The 'dean Of Valuation' Says Pain Is Headed For More Ai Companies In The Coming Months

• Aswath Damodaran, the "Dean of Valuation," sees pain coming for some AI stocks.
• The corporate finance expert said he believed the market had already passed "peak AI."
• He sees a correction unfolding in the next few months, which could hit smaller firms in the space the hardest.

The "Dean of Valuation" has another warning for AI investors.

Aswath Damodaran, a New York University professor who specializes in corporate finance, sees a troubling path ahead for one group of stocks that are part of broader AI trade. Speaking to CNBC on Monday, he issued a warning for the shares of smaller artificial intelligence companies, which he thinks could be hit the hardest in a correction in the broader AI trade.

Damodaran said he believed the market likely hit "peak AI" several months ago, explaining why some AI stocks have sold off sharply in recent weeks as investors rotate into other areas of the market.

Investors spent much of July rushing for the exits in memory and chip stocks. The Roundhill Memory ETF (DRAM) is down 36% from its recent peak, while the iShares Semiconductor ETF (SOXX) has fallen 22% from its recent high.

But the true danger lies ahead for smaller players in the AI trade, Damodaran said, as those companies lack the financial buffers needed to weather the coming decline in the AI trade.

"My bet is that we hit peak AI a few months ago, and that there will be more consolidation and correction in the months ahead," Damodaran said. "I think when you see a shakeout in the AI space, it's not so much the Mag Seven we should be watching, but the lesser companies."

AI firms have started to rebound as investors pile back into beaten-down tech stocks. The Dow and S&P 500 hit fresh records this week, thanks largely to a risk-on move as investors rotate back into tech.

The move higher is largely due to FOMO rather than fundamentals, Damodaran said.

"People say, 'Hey, now I have a chance to have an AI company in the space.' I wouldn't put it deeper than that," he said.

Damodaran called hyperscalers — the cluster of tech giants that spend the most on AI — the "most protected" companies in the space, due to abundant cash flow and the ability to carry large amounts of debt. Still, he raised concerns that large AI companies were becoming more indebted while seeing a low return on AI capex.

"Unless they start delivering earnings commensurate with the tens of billions of invested in capex, you're going to see a very different kind of company emerging from the mix," he said. "Nothing wrong with that, but I think investors in these companies are not used to what the risks are of investing in a more capital-intensive company."

Damodaran has regularly warned that some companies in the AI space could be overvalued. In 2023, he warned that Nvidia stock was extremely stretched from a valuation perspective and estimated that the chipmaker's fair value was around half of its share price at the time.