Better Artificial Intelligence Stock: Palantir Technologies vs. IBM

It's been an excellent year for stock market investors. The S&P 500 index has delivered an excellent 26% return thus far in 2024, driven by resilient macroeconomic conditions, record corporate earnings, and growing optimism about artificial intelligence's (AI) transformative potential across the economy.

Palantir Technologies (NYSE: PLTR) and International Business Machines (NYSE: IBM) are technology sector leaders capturing strong demand for innovative AI applications, propelling the two stocks to an all-time high. Can the rally keep going in 2025?

Let's discuss whether Palantir or IBM is the better buy right now.

Image source: Getty Images.

The case for Palantir

Palantir Technologies has quickly emerged as one of the hottest growth stocks in the market, up 288% year to date at the time of writing. The company has found success by leveraging AI with big data analytics for commercial applications beyond its traditional government sector focus.

Palantir's Artificial Intelligence Platform (AIP) ties data management tools with predictive and actionable insight for organizations across numerous industries. The ability to automate tasks and create custom workflows that boost productivity has proven highly popular.

In the third quarter (for the period ended Sept. 30), Palantir's total revenue climbed by 30% year over year, with growth from its U.S. commercial segment increasing by an even stronger 54% annual rate. That expansion has translated into sharply higher earnings as net income more than doubled from last year. Company management is projecting confidence for the trends to continue into 2025 and beyond.

Ultimately, the best reason to buy Palantir stock is its exceptional growth outlook, which is unrivaled at its scale in AI enterprise applications. Investors who believe the company is still in the early stages of a long-term global opportunity could consider adding the stock to a diversified portfolio.

The case for IBM

If Palantir is the breakout tech star of 2024, IBM has been the steady winner, with shares gaining 37% year to date. The attraction of IBM today as an investment is its diversified tech profile. The company has shifted its focus from infrastructure hardware to AI-powered hybrid cloud solutions across multiple software offerings. In applications, IBM's Watsonx.ai platform has been a growth driver, working for large organizations to implement generative AI and machine learning into business processes.

The good news is that during the third quarter (for the period ended Sept. 30), IBM's software segment revenue increased by 10% from last year, with management noting that its generative AI book of business grew by $1 billion sequentially from the second quarter. For context, that's more than the $726 million in total revenue Palantir generated during the same time frame.

However, given IBM's much larger size, it takes more to move the entire business. The company's overall third-quarter revenue grew just 1% from the prior year, dragged lower by ongoing weakness in the company's legacy infrastructure segment. Adjusted earnings per share (EPS) increased by a modest 5% from Q3 2023.

So, while IBM doesn't have the explosive momentum as Palantir, its main advantage for investors is a compelling valuation. Based on analyst estimates, IBM shares are trading at 22 times its full-year consensus EPS as a forward price-to-earnings (P/E) ratio, a deep discount to Palantir's eye-watering forward P/E of 176.

IBM PE Ratio (Forward) data by YCharts

In this case, the market has bid up Palantir shares to an extreme earnings premium by pricing forward many of the positives in its outlook. That dynamic doesn't necessarily mean the stock needs to sell off, but it does add a layer of risk for investors to balance against high expectations where things can go wrong. In contrast, IBM generates steady growth through a more mature global footprint.

Investors looking for a bargain among artificial intelligence stocks should choose IBM as it trades at more modest valuation multiples and offers a regular quarterly dividend yielding 3%.

Decision time: I'm bullish on IBM

As strong as the trends from Palantir Technologies have been, the stock is just too expensive for me to buy with conviction following its massive rally. IBM is likely the better stock for most investors to gain exposure to themes in operational AI and enterprise machine learning applications with a combination of good value and high-quality fundamentals. In my view, shares of IBM within a diversified portfolio should continue to reward shareholders.

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Dan Victor has no position in any of the stocks mentioned. The Motley Fool has positions in and recommends Palantir Technologies. The Motley Fool recommends International Business Machines. The Motley Fool has a disclosure policy.