adjusted gross margin forecast of 75.5% (+/- 50 basis points) for the fiscal second quarter could also be an ominous warning. While an adjusted gross margin of 75.5% is still Good above the historical norm, it represents a decline of 235 to 335 basis points from the quarter in the sequence. Putting two and two together, it suggests that competitive pressure has entered the picture.
Third-party competitors are releasing or ramping up production of their respective AI GPUs in the second half of the year, while Nvidia’s four largest customers by net revenue are all developing their own AI-accelerating chips for their data centers. The GPU scarcity that’s been fueling Nvidia’s red-hot adjusted gross margin appears to be easing — and that’s potentially bad news for investors.
Tesla: Implied Downtrend of 91%
The potential disaster, however, is from today among AI stocks is the world’s most valuable electric vehicle (EV) maker Tesla (TSLA 2.08%)The company’s full self-driving (FSD) software, which uses a network of cameras and ultrasonic sensors to avoid obstacles, is a perfect example of how Tesla is integrating AI into its electric vehicles.
In mid-April, longtime Tesla bear Gordon Johnson of GLJ Research lowered his very specific price target for Tesla to $22.86 per share. Johnson has historically arrived at his price targets by putting a multiple of 15 on his earnings estimate for the company over the next several years and applying a 9% discount to the current price.
There’s no denying that Tesla has done what has been impossible in the auto industry for more than half a century. CEO Elon Musk successfully built the company from the ground up to mass production, delivering four consecutive years of generally accepted accounting principles (GAAP) profits. But that’s where the praise ends.
Over the past 18 months, Tesla has cut the selling price of its fleet of electric vehicles more than a half-dozen times. With first-mover advantages waning and competition increasing, Musk had no choice but to become more price competitive. The end result was a sharp decline in the company’s operating margin, a reversal of free cash flow in the first quarter, and a large increase in the company’s EV inventory.
Furthermore, Tesla’s attempts to become more than a car company have largely failed. While it has a handful of small victories to its name, the growth rate for Tesla’s Energy Generation and Storage segment has slowed significantly, while gross margins for Services are in the low single digits. While investors want to pretend that Tesla is an energy or technology company, the majority of its revenue and profits still come from its now struggling and cyclical EV business.
The other devastating factor for Tesla is Musk’s laundry list of promises and innovations that have failed to materialize. After a decade of promising Level 5 autonomy for his company’s electric vehicles, Tesla’s FSD has not wavered from Level 2 autonomy. Furthermore, the Cybertruck has been an early flop, with multiple recalls and subpar deliveries.
Tesla is an auto stock with shrinking margins and falling EV deliveries that trades at a premium to even the most lofty AI stocks. While a 91% drop may be a bit extreme, I have to agree with Gordon Johnson that significant disadvantage seems likely.