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3 Top AI Stocks to Buy Beyond the "Magnificent Seven"

Motley Fool - Sun Nov 19, 2023

The so-called "Magnificent Seven" stocks are terrific companies, one and all. They set the pace of the ongoing artificial intelligence (AI) revolution. You can hardly go through a normal day in America without interacting with at least five of the seven component companies. And the group I know by the more memorable acronym of "MAMA ANT" has made investors very happy with tremendous share price increases in 2023.

But therein lies the problem. The Magnificent Seven stocks are crushing the broader market to smithereens, with year-to-date gains ranging from 45% to 235% as of Nov. 15. And they are already some of the largest names on the stock market -- their market caps only go up from Tesla 's $772 billion.

Hand picking up gold nuggets from the dirt.

Image source: Getty Images.

What if you want to invest in top-notch AI stocks without betting on a Magnificent Seven giant to continue rising from an already sky-high plateau? Luckily, there are plenty of promising AI investment with milder price trends and smaller market footprints.

So let's take a closer look at three of these tempting AI buys. Fun fact: as a tech specialist with a penchant for affordable high-growth stocks, I own two of the three stocks below. I also keep reaching for the "buy" button to finish the set -- but then I talk about the third stock again, which means I can't trade it for the next few days. And here I go again, recommending a great stock to you, dear reader, thus delaying that coveted buy once more. The things I do for y'all, right?

Anyway, I'll get around to completing my AI collection eventually. Now, let's get on with the show.

SoundHound AI is more experienced than you think

Starting with the one stock I don't own yet, you should know what SoundHound AI(NASDAQ: SOUN) is all about.

These days, SoundHound mainly offers AI-powered voice recognition services to automakers, fast-food restaurant chains, and other businesses. Its tools help the car react to your voice commands at the wheel, take drive-through orders with flawless accuracy, and manage automated phone system menus. The experience includes responses generated by a generative AI system, similar to an audio-focused spin on the ChatGPT chatbot service.

The customer list is quite impressive, even beyond the obvious target market of car brands. For example, Snap(NYSE: SNAP) provides auto captioning of Snapchatter videos with SoundHound's AI software and Netflix(NASDAQ: NFLX) includes the company's voice interface in its reference design for media-streaming set-top boxes.

SoundHound entered the public stock market in April 2022, merging with a special purpose acquisition company (SPAC). Thanks to the recent market entry plus the focus on a suddenly red-hot AI market, many investors see SoundHound as a puppy in the business world.

But the company has been around since 2005, mainly identifying songs on your smartphone in a service similar to Shazam, which Apple(NASDAQ: AAPL) acquired for $400 million in 2018. That wasn't a tremendously profitable business, but it helped SoundHound refine its machine learning tools for audio analysis and build the foundation of today's more business-friendly services.

In all fairness, SoundHound still behaves like a freshly minted start-up in many ways. Its revenue streams are small and lumpy, largely relying on a handful of larger contracts to drive the business forward. The SPAC-based initial public offering (IPO) put $118 million in the company's coffers, allowing SoundHound to chase new deals from well-funded position. Before that, those coffers held just $18,000 and a family of moths.

"Becoming a public company opens the door for expanded opportunities and to work with customers and partners across industries to continue our mission to voice-enable the world around us," said CEO Keyvan Mohajer when the SPAC merger closed.

That quest continues. Sales rose to $13.3 million in last week's third-quarter report while net losses fell by 40%. The backlog of unfilled order bookings stands at $342 million. In other words, SoundHound shows every sign of a healthy and growing business.

However, investors haven't really noticed. The stock has only gained 26% year-to-date and has lost a hair-raising 85% since the SPAC merger. We potential SoundHound investors still on the sidelines should celebrate these low prices, since we can pick up shares of a brilliant AI expert at a penny-pinching price.

When Wall Street gives you lemons, buy some Lemonade

The AI-driven insurance technologist called Lemonade(NYSE: LMND) stands out as a refreshing choice in the current market landscape. I started buying my shares years ago, on the premise that Lemonade's AI tools can disrupt the massive insurance market while removing human error from the business operation. The company hasn't delivered on that promise yet, but it is taking essential steps forward and the soaring revenue line doesn't lie -- Lemonade is onto something special.

LMND Revenue (TTM) Chart

LMND Revenue (TTM) data by YCharts

With an 18.4% uptick year to date, aligning closely with the S&P 500's performance, Lemonade has started a bit of a comeback after roughly three years of nearly constant price drops. I'm encouraged to see investors finally giving Lemonade a break, even if that means paying a bit more for those citrus-flavored shares. Still, the stock is trading more than 90% below the all-time highs near the start of 2021.

However, the real flavor of this opportunity lies in its explosive sales growth. Lemonade's trailing top-line sales have quadrupled in three years, from $97.5 million in the fall of 2021 to $402.7 million in the recently filed third-quarter 2023 report. At the same time, the company's gross loss ratio isstabilizing at a lower and more comfortable level as the AI systems continue to learn the finer points of assessing insurance claims and potential clients.

Despite these impressive figures, Lemonade's valuation remains modest, trading at just 3.4 times sales. This mismatch between the company's rapid growth and its relatively low valuation could signal a ripe opportunity for investors seeking to add a tangy twist to their portfolio with a potentially undervalued growth stock.

NXP is an unsung AI hero

I'll keep the third pick short and sweet. Shares of Dutch-American chip maker NXP Semiconductors(NASDAQ: NXPI) have gained a fairly modest 27% in 2023. They currently trade at the affordable valuation ratios of 18.6 times earnings and 3.9 times sales.

The company is a leader in crucial fields such as controller chips for industrial machinery, communications and identification processors for mobile devices and payment systems, and power controllers for tough environments like electric vehicle batteries.

If that doesn't sound like an AI investment, you should read the last paragraph again. Automated industrial machines are a prime market for AI solutions, and NXP provides chips for exactly that purpose. Smartphones and other mobile devices are adding heaps of AI-based features right about now, with NXP's semiconductors offering advanced security and reliability for the whole process. And the massive batteries in electric cars are constantly readjusting their power flows as cells heat up, wear out, and otherwise perform unevenly -- a perfect place to apply predictive machine learning to the omnipresent power delivery problem.

So NXP may not be a classic AI stock, at least in the most direct sense of that categorization. But the company plays into and supports AI systems everywhere, and the importance of these analytical powers will only grow in the coming years. And the stock is a mighty fine investment idea with or without the AI connection. You don't find a lot of world-class chip makers trading at NXP's mellow levels these days, as most of the usual suspects were swept up by the soaring AI craze.

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Anders Bylund has positions in Lemonade, NXP Semiconductors, and Netflix. The Motley Fool has positions in and recommends Apple, Lemonade, Netflix, and Tesla. The Motley Fool recommends NXP Semiconductors. The Motley Fool has a disclosure policy.

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