Prediction: This artificial intelligence (AI) stock will outperform Nvidia over the next decade

A few years ago, semiconductor specialist Nvidia tried to acquire a little known company called Arm positions (ARM -6.89%).

Unfortunately for Nvidia, the company abandoned the deal as long-winded lawsuits surrounding antitrust issues seemed to have no end in sight. After the failed takeover, Arm pursued an initial public offering (IPO). Nasdaq last September.

Since its IPO, Arm stock has risen 138% amid the artificial intelligence (AI) movement. But even after such a rapid rise, I foresee much better days ahead for Arm. In fact, I think Arm stock will easily outperform Nvidia over the next decade.

Below, I’ll explain why I’m so bullish on Arm and explain how increasing chip competition could spark Nvidia’s first uphill battle in a long time.

Why Arm Stock May Outperform Nvidia

The semiconductor industry has many different components. Not all chip companies make graphics processing units (GPUs) like Nvidia or Advanced micro devices. There are many more uses for chips, and Arm dominates a fairly unique part of the market.

At its core, Arm designs chip architecture for mobile devices, consumer electronics, data center networking equipment, and other Internet of Things (IoT) devices. The company makes money by licensing its intellectual property (IP) and earns royalties based on its various architectures.

As illustrated in the image above, Arm’s architecture is deeply embedded in various applications. This offers the company an enviable degree of flexibility with regard to new chips coming to market in the future. In other words, companies running on Arm’s architecture are less likely to develop a new hardware and software system that is inconsistent with Arm’s architecture.

Additionally, the slide above shows that Arm’s market share has increased across the board over the past two years. With that in mind, I think the company is well positioned to continue to capitalize on new chip-based devices, as Arm’s IP is already used in so many devices around the world.

For this reason, I view Arm as less vulnerable to chip competitive forces compared to competitors like Nvidia.

Why Nvidia’s best days may be in the rearview mirror

Like Arm, Nvidia has a huge presence in its core end market. The company’s A100 and H100 chipsets have helped Nvidia gain an estimated 88% of the GPU market.

However, I see some obvious risks that could expose Nvidia in the coming years, and I wouldn’t be surprised if the company starts losing market share.

Firstly, companies, including Microsoft, Alphabet, Tesla, AmazonAnd Metaplatforms all invest in their own custom chip designs. Furthermore, these companies have been labeled by Wall Street analysts as Nvidia’s largest customers – accounting for nearly half of the company’s revenue.

While you could argue that more competition is a good thing for Nvidia, I don’t see it that way in this case. These companies will likely remain Nvidia customers for years to come, but introducing their own hardware could be a bargaining chip in the long run.

What I mean by that is that more GPUs on the market will likely weaken Nvidia’s pricing power. In turn, I think Nvidia’s revenue and earnings growth could see a dramatic slowdown – a dynamic that growth investors don’t want to see.

But increasing competition isn’t the only risk Nvidia faces. Given the company’s near-monopoly position, there is a possibility that the Department of Justice (DOJ) could investigate Nvidia’s business practices and force the company to loosen its ecosystem.

With so much uncertainty surrounding Nvidia’s future, I’m skeptical that the stock is a no-brainer at this point.

Is Arm stock a buy now?

There have been many periods of expansion and contraction in Arm’s trading business. But with a price-to-earnings ratio (P/E) of 96, it’s hard to say the stock is cheap.

The forward price-earnings ratio of the S&P500 is about 23, less than a quarter of that of Arm.

ARM PE ratio (forward) data according to YCharts.

Here’s how I think about it: The market is clearly putting a premium on Arm stock for a reason. I think there are two core themes that need to be unpacked.

On a macro level, AI appears to be here for the long haul, and the biggest tech companies are committed to spending billions on future artificial intelligence initiatives. While spending will change from year to year, AI’s secular tailwinds should bode well for Arm.

At a company-specific level, Arm’s unique position in chips and its lucrative business model suggest that the company’s growth will remain robust over time.

For these reasons, I see Arm as the superior investment over Nvidia in the next decade. While the stock isn’t a bargain, I think it still looks like an attractive opportunity for long-term investors.