In the first quarter of 2021, Nvidia reported that it generated revenues of $155m by selling crypto mining chips. This year, it says the revenue from this source is “nominal”, and it’s unclear if this sector will continue to be a big winner for the company. As demand from crypto miners falls, how exposed is Nvidia?
Back in June, the ethereum network tested the proof-of-stake validation process ahead of an expected switch later this year or in early 2023. The network currently relies on a system called proof-of-work, which is more energy intensive as miners compete to validate transactions. The proof-of-stake model requires miners to already hold some of a cryptocurrency’s tokens, which depletes the pool of miners.
This shift may be good news for energy consumption, but might not be for companies that sell crypto mining equipment, such as semiconductor maker Nvidia [NVDA]. In a note to clients last week, Morgan Stanley analyst Sheena Shah warned that Jensen Huang’s company could see a slowdown for its graphics processing units (GPUs).
How exposed is Nvidia to the crypto mining industry?
Demand for crypto mining contributed “substantially” to a shortage in the gaming GPU market over the past 18 months, Shah noted. But crypto mining is beginning to show signs of softening.
“The extent in which cryptocurrency mining contributed to gaming demand is difficult for us to quantify with any reasonable degree of precision,” said CFO Colette Kress on the Q1 2023 earnings call in June.
“The reduced pace of increase in ethereum network hash rate likely reflects lower mining activity on GPUs. We expect a diminishing contribution going forward,” Kress added.
Although Nvidia did not disclose revenue from crypto mining, it described this revenue as “nominal” for Q1 2023. In Q1 2022, it reported that it made $155m from crypto mining chips. Nevertheless, it’s “less exposed” to demand from crypto miners than it was during the 2017 to 2019 bull cycle, wrote Shah.
Nvidia has been described by Barron’s as being “a popular proxy for cryptocurrency investors”. Nvidia has lost half its value since the start of the year with the share closing on 6 July at $151.30, having recorded a 52-week low of $143.92 earlier in the week.
Wider headwinds for semiconductor firms
The Nvidia share price is being weighed down in part by a broader negative sentiment around tech and semiconductor stocks.
Jefferies analysts Jared Weisfeld told CNBC at the end of June that interest rate hikes by the Fed will cool overall demand, which will be a drag on chip makers.
“It just makes it a very difficult environment when someone like an Nvidia is levered so significantly to the cycle,” said Weisfeld, as reported by Seeking Alpha.
The PHLX Semiconductor index [SOX] is down 36.8% year-to-date through to 6 July and down 18.5% in the past month alone.
Chipmaking sector could soon bottom
Despite the headwinds facing semiconductor stocks, Columbia Threadneedle senior equity analyst Dave Egan believes the SOX index has potential to recover from here.
At a roundtable event covered by MarketWatch, Egan explained that price-to-earning multiples were between 5% and 10% above what was seen during the “trough” of 2018. This is partly because of rising interest rates but also because investors are expecting estimates to come down.
“This is a cyclical sector — a downturn would be followed by a recovery and then with that recovery in the fundamentals, you would get a recovery in valuation multiples back to about normal,” said Egan.
“What you could see in the near term is further downside, but you essentially eventually get a bottoming process, and then over the next couple of years, the SOX index would rebound and can more or less double from here, which is pretty attractive.”
On this basis, Columbia Threadneedle has invested in Nvidia among other semiconductor plays including Broadcom [AVGO], Marvell Technology [MRVL], and ON Semiconductor [ON].
The positive sentiment is clearly shared by Wall Street. MarketBeat data shows Nvidia has one ‘strong buy’ rating, 26 ‘buy’ ratings and six ‘hold’ ratings. The consensus price target of $264.79 implies an 75% upside.
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