Double whammy for Elon Musk: Slowing EV demand and shaky AI credentials make it difficult

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If you're making a list of the most important stocks in the market, Tesla Inc. should be on it. Or does it? It's part of a growing debate on Wall Street, where shares of Elon Musk's electric-vehicle maker are tanking due to the rest of the market rally — and the company is warning that things may not improve for some time. An original member of the so-called Magnificent Seven tech stocks driving the S&P 500 index to new highs, traders are now wondering if Tesla's name is next to those other powerhouses.

After doubling last year, Tesla's stock price is down 22% for the start of 2024. Nvidia Corp. 46% surge or Meta Platforms Inc. Compare that to its 32% gain since the start of the year and it's easy to see where the questions are coming from. In fact, it was the worst showing on the Magnificent Seven Index this year.

The problem for the EV-maker is that six of those seven companies are benefiting from the excitement surrounding emerging artificial intelligence technology. Even with Tesla's decline, the group gained a record 29.5% weighting in the S&P 500 last week, according to data compiled by Bloomberg. But even as Musk tries to position his company as an AI investment, the reality is that Tesla faces unique challenges.

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“Although Elon Musk would probably disagree, investors don't see Tesla as an AI play like the other Magnificent Seven stocks,” said Matthew Maley, chief market strategist at Miller Tabac Co. “We have a very different background to Tesla and the rest of the Mag Seven — demand for Tesla products is declining, but it's exploding more for companies that are more connected to AI.

A dimming outlook

At the heart of this divide is a bleak outlook for electric vehicles. Demand is expected to slow in 2024, and possibly beyond, raising doubts about Tesla's ability to grow at the rapid pace investors are used to seeing.

About a third of analysts who cover Tesla recommend buying the stock, compared to an average of 85% for the rest of the Magnificent Seven. Moreover, analysts have roughly halved their average 2024 profit forecast for Tesla over the past 12 months, while others' revenue estimates have risen or remained flat.

“The challenge is that Tesla has become a one-product company — the Model Y, not a meaningful contribution to revenue and earnings with every other initiative or yet some science project,” said Cowen's Jeffrey Osborne. “Being a one-product company and mismanaging the timing of production cycles can lead to periods of pain, which is where we are now until the next-generation vehicle arrives next year or 2026.”

The double whammy of slowing EV demand and shaky AI credentials makes Tesla's sky high valuation hard to swallow for investors. Even with this year's sales, the stock trades at 60 times forward earnings. The second most expensive Magnificent Seven stock is Nvidia Corp. At around 36 times forward earnings, the rest trade between the low twenties and low thirties.

“Over the year, others at Mag Seven have been able to show how AI can drive real, profitable business growth,” Brian Johnson, a former auto analyst with Barclays and founder of Metonic Advisors, said in an interview. “Tesla investors just got some random Optimus videos, Musk's admission Dojo is a moon shot and another full-self-driving release, which may be an improvement but still a long way from robotaxi capability.”

In contrast, the rest of the mega-cap technology companies boast diverse and stable revenue streams that in most cases grow slightly slower, but also less volatile shares.

Future bet

Tesla believers say the company has earned a seat in the exclusive, elite club of being the only profitable, large-scale, pure-play EV maker. Experts widely believe that electric cars will dominate the auto industry, although demand is expected to decline in the near term. For anyone willing to bet on that future, Tesla is still the real game in town, which also explains its hefty market valuation and the all-or-nothing nature of the company's stock price — up 50% in 2021 and down 65%. 2022, and then jumps to 102% in 2023.

“I can understand traders being short-term negative on the stock,” said Brian Mulberry, client portfolio manager at Zacks Investment Management. “But long-term investors are more positive because other EV manufacturers cannot profitably produce the volume of units that Tesla does in the pure EV space.”

Bullish Tesla investors also expect the company's revenue growth after 2024 to outpace all the Magnificent Seven other than Nvidia Corp. Its revenues are also expected to bounce back in 2025 after falling this year, and are expected to grow faster. than other mega caps.

However, Tesla's heavy exposure to the cyclical automotive industry makes it stand out among the Fantastic Seven, especially in light of the uncertainty surrounding self-driving car technology. Although Musk has often stated that a future where so-called robotaxis are commonplace is not far off, many industry experts believe that this is still years, if not decades, away.

“Tesla is one of the riskier companies we cover because the underlying business is cyclical and the autonomous part is binary,” said Ivana Delewska, chief investment officer at Spear Invest. “They either crack the code on autonomy or it drags on for years before anyone gets a solution.”

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