Tesla (NASDAQ: TSLA) shares were heading for an underwhelming 2024 until the final third of the year. In fact, just three months ago the Tesla share price was roughly where it was four years prior.

Then it accelerated like one of the company’s electric vehicles (EVs), rising 81% to reach $394. This means a £20,000 investment made three months ago would now be worth approximately £36,200!

And with a market cap of $1.24trn, Tesla is again worth more than Toyota, BYD, NIO, Hyundai, Stellantis, Ford, and General Motors combined.

The Trump card

Tesla stock enjoyed a big boost after Donald Trump’s election victory in November. The assumption is that the incoming administration will cut corporate taxes, regulations, and prevent cheap Chinese-made EVs from flooding the US.

All of this could benefit Tesla, as could CEO Elon Musk’s close relationship with Trump. Specifically, red tape might be cut around self-driving vehicles, which could lead to an accelerated rollout of the company’s robotaxis (or Cybercabs, as Tesla calls them).

Setting a high bar

We won’t get Q4 results until later this month. But in Q3, Musk said he’s confident the Cybercab will not just start production in 2026, but reach “substantial” volume production. The aim is to ramp up to 2m units per year.

When it was finally unveiled in October, Tesla’s Cybercab had no steering wheel or brake and accelerator pedals. The company plans a ride-hailing network, which would presumably be a high-margin business given that there would be no human drivers that need paying.

Meanwhile, Musk is predicting 20%-30% vehicle growth this year. That’s a high bar, considering interest rates are still high and the firm’s growth has stalled. Last year, it delivered 1.79m cars, a 1% drop from 2023.

Where next?

The current period is a bit of a strange one for Tesla. The once-hot EV market has hit a major speedbump, while the company’s next-generation products (robotaxis, full self-driving software, and humanoid robots) aren’t ready yet. Consequently, Musk has said Tesla is “between two major growth waves“.

Given this, it’s somewhat surprising that the stock’s price-to-earnings (P/E) ratio is above 100. This extreme valuation has been reached despite the likelihood that Trump will scrap the $7,500 tax credit for new EV purchases.

Admittedly, this cancellation might benefit Tesla in the short term as US consumers rush to take advantage of the credit before it disappears. But it surely can’t be positive for overall sales after that.

Consequently, I see 2025 as a potentially more challenging year for Tesla and its share price.

Staying on the sidelines

I’ve owned Tesla stock a couple of times over the past few years. In hindsight, I would have done splendidly if I’d just held it through thick and thin.

However, that’s easier said than done. It’s incredibly volatile and can often look ridiculously overvalued.

Meanwhile, Musk continues his quest to eliminate what he calls the “woke mind virus“, which he sees as a threat to Western civilisation. Politics aside, I fear the forthright manner in which he’s pursuing this could damage the Tesla brand and alienate many potential future EV customers.

I have great admiration for Tesla as a company. But due to the sky-high valuation, I have no plans to reinvest right now.

Millions of us in the UK invest through a Stocks and Shares ISA. The main advantage to this is that we don’t pay tax when we sell shares for a profit and we don’t pay tax on any dividends we receive.

This means the Stocks and Shares ISA’s an excellent vehicle for creating a passive income stream, possibly one to complement a pension or retirement fund.

Please note that tax treatment depends on the individual circumstances of each client and may be subject to change in future. The content in this article is provided for information purposes only. It is not intended to be, neither does it constitute, any form of tax advice. Readers are responsible for carrying out their own due diligence and for obtaining professional advice before making any investment decisions.

The passive income formula

At its core, the passive income formula focuses on maximising tax-free returns from dividends and capital growth. With an annual ISA contribution allowance of £20,000, investing in dividend-paying stocks or funds can generate a steady income stream.

For example, a portfolio with an average dividend yield of 4% could produce £800 annually — completely tax-free. Reinvesting these dividends or investing in growth-oriented companies accelerates gains through compounding, a key driver of long-term wealth.

Capital growth adds another dimension. Diversified investments in stocks or funds have historically delivered average annual returns of 6-8%, depending on market conditions. This combination of regular dividends and appreciation makes the Stocks and Shares ISA an effective tool for building a passive income stream, particularly over the long term.

Moreover, discipline, diversification, and regular reviews ensure the formula works to its fullest potential.

Making the figures add up

In order to earn £2,000 a month in dividends, an investor would need £600,000 invested in stocks averaging a 4% dividend yield. However, a higher dividend yield would allow an investor to achieve the same passive income with a smaller portfolio — for example, a 5% yield at £500,000 would generate £25,000 annually.

Of course, many Britons may say “well, I don’t have £500,000”. But the answer lies in compounding and starting early. If an investor were to start with £5,000 today, and contribute £500 a month for 22 years, achieving 10% annualised growth, they’d have more than £500,000 at the end of the period.

However, to achieve that 10% growth each year, an investor must make wise investment decisions. Poor decisions can result in them losing money.

Dividends can rise

There’s another angle too, and perhaps one I sometimes neglect. Many are keen to invest in Dividend Aristocrats, stocks with a track record for continually increasing their dividend yield.

A well-known UK Dividend Aristocrat is Diageo (LSE:DGE). Diageo, a global leader in alcoholic beverages, has a strong track record of consistently increasing its dividends. The company owns well-known brands such as Johnnie Walker, Guinness, and Tanqueray, which contribute to its steady revenue and profit growth.

While Diageo’s current dividend yield stands at 3.3%, its track record of consistent dividend growth makes it a compelling long-term investment. Over the past decade, the company’s steadily increased payouts, reflecting its resilience and commitment to shareholders.

This growth can significantly enhance returns over time, particularly when dividends are reinvested to compound gains. For example, a modest yield today could effectively double in 10 years if Diageo maintains its historical growth rate. As such, the effective yield for an investment today would be 6.5% in a decade’s time.

However, it’s worth bearing in mind that changes in alcohol consumption, especially among younger generations, presents a risk to Diageo’s long-term prospects. The company has moved towards prioritising more premium brands in recent years, reflecting consumer demand shifts.

It’s not a stock I hold, but I think it’s worth considering.

The performance of Nvidia (NASDAQ: NVDA) over the past five years has been mind-boggling. During that period, Nvidia stock has soared 2,081%.

But the chipmaker now has a market capitalisation of $3.3trn and trades on a price-to-earnings (P/E) ratio of 54.

While that is far from unheard of – Amazon is on 47, for example – it is far higher than some investors such as myself would feel comfortable paying.

Back to the future

Step back five years, however.

Amazon had then long been a darling growth stock and looked fully priced. Since then, however, its stock has grown 135%.

That is far less dizzying than Nvidia during that period. Longer term, though, Amazon had already delivered the sort of phenomenal growth we have seen from Nvidia in the past five years – but it still managed to more than double from the start of 2020 until now.

So, might the same turn out to be true for Nvidia stock?  

Could it be that, even if recent amazing gains are not repeated on the same scale, it nonetheless moves up even further in the next few years? Or has it peaked already?

The case against buying Nvidia today

To begin with, consider the bearish case about the chipmaker. I already said above that its current P/E ratio puts me off investing, as it looks expensive to me.

But earnings at the company have ballooned over the past several years. If they fell back to anywhere close to what they were just a few years back, the prospective P/E ratio would be in the hundreds, not at 54.

Might that happen?

There has been a rush by companies to buy up chips as they attempt to gain first mover advantage in their respective industries when it comes to AI. After the initial round of installations, though, demand for AI chips could fall back in years to come.

Meanwhile, competitive pressure could reduce the pricing power enjoyed by the current industry leaders such as Nvidia and Taiwan Semiconductor Manufacturing.

Here’s how things could get better from here

On the other side of the coin, though, what if AI really is a transformative trend that is here to stay?

Just as Amazon was once seen as wildly overvalued for an online retailer, Nvidia could yet exploit its competitive advantages in chip design and manufacture to get even stronger in a fast-growing part of the economy then use that strength to expand its business footprint further.

In November, the company’s chief executive proclaimed, “the age of AI is in full steam, propelling a global shift to NVIDIA computing”.

While he may want to ask ChatGPT “how can I sound more modest?”, the underlying point could turn out to be accurate. The recent surge in demand for Nvidia chips may not be a one-off blip, but rather an indication of future sales potential for the industry leader.

I’m in no rush to buy

I think either of the above scenarios could yet play out.

So, while I think the company’s technology, customer base, and ambition could yet mean that its stock has more potential ahead, the current valuation does not sit comfortably with me, given the risks.

At the right valuation, I would buy Nvidia stock in a heartbeat. For now, though, I will sit on my hands.