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Powering the AI Boom: Is It Too Late to Buy Semiconductor Stocks?

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Unless you live under a rock, you have probably been hearing about and seeing some of these unbelievable moves in Semiconductor stocks.

Last year we had Nvidia (NVDA - Free Report) , leading the market all year with its data center products powering the AI revolution, but these last few weeks we have seen several more semi stocks join the trend with powerful rallies.

The primary driver of these outsized moves seems to be the ongoing realization of just how much demand the Artificial Intelligence boom is causing. To power this technological shift, sales of semiconductors and data center products are going to skyrocket, and the magnitude of this shift is only now being priced in, sending the stocks higher.

Super Micro Computer (SMCI - Free Report) , ARM Holdings PLC Sponsored ADR (ARM - Free Report) , and even the giant Taiwan Semiconductor (TSM - Free Report)  have staged some massive breakouts recently. In just the last two months, we have seen SMCI up 170%, ARM 70%, NVDA 53%, and TSM 34%.

And while some investors fear that a bubble-like mania is pushing these stocks too high, the reality is that based on updated earnings estimates the valuations are not too absurd. By factoring in these new AI growth figures, the market is just now pricing in a future we are only beginning to come to terms with.

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Is It Too Late?

If we take a look at the valuations of the semiconductor stocks mentioned above, we can see that they are still mostly grounded in reality. While ARM Holdings is clearly uber-pricey, the others are within both normal historical ranges, and appropriate for growth estimates. Expensive, yes, but we are likely going through a major technological shift, and they may very well stay pricey.

Zacks Investment Research
Image Source: Zacks Investment Research

Earnings Estimates Tell Another Story

The fact of the matter is that the Zacks Rank is telling us that these stocks may continue to rally, and that those crying ‘bubble’ are likely on the wrong side of this market.

Both ARM Holdings and SMCI enjoy Zacks Rank #1 (Strong Buy) ratings, while Nvidia has a Zacks Rank #2 (Buy). This means that analysts are continuing to raise earnings estimates, and these new projections may take some time for the market to fully price in.

This indicates that the rally may very well continue. Below we can see the magnitude of SMCI’s earnings revisions, and just today, ARM jumped up on the Zacks Rank #1 list, meaning analysts are only now upgrading expectations.

Zacks Investment Research
Image Source: Zacks Investment Research

How To Trade the Boom?

If you have read any of my other publications for Zacks, you know I am a fan of momentum trading. Focusing on the tape, following trends, and trading the price action is an approach most investors can understand. And if you marry it with big secular trends, and the Zacks Rank, you can catch some very profitable market moves.

I think focusing on the strongest names in the sector is probably the best approach. Some investors buy the laggards hoping that since they aren’t up so much, will play some catch up, but that is almost always the wrong move. Leaders lead for a reason, and often continue to lead until the trend rolls over.

Thus, I think Nvidia, Super Micro Computer, and ARM Holdings could very well continue to lead this AI boom and are worthy trades even at these lofty levels. But that doesn't mean just pile in and hope. Good risk management, and a trading plan should dramatically increase your risk adjusted returns.

Below, we have the chart for ARM, which staged a massive gap higher following earnings this week. Nvidia and SMCI have similar setups, essentially going vertical over the last two weeks. Ideally, we should see these stocks take a short break, pull back a bit, or trade sideways, building out a consolidation.

At that point we wait for this small pullback, or range to build and trade a breakout. Let the bull flag form, wait for the breakout signal and set a stop loss below the level of support. Simple enough!

Or if you want to buy now go ahead! Just make sure you size your position with the expectations of higher-than-average volatility.

Image Source: TradingVew

Bottom Line

I really don’t think we are going to see some massive correction yet in these semiconductor stocks, as it seems the market is still in fairly early stages for pricing in this monumental shift. So don’t expect a big sell off to try and get it. Because I think these stocks will continue to lead the market, they are not going to make it easy.

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