Chips can stay up for NVIDIA

NVIDIA, one of the year’s biggest tech stock gainers, opened at another record high on Friday after the graphics chipmaker confirmed a return to form with blockbusting third-quarter earnings.

High expectations

More than recouping Thursday’s 2% loss before the earnings release, NVIDIA jumped as much as 5%. The question is, after a 92% run higher this year, and with Q4 guidance somewhat light, can significant gains continue in the medium term? With shares trading at a chunky 49 times this year’s full-year earnings, expectations for NVIDIA growth are indeed miles away from the low bar investors see for chip makers like Intel and Samsung. But, after robust demand in gaming, crypto mining, and data centre sales spurred a 31.5% revenue rise, we see risks more to the upside.

Volta surge expected

It is worth noting NVIDIA beat the street and its own forecasts with all platforms—GPU gaming, Professional Visualization, datacenter and Tegra auto—contributing significantly. Wall St particularly latched on to the group’s new Tesla V100 GPU for AI released during the quarter. One of the largest silicon chips ever produced and capable of driving 10 times more ‘deep learning’ power than its predecessor, applications as diverse as medical research, customer relationship and self-driving vehicles are expected to underpin demand. The first end products featuring the chip are forecast to become available this quarter, a relevant one for the U.S. holiday season. During the last quarter, Alibaba, Baidu and Tencent announced adoption of the GPUs in their datacenters and cloud servers, joining Amazon, Facebook, Google and Microsoft.

Datacentres back up

A rebound of data centre sales, NVIDIA’s second-biggest revenue contributor, was another key reason for the ebullient investor reaction to the earnings, given disappointing results in that segment in Q2. Datacentre sales rose to $501m in Q3 against market forecasts of $474.2m. Firm performance across the group helped its non-GAAP gross margin expand 50 basis points from Q3 2016 to 59.7%, also above guidance. Cash generation and management looks sound too. NVIDIA ended Q3 with cash and equivalents of $6.32bn compared with $5.88bn in Q2. Total debt was $2.008b, keeping leverage at an undemanding 60%, of underlying earnings. Compare that to rival Advance Micro, whose net debt stands at 3 times core earnings. NVDIA also continues to create more than sufficient free cash flow. During the quarter it banked $1.088bn.

Shrinking PC world

However, despite Wall St and the company’s optimism NVDIA released guidance for the final quarter that was virtually flat against Q4 earnings last year, the one glitch in an otherwise barnstorming report. This comes as comparable earnings for the next few quarters will imply higher hurdles to keep such stellar growth momentum going. Results have beaten consensus estimates for four quarters in a row, notching 10 straight quarters of growth. As exponential growth from quarter to quarter becomes more difficult, investors can be expected to focus more on the group’s exposures. These include dependence on a declining PC market that has impacted many chip makers like the ones we mentioned earlier. Researcher Gartner said U.S. PC shipments fell 3.6% in Q3, the 12^th consecutive year-to-year fall and the longest slide in the history of the PC. Additionally, although currently negligible, it would be dangerous to ignore the threat posed by such cash-rich rivals as Intel and Qualcomm. For now though, we see no compelling reason to expect NVIDIA’s growth trend to flag materially in the fourth quarter. We note here has been more than a hint of conservatism in the company’s guidance this year.

Tech Spec

• On Friday, the most attractive aspect of NVIDIA’s chart was the stock’s apparent breakout above the best fitting trend line it has been toying with since June. There’s no guarantee that the stock can maintain its position above the line – which would be the ideal picture for bulls – however, so long as any rejection isn’t so aggressive as to break prevailing chart structures, it remains a promising signal
• Note the path to this point has been notched with major legs that have notched retracements that most technical analysts would regards as orderly, or ‘normal’ – between 38.2% and 50% of each distinct swing
•  Again, since May, the stock has mostly respected a best-fitting lower uptrend line. (Together with the higher one they form a slowly tapering wedge of an asymmetric channel as you wish) Whilst it remains intact, the shares can continue to make impressive gains in our view. (Note the channel also exists in longer term charts)
• A gap that opened up on Friday may be filled in coming days, though momentum indicators still show fuel in the tank for the current leg (see Slow Stochastic sub-chart). We would largely expect any gap fill to be used as an opportunity for buyers
• NVDA’s ability to remain above $202 – short-term support turned resistance and site of a brisk defeat of sellers on 9th November – will be a good litmus test for the coming days

NVIDIA Corp daily chart - daily intervals

Source: Thomson Reuters and City Index