Billionaires Sell Tesla Stock and Buy Another AI Stock Up 327% in 3 Years

In the first quarter, two successful hedge funds led by Wall Street billionaires sold Tesla (NASDAQ: TSLA) and bought Cloudflare (NYSE: NET), as detailed below:

• David Shaw's hedge fund D.E. Shaw & Co. sold 1.3 million shares of Tesla, cutting its stake 43%. Tesla had been one of the five largest positions in the portfolio but no longer ranks among the top 20. The hedge fund also started a new position by purchasing 5,400 shares of Cloudflare.
• Israel Englander's Millennium Management sold 855,100 shares of Tesla, cutting its stake 43%. Tesla had been one of the 10 largest positions in the portfolio, excluding options, but it no longer ranks in the top 20. The hedge fund also purchased 218,500 shares of Cloudflare, increasing its stake 186%.

Investors should know a few things about those trades. First, D.E. Shaw and Millennium are two of the three most profitable hedge funds of all time in terms of net gains, according to LCH Investments. That makes them good sources of inspiration for individual investors.

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Second, Tesla stock returned just 31% in the last three years, underperforming the S&P 500 by 23 percentage points. But Cloudflare stock rocketed 327% during that period, beating the benchmark index by 265 percentage points. Read on to learn more.

Image source: Getty Images.

Tesla: The stock billionaire-led hedge funds were selling in the first quarter

Tesla is no longer the market leader in battery electric vehicles (BEVs). In fact, the company doesn't even rank second anymore. Chinese automakers BYD and Geely Automobile have stolen the top spots as Tesla has struggled with demand. Its first-quarter revenue dropped 9% to $19.3 billion and non-GAAP net income fell 40% to $0.27 per diluted share as deliveries dropped 13%.

Management blamed factory updates that temporarily limited Model Y production for the drop in first-quarter deliveries, but the refresh is complete and the company is still losing market share. In May, Tesla sales fell 11% in the U.S., 28% in Europe, and 15% in China. An aging lineup of relatively expensive cars is the most probable cause, but CEO Elon Musk has likely damaged the brand by involving himself in politics.

There is some good news for shareholders. In June, Tesla started offering autonomous rides in Austin, Texas. Only about 20 robotaxis currently roam the streets, and rides are restricted to invitees. But Musk told CNBC he expects "hundreds of thousands" of robotaxis on the road by the end of 2026. The company will crowdsource vehicles by allowing owners to add (or subtract) their Teslas from the robotaxi pool.

Tesla has a ways to go before it catches Alphabet's Waymo, which already offers robotaxi services in five U.S. cities, but its strategy theoretically affords it an advantage. Specifically, Waymos are equipped with an array of cameras, lidar, and radar, but Teslas rely solely on cameras to navigate autonomously, which is less costly and more scalable. Indeed, Musk says Tesla could eventually capture "99% market share or something ridiculous."

However, while robotaxi services could be a massive opportunity in the long term, Tesla stock is priced for perfection today. Wall Street expects the company's adjusted earnings to increase at 14% annually through 2026.

That makes the current valuation of 145 times earnings look very expensive. I think investors with conviction in the autonomous driving story should keep holding the stock but must be prepared for volatility.

Cloudflare: The stock billionaire-led hedge funds were buying in the first quarter

Cloudflare is a connectivity cloud that offers application, network, and security services that speed up and protect critical business infrastructure. It has two key advantages: It operates the fastest cloud network on the planet and handles about 20% of all web traffic, which provides deep insight into performance issues and security threats across the internet.

The company is a leader in several markets. International Data Corp. (IDC) has ranked the company a leader in content delivery network software. Forrester Research has recognized its leadership web application firewalls. GigaOm has ranked Cloudflare as a leader in edge development platforms. More broadly, it's the fourth-most-popular cloud platform among professional developers, according to the 2024 Stack Overflow survey.

Cloudflare reported decent financial results in the first quarter. Customers increased 27% to 250,819, the fourth straight acceleration, and the average existing customer spent 11% more. Revenue increased 27% to $479 million, but non-GAAP net income was flat at $0.16 per diluted share as gross margin fell and the number of outstanding shares rose.

Cloudflare is well-positioned to benefit as demand for artificial intelligence (AI) infrastructure increases, particularly because its platform is very fast. The company is leaning into that opportunity with Workers AI, a service that lets clients build and deploy AI applications on its ultra-fast network. The number of Workers AI inference requests jumped 4,000% in the past year.

Wall Street estimates Cloudflare's earnings will increase at 21% annually through 2026. That makes the present valuation of 258 times earnings look very expensive. Admittedly, the company beat the consensus earnings estimate by an average of 13% during the last four quarters, but the stock would still be very expensive, even if that pattern continues.

As with Tesla, shareholders comfortable with volatility should continue holding the stock. But if the idea of a substantial decline makes you nervous, consider trimming your position.

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Suzanne Frey, an executive at Alphabet, is a member of The Motley Fool's board of directors. Trevor Jennewine has positions in Tesla. The Motley Fool has positions in and recommends Alphabet, Cloudflare, and Tesla. The Motley Fool recommends BYD Company. The Motley Fool has a disclosure policy.