Can You Go Wrong With Either AMD or Nvidia?

2020 has turned into what 2019 was supposed to be, the year of the semiconductor stock. In 2019, semiconductor stocks were supposed to be buoyed by 5G. But the back-and-forth squabbling between the United States and China kept the technology from rolling out.

But you wouldn’t know it if you followed the PHLX Semiconductor Sector (INDEXNASDAQ: SOX). Despite the false starts, the index climbed over 60% in 2019.

This year, the culprit has been the novel coronavirus. And the entire semiconductor sector got whacked hard during the market selloff in March. But the market quickly came to realize that having millions of Americans with a lot of idle time to pass at home was actually a very good thing for the companies that rely on the products that are powered by semiconductors.

And two of the biggest beneficiaries have been Advanced Micro Devices (NASDAQ:AMD) and Nvidia (NASDAQ:NVDA).

To be honest, both of these companies look like a screaming buy at the moment, but is one better than the other? Let’s take a look.

Interest in Gaming Has Been a Catalyst For Both Companies

The video game industry has been a beneficiary of the Covid-19 pandemic. Investors were figuring that there wasn’t going to be much to get excited about until Microsoft NASDAQ: MSFT and Sony NYSE: SNE released updated versions of their Xbox and PlayStation consoles respectively later in the year.

But as many Americans were staying at home, many renewed their love affair with gaming. And that’s been a boost for both Nvidia and AMD. But what about the rest of the year?

In this case, here’s what investors need to know. AMD has the contract to provide the GPU chips that will power both the new Xbox and PlayStation. Microsoft and Sony are looking to have their gaming consoles take on a more prominent role as an entertainment hub, and AMD chips are seen as being more nimble in that regard. AMD also told the companies they would be willing to create an entire business unit to service this growing need.

Advantage: AMD

Data Centers are Set to Provide an Additional Catalyst

I wasn’t as in tune with the effect that data centers were going to have on semiconductor stocks. I should have been, because data centers are only going to grow with the emergence of 5G technology. One of the emerging trends in data cents is in the area of streaming video games. One such service is called Stadia, and it’s being introduced by Alphabet (NASDAQ:GOOGL,NASDAQ:GOOG).

Stadia will change the gaming experience for millions of gamers. Rather than having the games be linked to specific hardware (i.e. a console), the games will be streamed from the plethora of Google’s data centers. AMD has the contract to provide the chips for Google’s data centers.

As you might imagine, this technology is still in its early stages. In order to gain acceptance by serious gamers it will require the faster internet speeds brought about by 5G as well as more powerful data centers powered by faster graphic processing units (GPUs).

But don’t think that Nvidia is left out of the data center equation. In fact, Nvidia made a $6.9 billion purchase of the data center networking company, Mellanox, in 2019. At the time, the deal was shocking to long-time NVDA investors, but those investors are realizing there was a method to the company’s madness.

AMD is catching up fast, but I still give the nod to Nvidia in this growing segment.

Advantage: Nvidia

Is Either Stock Overvalued?

The short answer is that both stocks are probably overvalued. But investors who have suggested that either company’s stock could not continue to go higher have been wrong. I’ve been among them. Both companies have seen their P/E multiples rise. In the case of AMD, its P/E rose from 54x in 2018 to just over 129x at the time of this writing. For Nvidia, P/E has rose from 20x to 69x over the same time period.

For me, this is going to come down to free cash flow (FCF) and here I have to give it to Nvidia. The company had 754 million in FCF as of April 30. AMD reported a negative FCF of 120 million as of March 31, 2020.

To be honest, that might be splitting hairs a little bit and I’ve been on the wrong side of a bet against Advanced Micro Devices quite frequently in the past year. So while both companies look like they have several catalysts in the next year, I give Nvidia the slight nod at the moment.