Nvidia has been one of hottest stocks on Wall Street for the better part of two years. But professional money managers have become increasingly cautious about holding large positions in the chipmaker as shares have skyrocketed. Compared to its weight in the S&P 500(SNPINDEX: ^GSPC), Nvidia was the second-most under-owned big tech stock across institutional portfolios in the first quarter, according to Morgan Stanley.
The hedge fund billionaires below contributed to that trend by selling shares of Nvidia and buying shares of Alphabet(NASDAQ: GOOGL)(NASDAQ: GOOG) or ServiceNow(NYSE: NOW) during the quarter.
- Louis Bacon of Moore Capital Management sold 2,006 shares of Nvidia, reducing his stake by 19%. He also started a position in Alphabet, which ranks among his top 20 non-option holdings.
- Israel Englander of Millennium Management sold 720,004 shares of Nvidia, reducing his stake by 35%. He also increased his position in ServiceNow by 728%, such that it ranks among his top non-option 30 holdings.
- David Shaw of D.E. Shaw sold 1.4 million shares of Nvidia, reducing his stake by 38%. He also increased his position in ServiceNow by 17%, such that it ranks among his top 60 non-option holdings.
- Paul Tudor Jones of Tudor Investment sold 103,337 shares of Nvidia, reducing his stake by 78%. He also increased his position in Alphabet by 347%, such that it ranks among his top 30 non-option holdings.
Importantly, every billionaire mentioned above still has exposure to Nvidia, so investors should not interpret their trades to mean Nvidia is a bad investment. However, Alphabet and ServiceNow produced turbocharged returns of 174% and 179%, respectively, over the last five years. So both stocks warrant further consideration.
1. Alphabet
Alphabet has two major growth engines. It is the largest digital advertising company and the third-largest cloud infrastructure provider as measured by sales. Its Google subsidiary is widely recognized as a leader in artificial intelligence (AI) research, and the company is bringing that expertise to bear across both business segments. New generative AI tools help advertisers create campaigns and optimize profits, and its Gemini family of models simplifies software development, data analytics, and threat detection. The Gemini models can also be fine-tuned to create custom generative AI applications.
Alphabet reported solid financial results in the second quarter, beating expectations on the top and bottom lines. Revenue rose 14% to $84.7 billion on steady sales growth in the advertising segment and accelerating sales growth in cloud services. Meanwhile, GAAP net income jumped 31% to $1.89 per diluted share as the company continued to prioritize disciplined cost control.
CEO Sundar Pichai said, "Year to date, our AI infrastructure and generative AI solutions for cloud customers have already generated billions in revenues and are being used by more than 2 million developers." All things considered, there was very little to dislike about the quarter. Yet, shares declined following the report, perhaps because YouTube advertising revenue missed estimates, or else because management warned that AI infrastructure investments would be a near-term headwind to margins.
Either way, the drawdown creates a reasonable buying opportunity for patient investors. Digital ad spending is projected to increase at 8% annually through 2027, according to eMarketer. And cloud services spending is forecasted to increase at 21% annually through 2030, according to Grand View Research. Those tailwinds give Alphabet a good shot at double-digit revenue growth through the end of the decade, and earnings should grow slightly faster as margins continue to expand.
Wall Street analysts expect earnings to grow at 16% annually through 2026. That estimate leaves room for upside, but the current valuation of 24.3 times earnings is reasonable even if Wall Street's consensus estimate is correct. The stock is still down 6% since the second-quarter report, so patient investors should capitalize by purchasing a small position today.
2. ServiceNow
ServiceNow provides a broad range of workflow management software. The company is best known for its leadership in the IT service management (ITSM) and AI for IT operations markets, but its platform also includes solutions for customer service management, human resources service delivery, and robotic process automation. ServiceNow began adding AI capabilities to its platform years ago, such as conversational chatbots, intelligent document processing, and predictive analytics. The company more recently debuted a set of generative AI capabilities called Now Assist.
ServiceNow reported strong financial results in the second quarter, beating expectations on the top and bottom lines. Revenue increased 22% to $2.5 billion and non-GAAP net income jumped 32% to $3.13 per diluted share. The company maintained its renewal rate of 98%, and remaining performance obligation rose 32%, hinting at strong revenue growth in the coming quarters.
Importantly, management attributed its performance to broad-based demand across its software portfolio: 14 of the 20 largest deals involved at least eight products, and Now Assist became the fastest-growing new product in company history. But CFO Gina Mastantuono said ServiceNow has only scratched the surface of its tremendous opportunity in generative AI.
Going forward, the ITSM market is expected to grow at 9% annually through 2030. ServiceNow should grow more quickly due to its market leadership in IT software, opportunities in adjacent software markets, and its expanding suite of generative AI tools. Accordingly, Wall Street expects adjusted earnings to grow at 21% annually through 2026.
Unfortunately, that estimate makes the current valuation of 63.5 times adjusted earnings look expensive. ServiceNow is an wonderful company, but I plan to keep this stock on my watchlist for the time being. Personally, I would feel more comfortable buying shares if the price-to-earnings ratio was closer to 40.
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Suzanne Frey, an executive at Alphabet, is a member of The Motley Fool's board of directors. Trevor Jennewine has no position in any of the stocks mentioned. The Motley Fool has positions in and recommends Alphabet and ServiceNow. The Motley Fool has a disclosure policy.
