The AI chip market is expected to exceed $200 billion by the beginning of the next decade.
One of the biggest opportunities in artificial intelligence (AI) investing is semiconductor stocks. Of course, obvious opportunities include big names like Nvidia and Advanced Micro Devices. Both companies make chipsets called graphics processing units (GPUs) that play a key role in developing generative AI applications.
Below, I explain why the semiconductor sector offers such favorable investment prospects over the next few years, analyze who the key players in the chip industry are, and share my picks.
What is the market potential for AI-enabled chips?
Chips play a key role in the overall AI ecosystem, with key use cases for AI chips including natural language processing (NLP), machine learning, and cloud computing.
According to data compiled by Precedence Research, the total global addressable market for AI-enabled chips is expected to grow at an annual rate of 30% between 2023 and 2032, eventually reaching a size of $227 billion by the beginning of the next decade.
Image source: Getty Images.
Who are the major players in the semiconductor industry today?
As mentioned above, Nvidia and AMD are the two big players in AI chips at the moment, along with more niche players like Arm Holdings and Broadcom, which seems poised to revolutionize both the software and hardware sides of AI chips.
But smart investors understand that there are opportunities beyond the core market players. Indeed, many of Nvidia’s customers are investing heavily in developing their own AI chips.
Currently, Amazon and Meta Platforms are two related opportunities for investors interested in investing in the chip market. Amazon is developing its own line of chips, called Trainium and Inferentia, while Meta’s training and inference accelerators could be seen as a more strategic move to transition away from Nvidia’s H100 GPUs, which take up a portion of Meta’s current capex budget.
Additionally, Tesla CEO Elon Musk has hinted at the idea of competing with Nvidia in the future, and given how many blue-chip companies use Nvidia’s chips, it’s hard to see another opportunity without an advantage.
Now, from all the examples above, a subtle theme emerges: Nvidia faces increasing competition. Over time, I believe the company will lose its ability to exert high pricing power, which will in turn erode its market dominance position. For these reasons, it would not be surprising to see Nvidia’s growth slow and its stock price premium begin to normalize.
But fear not: Regardless of which companies are most in demand, there’s one company that stands to benefit from the growth of the AI chip market.
Why do some companies stand out from the crowd?
Taiwan Semiconductor Manufacturing (TSM 5.34%) is one of the most important companies in the chip industry. The company is an expert on the manufacturing side of chips, thanks to its manufacturing facilities. As you know, Nvidia and many of its peers have very little involvement on the manufacturing side. Instead, once new chip designs are tested and finalized, many semiconductor companies outsource their manufacturing needs to TSMC (as they’re better known).
In fact, Taiwan Semiconductor’s customers include Nvidia, AMD, Broadcom, Amazon Web Services, Intel, Qualcomm, Sony, etc. Given this level of diversification, I think TSMC is well positioned to benefit from the more macro secular tailwinds fueling the AI chip market and not have to worry about which companies any particular chip business is acquiring.
What’s even more attractive about Taiwan Semiconductor is its valuation: The company trades at 25.4 times forward earnings, which is noticeably lower than other popular chip stocks. That difference seems odd, since TSMC is less vulnerable to competition than its peers.
TSM PE Ratio (Forward) data from YCharts
The AI revolution is still in its early stages, and chips will remain a critical component of the technology’s development. With various companies investing in their own chip businesses and AI use cases evolving, we expect the chip market to continue to thrive for the next few years.
Additionally, with so many companies relying on Taiwan Semiconductor’s outsourcing and manufacturing capabilities, there’s an argument to be made that the company is the most important of all semiconductor companies.
Given the long-term growth prospects for the AI chip market, Taiwan Semiconductor’s influential role in enabling the chips, and the attractive valuation of the company’s stock, I think now is a great time to pile into the stock.
John Mackey, former CEO of Amazon subsidiary Whole Foods Market, is a member of The Motley Fool’s board of directors. Randi Zuckerberg, former director of market development and communications at Facebook and sister of Meta Platforms CEO Mark Zuckerberg, is a member of The Motley Fool’s board of directors. Adam Spatacco has invested in and recommends Amazon, Meta Platforms, Nvidia, and Tesla. The Motley Fool has invested in and recommends Advanced Micro Devices, Amazon, Meta Platforms, Nvidia, Qualcomm, Taiwan Semiconductor Manufacturing, and Tesla. The Motley Fool recommends Broadcom and Intel and recommends Intel’s November 2024 $24 call options. The Motley Fool has a disclosure policy.
