There is a possibility that NVIDIA's momentum will slow down 🤔

by Mark Hulbert
NVIDIA needs to grow 70% per year to support stock prices
Nvidia's stock price may not generate the returns optimistic investors are hoping for.
Nvidia (NVDA) shareholders need realistic checks. Nvidia's stock price is trading in a situation where growth above Wall Street analysts' most optimistic expectations are assumed. There is a possibility that Nvidia's stock price will not generate the returns that optimistic investors are expecting.
This is not a criticism of the company, which has demonstrated excellent results so far. It's a simple math problem: how fast does Nvidia need to grow to support stock prices?

🟡 The answer depends on 2 key points:
Return rate for the next 5 years of trading: It's not realistic to assume that Nvidia's stock will continue to rise in value at the incredible pace it has grown over the past 12 months (176%) or the past 5 years (100% per annum). The growth rate is bound to decline. As a conservative estimate, let's assume that stocks will grow at an annual rate of 50% over the next 5 years. This is a conservative estimate as many optimistic investors are now expanding the triple digit returns over the past few years. What Nvidia's P/E ratio will look like in 5 years: Stock's P/E ratio is 93 based on profits for the most recent fiscal year. The unprecedented high P/E ratio won't last forever, so Nvidia's P/E ratio will probably drop by mid-2029. Let's assume the company's P/E is 50 in 5 years. This is also a conservative estimate. This is because the largest semiconductor companies have a P/E ratio of less than 50, and the required EPS growth rate rises as the expected P/E ratio decreases.
Based on these two assumptions, Nvidia's EPS should grow at an annual rate of 70% over the next 5 years. This has more than doubled, according to FactSet, because Wall Street analysts' agreed 5-year annual growth rate of 30% is expected.
Historically, Wall Street analysts have been too optimistic on average. However, holding everything else constant in my example, even assuming that Nvidia's 5-year revenue growth agreement forecast is correct, the stock growth rate will average 15.2% per year between now and mid-2029. This is something similar, but far lower than what Nvidia investors are expecting.
Try playing with these numbers. It would be difficult to make a reasonable estimate that supports the inflated expectations of Nvidia's more optimistic investors.

🟡 Qualcomm teaches lessons
A useful analogy is Qualcomm (QCOM), which is one of the most high-flying companies in the dot com era. Stock prices increased 26 times in 1999 alone. If we focus on how much the company's profits have grown since then, we can conclude that the high stock price at the end of 1999 was justified. According to Research Affiliates, since 1999, “Qualcomm's business growth has been astounding. Over the next 23 years, sales and shareholder profits grew at an annual rate of 14% and 19%. Qualcomm's profit is 60 times higher than it was in 2000 when it peaked.”
However, Qualcomm's stock performance since 1999 has led to disappointment. According to the Research Affiliates survey, the return rate from 1999 onwards until the end of 2022 is only 2.8% per annum, less than half of S&P 500 earnings. 19
The reason stocks with “astounding” sales and profit growth fell far below the market is because, according to a Research Affiliates survey, “the good news was already fully reflected in stock prices!” That's it.
The same seems to apply to Nvidia shares. In order for stocks to meet investors' excessive expectations, they need to grow even faster than the good news that has already been discounted. That's a huge order.

🟡 The reality of growth rates
This skeptical conclusion applies even if we assume that Nvidia's EPS will grow at an annual rate of 30% as expected by Wall Street. However, it is extremely likely that this forecast is overly optimistic. That's an implication of groundbreaking research showing that historically, corporate profits rarely grow at a faster pace than median's on a multi-year basis. This is because surpassing the median is a much lower barrier than the 30% annual rate.
This study, titled “Level and Sustainability of Growth Rates,” was published 20 years ago, and was conducted by Louis K.C. Chang of the University of Illinois at Urbana-Champaign and Jason Karseski and Joseph Rakonischok of LSV Asset Management. They analyzed all publicly traded companies starting in the 1950s and looked for those that showed higher sales growth than median over several years. They found that the number of companies crossing this low barrier was not higher than expected based on chance assumptions. Similar results were obtained in subsequent research by Verdad Research, which analyzed the 20 years since Chan/Lakonishok/Karceski was published.
In short, the chances that Nvidia's earnings will continue to grow at the current pace are roughly equal to the odds associated with tossing coins. And, as Wall Street analysts expect, even if Nvidia beats those odds, the company's stock price still won't continue to rise at its past blister pace.