Key Points
The top “picks and shovels” plays are still reliable long-term investments.
Avoid smaller software companies that can’t keep up with the bigger players.
The rapid expansion of the artificial intelligence (AI) market propelled many tech stocks to record highs over the past few years. But this year, many of those high-flying AI stocks pulled back as inflation, geopolitical conflicts, and other macro headwinds drove investors back toward more conservative investments. However, that pullback is also creating some compelling buying opportunities for long-term investors who can tune out the near-term noise.
If you're interested in shopping for AI stocks in this turbulent market, you should be aware that the correction is separating the winners from the losers in this growing sector. The winners are the companies that still sell the best "picks and shovels" for the AI gold rush, while the losers are mainly smaller software companies that can't keep up with the larger AI players.
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An android's head explodes.
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Buy the winners: Nvidia, Broadcom, and Lumentum
Companies like Nvidia (NASDAQ: NVDA), Broadcom (NASDAQ: AVGO), and Lumentum (NASDAQ: LITE) remain compelling AI stocks to buy because they provide the essential hardware and equipment for processing AI tasks in data centers.
Nvidia's data center GPUs process a broad range of parallel tasks, enabling them to train AI algorithms more efficiently than stand-alone CPUs, which are optimized for sequential tasks. Most of the world's leading AI companies use Nvidia's GPUs to train their large language models (LLMs), and the chipmaker locks in its clients with its proprietary software and services.
Broadcom produces custom AI accelerators using application-specific integrated circuits (ASICs), which are better suited for hyperscalers looking to develop their own optimized chips for inference -- the process of running trained models with software applications. Broadcom also sells optical and networking chips for data centers, and it has expanded its infrastructure software business through several major acquisitions over the past decade.
As more data centers installed those chips, they hit a bottleneck because their older, copper-based connections couldn't handle the high-speed traffic. Lumentum breaks that bottleneck with its optical networking equipment -- including lasers, optical receivers, photonic chips, and optical circuit switches -- which provide clearer, faster, and more power-efficient transmissions. That's why its sales have skyrocketed over the past year.
Avoid the losers: C3.ai and BigBear.ai
Tech giants like Microsoft, Amazon, and Alphabet's Google plan to invest hundreds of billions of dollars in their AI infrastructure over the next few years. That spending spree is weighing down their stocks, but the real losers will be smaller AI software companies like C3.ai (NYSE: AI) and BigBear.ai (NYSE: BBAI), which those bigger challengers could marginalize.
C3.ai and BigBear.ai both develop software modules that can be plugged into an organization's existing infrastructure to accelerate and automate certain tasks. C3.ai caters to enterprise clients, while BigBear.ai generates most of its revenue from niche government contracts.
Both companies are experiencing slower growth, which directly coincides with the rise of generative AI services and big tech's growing interest in AI. Modern generative AI platforms, including OpenAI and Anthropic, already deliver ready-to-use agentic AI and LLMs that can perform tasks faster and more cost-effectively than C3.ai and BigBear.ai. Big cloud infrastructure platforms -- like Amazon Web Services (AWS), Microsoft Azure, and Google Cloud -- are also integrating more scalable AI services into their ecosystems.
But investors should be cautious in this wobbly market
The rising tide in the AI market lifted a lot of boats over the past few years, but the incoming storm will sink a lot of them. To separate the winners from the losers in this evolving market, investors should focus on where the money is flowing, which companies are spending it, and which will be left behind as the AI software market gets commoditized.
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Leo Sun has positions in Amazon. The Motley Fool has positions in and recommends Alphabet, Amazon, Lumentum, Microsoft, and Nvidia. The Motley Fool recommends Broadcom and C3.ai. The Motley Fool has a disclosure policy.