AI stocks "fluctuating up and down" mean what? Morgan Stanley: This round of the semiconductor cycle is about to peak!

On August 29, NVIDIA released an impressive second-quarter financial report, achieving a revenue of $30 billion, a year-on-year increase of 122%. However, NVIDIA expects third-quarter operating revenue to increase by 80% to $32.5 billion, lower than the highest estimate of $37.9 billion. After the financial report was released, NVIDIA's stock price plummeted rapidly, falling below 7% at one point.

Morgan Stanley stock analyst Shawn Kim and his team released a report stating that this market performance indicates that the semiconductor industry has entered the late stage of the cycle and is approaching its peak.

Historically, there are some signs when an industry enters the late stage of the cycle: despite the market sentiment shifting from optimistic to euphoric, investors still realize the limitations of overvaluation and future growth potential, leading to a stock price correction, while the industry's revenue growth begins to slow down.

Semiconductor Industry Entering the Late Stage of the Cycle

Both data center revenue and overall revenue exceeded expectations in NVIDIA's second quarter. However, NVIDIA's stock price still dropped. Morgan Stanley stated that the semiconductor industry is showing clear signs of the late stage of the cycle - the market believes that demand is still strong, NVIDIA's guidance for the third quarter is also positive, but the market's response to the good news is weak.

Morgan Stanley mentioned that typically, the semiconductor industry either experiences high growth or negative growth, rarely moderate growth. The semiconductor industry reaches a supply-demand balance approximately every two years, but this balance period does not last long.

Currently, the semiconductor industry is facing the late stage of the cycle, including the industry's conditions and valuations. The market holds different views on the future development of the semiconductor industry, balancing fears that the semiconductor cycle has peaked with fears of missing out on the artificial intelligence opportunity.

By 2025, Revenue Growth in the Industry May Begin to Slow Down

Morgan Stanley stated that the market usually anticipates the impact of new technologies before seeing their financial benefits. During the dot-com bubble period, although in many cases there was not a significant gap between the market's long-term forecasts and the eventual reality, stock valuations could not be sustained at high levels, and sales multiples quickly returned to normal. The reason for the bursting of the dot-com bubble was that the market had absorbed all internet infrastructure spending, but companies could not achieve the high expected returns.

Extending to the current generative AI. If the market realizes that sufficient AI revenue may be further away than expected, the market's premium on AI valuations may shrink. This is not a pessimistic view, but a more rational perspective, considering that many companies' AI projects are still in the pilot or concept verification stage. However, ultimately, artificial intelligence will create significant long-term investment opportunities, just like the paradigm shift driven by computers before Morgan Stanley pointed out that although the current technology cycle may be different from the past, there are signs indicating that we are approaching the peak of the semiconductor industry cycle, which began in the fourth quarter of 2022. While the market demand for GPUs is currently evident, the situation may not be as simple for the next phase of artificial intelligence trading—the key point lies in whether AI demand will be pulled forward before 2025-2026.

Morgan Stanley stated that historically, the market has always been driven by the rate of change. Based on year-over-year sales/pricing growth, the peak of the semiconductor industry cycle is approaching, with global revenue pointing to a peak in the third quarter of 2024. Morgan Stanley believes that tech companies will continue to rise in 2025, with supply possibly catching up with demand by the end of 2025, but stock prices will fluctuate with the rate of change, meaning semiconductor companies will be profitable, but stock prices will not reach previous levels.

Over time, more value in the semiconductor industry will shift to the application layer, while the value of infrastructure will decrease. Although there is currently a shortage of AI computing chips, this trend will not last forever—eventually, the supply of AI chips will catch up with demand, showing cyclical characteristics that are difficult to sustain the current growth rate.

The general expectation is that revenue growth in the semiconductor industry will begin to slow down after 2025.

Market Sentiment Shifts from Optimism to Frenzy

One constant throughout various cycles is human behavior. In the later stages of an industry cycle, one characteristic is the shift of investors from optimism to frenzy. During this period, what primarily drives stock prices higher is the culmination of certain factors, last year it was interest coverage ratio, this year it is the profit momentum brought by artificial intelligence, which is accelerating and is expected to peak in the coming quarters.

Morgan Stanley believes that the current market psychology will soon shift from focusing on the growth drivers of the new cycle to fearing the arrival of the cycle peak. Looking back at the past 10 cycles, the SOX index outperformed the S&P 500 by an average of 13 percentage points in the "pessimistic period" following 3 months; during the approximately three quarters of the "doubt period," this outstanding performance expanded to 32 percentage points; in the usually two quarters of the "optimistic period," this outstanding performance further accelerated to 76 percentage points, but once entering the "frenzy period," the SOX index's average performance lagged behind the S&P 500 by 13 percentage points