Last week, Goldman Sachs started new analytical coverage of Advanced Micro Devices, Inc. (NASDAQ:AMD) at a “sell,” suggesting the stock had rallied too far, too fast. Judging from the 6% tumble AMD stock took that day, the market didn’t see it coming.
See, as far as traders were concerned, the 430% gain that Advanced Micro dished out over the prior 12 months implies that traders felt the development of the Ryzen computer processor and the Vega graphics processor were going to put the company back on a growth track. Goldman Sachs’ thoughts called their whole logic into question.
Does Goldman analyst Toshiya Hari have a point? He does. More than that, though, Hari serves up an important reminder that a stock and the underlying company aren’t always necessarily one and the same.
Yes, AMD Stock Is Overvalued
Hari specifically feels Advanced Micro Devices is overvalued to the tune of 236% based on a plausible projection of sales over the course of the coming five years. He finds the stock’s valuation is “difficult to justify” simply because it’s “priced to perfection,” and then some.
Once rivals Intel Corporation (NASDAQ:INTC) and Nvidia Corporation (NASDAQ:NVDA) turn it into a price war, the ugly reality of this overvalued name could take a real toll.
That’s why Hari believes AMD stock worth just $11 per share. That’s more than 18% less than last week’s closing price. And, with a forward-looking (2018) price-to-earnings ratio of 45.1, his stance sounds less and less crazy.
It all begs the question: How in the world did AMD shares get in this condition in the first place?
The simplest answer is: human nature.
But Advanced Micro Devices Is on Target
Yes, you own a stock not for where the company is, but where the company is going to be six to 24 months down the road. It’s not always easy to make a reasonable long-term guesstimate, but most traders do it well enough most of the time.
There are times, however, when common sense seems to get thrown out the window and investors decide today’s a good day to buy simply because there’s no bad news today. There’s been no (relative) bad news from or about AMD stock for months now — because the company has been in regroup mode — and traders remained in buy mode without ever stopping to realize they’ve been in perpetual buy mode since April of last year. Hari only pointed that out.
It’s not the first time investors have needed to be reminded a stock can’t rise forever on a company’s “promising future.” Sooner or later, the future has to arrive and justify a frothy valuation. That future for Advanced Micro Devices is still a little too far off to keep the stock propped up at these levels.
That being said, the stock/company relationship is still a two-way street. A falling stock doesn’t necessarily mean the underlying company is doomed. It’s simply a matter of aligning a stock’s price and a company’s potential. Several observers still feel good about AMD (the company).
Barron’s Tiernan Ray is one of those optimists. Ray recently wrote:
“My colleague Teresa Rivas has a nice summary of the Goldman argument, and Barron’s positive view in contrast. The gist is that Hari is right about all the risks, which have always been there. But the stock is not priced expensively, as Hari implies, if one believes the company can take significant market share back from Intel (INTC) and possibly Nvidia (NVDA).
In hours of conversation with CEO Lisa Su, CTO Mark Papermaster, and other executives, I did get a sense of a company with a more sober sense of purpose than in past days. I think the seriousness with which management recognizes both the opportunities and the risks is a meaningful factor. The company is aware that in past AMD fumbled leads it obtained. It is committed as an organization not to do so again.”
All fair points.
But, even Ray’s commentary has a big “if” in it: If Advanced Micro Devices can steal market share back from INTC and NVDA. The consensus is, Nvidia and Intel are ready to go to war.
Bottom Line
I’ll repeat something I said back on March 10:
“Don’t confuse any future weakness from AMD as evidence of what’s in store, results-wise, from the company. Advanced Micro Devices is very well positioned for a great 2017. The trick is just being patient enough to wait for a truly palatable entry price. That could still be well below the recent low.
In other words, you don’t want to step into AMD stock for the long haul until it’s almost uncomfortable to do so. We aren’t there yet.”
We still aren’t there yet. I’m not even sure a retreat to Hari’s target of $11 would get us all the way there. It’s still a compelling company though.
As of this writing, James Brumley did not hold a position in any of the aforementioned securities.
