It was bound to happen. It was never a question of whether Nvidia (NASDAQ: NVDA) would be knocked off its perch, but when it would happen.

The market, it would seem, had been in a state of denial. It had been mesmerised by the halo effect surrounding the US chip designer and chose to ignore the fact that Nvidia shares were overvalued and that its eternal dominance of the artificial-intelligence (AI) space was overblown.

Sure, Nvidia is a great company. But concerns that prospects for the chip designer were grossly overhyped were always lurking at the back of some investors’ minds.

After all, nobody ever wants to tell the king the truth about his new clothes, especially when they are milking the stock for as much as they can get. Pride before the fall springs to mind.

But it is important to be realistic, especially about valuations, when we invest.

Be wary of perfection

That is the first lesson from DeepSeek. The Chinese software company has shown that it does not need the latest and most expensive Nvidia chips when cheaper options can do the same job for a fraction of the cost.

The point is, when a company’s shares are valued at more than 50 times earnings and above 50 per cent of free cash flow margins, then it is almost certainly priced for perfection – and only perfection would do.

Those valuations would imply that the business is almost unassailable, which is certainly never true, particularly in technology. There is always someone somewhere that can do the same thing cheaper, if not better.

That is the second lesson from DeepSeek that has gatecrashed the Nvidia party. We should always try to invest within our circle of competence.

In fact, news about the work that DeepSeek had been doing on AI was already widely available. But it probably meant something only to the initiated. For the rest of us, it meant little – or even nothing.

However, we should still try to learn as much as we can about the businesses we invest in and pay attention to what is going on.

Curiously, when shares in Nvidia dropped, many shares elsewhere rose. It was as though money was sucked out of the chip designer and reinvested into other counters that had been largely ignored.

That is the third lesson from DeepSeek, namely, we should try to build a diversified portfolio of investments.

Investing is all about putting our money to work to generate a profit. The level of returns that we can achieve will depend largely on the amount of risk that we are prepared to take.

Managing risk

Risk is simply the probability of the outcome of an event that differs from what we would expect. So, if investing in government gilts carries no risk because the outcome is almost guaranteed, then putting our money to work in the stock market will, by inference, carry a higher risk.

This is because, over the shorter term, there are no guarantees that our investment would outperform those fixed-interest instruments.

Over the longer term, however, a stock market investment should be able to outperform money market investments.

Risk can manifest itself in several ways. In principle, there are two main types of risk. These are systematic and specific risks.

On one hand, a portfolio heavily weighted towards technology issues will, in the short term, be subjected to enormous market risk factors – as we have seen. This due to the inherent volatility associated with these stocks.

On the other hand, a portfolio weighted in favour of defensive stocks will grow more slowly and could be less volatile.

Somewhere between the two extremes is the balanced portfolio. This requires allocating our assets across a wide number of stocks.

By ensuring that the portfolio is exposed to shares with different rates of growth, different industry types and geographies, it is possible for large gains in some share to be offset by possible losses in others.

However, it is not possible to insure against systemic risks because such risks can affect an entire market. We just have to live with it.

But there is something we can do about specific risks that might affect certain stocks or certain industries. And the best way to do that is through diversification.

It is not the most exciting topic in investing, but investing is never about excitement. It is about being real about the risks that we are ready to assume.

The lessons from DeepSeek’s intrusion into the AI party is as relevant to the tech sector as it is to, say, the misguided strategy by the current US administration to impose tariffs on imports.

There will be winners and losers from the clumsy tax plan. But a well-diversified portfolio of assets should be able to ride out the ill-conceived protectionist strategy before it is eventually rolled back – just as it was in 1930.

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Disclosure: David Kuo does not own shares in any of the companies mentioned.

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