One of the hottest, and yet cheapest and most hated, stocks on Wall Street is Micron Technology, Inc. (NASDAQ:MU).

The chip-maker has seen its stock rise by nearly five-fold over the past two years. And yet, MU stock trades at just 5-times forward earnings, and some analysts project earnings to fall by as much as 50% next year.

How can a stock be so hot and yet simultaneously so cheap and so hated?

That is only natural in the semiconductor space, where lumpy supply-demand dynamics trump just about everything. Supply-demand in the Micron’s core DRAM and NAND markets is notoriously cyclical, and as such, earnings are notoriously cyclical. Consequently, today’s big earnings are taken with a grain of salt.

But does this dirt-cheap valuation create an opportunity?

I think so. Right now, things are still good for Micron. And they project to be good for the next several years. As such, the currently depressed multiple seems overly baked with pessimistic assumptions that won’t likely come to fruition.

All in all, I think MU stock has multi-year upside from today’s $50+ base.

Here’s an in-depth look into why Micron stock is misunderstood and undervalued:

Understanding The Semiconductor Cycle

When it comes to Micron stock, and all other chip stocks, I like to make an analogy to music.

The analogy is quite simple. You want to buy semiconductor stocks when the music is playing loud and clear, and you want to sell semiconductor stocks when signs start to appear that the music is going to stop.

In the semiconductor world, the “music” is the supply-demand situation in the chip markets. When demand is high and supply is low, chip prices are high. When chip prices are high, chip-makers make a ton of profits. And when profits are high, chip stocks tend to soar.

That is when the music is playing.

But when demand is low and supply is high, chip prices are low. When chip prices are low, chip-makers don’t make any profits. And when there aren’t any profits, chip stocks tend to drop.

That is when the music stops playing.

The semiconductor market tends to swing violently between eras when the music is playing and eras when the music isn’t playing. When the supply-demand situation is favorable for chip-makers, it is only a matter of time before a supplier builds out capacity to gain market share. That capacity build-out leads to a supply ramp, which usually corresponds to a slight demand drop. Thus, supply starts to outstrip demand, chip prices fall, and chip stocks drop.

This happens all the time in the semiconductor world. Because of this cycle, chip stocks like MU never really get big valuations. Earnings growth isn’t linear. It’s cyclical. And chip stocks are priced appropriately. They usually feature single-digit earnings multiples.

As for MU stock, it trades at just 5-times forward earnings. But because of the semiconductor cycle, many bears think that the stock is overvalued despite the ostensibly cheap multiple because they are pricing in massive earnings degradation.

Why Micron Stock Has Soared On Favorable Up-Cycle

Right now, it doesn’t take a genius to see that Micron stock is soaring thanks to an exceptionally favorable supply-demand situation in the company’s core DRAM and NAND markets.

Those markets are benefiting from huge demand catalysts thanks to the mainstream emergence of artificial intelligence, automation and big data. Each of these next-gen technologies require DRAM and NAND chips to operate. Thus, demand for MU products has been quite robust, led mostly by a huge upswing in cloud data-center spend.

On the other end of the spectrum, these new high-end chips are quite complex. Because of that complexity, there aren’t many suppliers or chip-makers out there, and supply is greatly limited.

Thus, the current era in the DRAM and NAND markets is one defined by huge demand and small supply. That has caused chip prices to explode higher over the past several years. That has in turn led to dramatically higher profit margins for chip-makers.

For example, Micron wasn’t even profitable two years ago. Last year, the company netted north of $4 in earnings per share. This year, earnings are expected to jump to right around $11 per share.

This jump in profits has reasonably corresponded to a jump in MU stock. Two years ago, MU was a $10 stock. Last year, MU stock jumped to a $30 stock. This year, MU trades north of $50.

MU Stock’s Big Divergence Between Bulls & Bears

Despite the soaring stock price, Micron’s fundamentally cyclical operating backdrop has created huge divergence in bulls and bears as it relates to where Micron stock will go next.

There are a ton of bulls behind MU stock. RBC Capital just initiated coverage on MU stock at a “Buy” rating with an $80 price target, implying more than 45% upside. Stifel recently raised its price target on MU stock from $95 to $101, implying a whopping 80%-plus upside from current levels. Morgan Stanley also reiterated an Overweight rating on MU stock with a $65 price target, implying nearly 20% upside. Nomura is also out there with a $100 price target on MU stock.

The consensus bull thesis from these Wall Street banks is pretty consistent and simple. MU stock, on its face, is pretty cheap because investors are already pricing in “peak cycle” earnings. But this most likely isn’t “peak cycle” in the semiconductor market, and even if it is, demand is so robust and supply so limited that the next down-turn in the chip market will be a less volatile one than the market has previously experienced.

As such, Micron stock, trading a just 5-times forward earnings, is far too cheap and should trade significantly higher considering its staying earnings power over the next several years.

On the other end of the spectrum, MU stock also has its fair share of bears. Most notably, UBS put out a bearish note on MU stock in April with a “Sell” rating and a Street-low $35 price target, implying more than 35% downside.

What is the logic behind that price tag? DRAM and NAND prices are high — too high — and capacity build-out over the next several years will inevitably bring those prices down. Meanwhile, demand could simultaneously weaken thanks to the world nearing what some view as maxed out smartphone and tablet demand. Weakening demand plus strengthening supply leads to dramatically lower profit margins at MU.

Thus, even at just 5-times forward earnings, Micron stock is overvalued because earnings are set to tumble over the next several years.

Because of this huge divergence in the bull and bear thesis on Micron stock, there is an equally huge divergence in Wall Street estimates when it comes to the stock.

Pretty much everyone is on the same page as it relates to results this year because MU has already reported two quarters. But when it comes to next year, analysts have widely different views on how that will play out. The Street-low revenue estimate for next year is $26.7 billion, which would represent a 9% year-over-year decline from this year’s consensus revenue estimate. Meanwhile, the Street-high revenue estimate for next year is $36.7 billion, which would represent 25% year-over-year growth.

Things aren’t any closer on the earnings side. The Street-low EPS estimate for next year is $5.64, a near 50% decline from this year’s consensus. The Street-high EPS estimate for next year is $12.88, a near 20% rise from this year’s consensus.

In other words, Wall Street is all mixed up when it comes Micron stock. Some analysts think earnings will drop 50% next year. Others think earnings will rise 20%.

As a result of this huge divergence, Micron stock continues to trade a relatively conservative multiple because no one is too sure as to what will actually happen next year when it comes to NAND and DRAM prices, MU’s profits, and MU’s stock price.

What Has Happened Historically With MU Stock In These Cycles

Next year is a wild card. There really isn’t any other way of looking at it. As such, it is tough to say what Micron’s profits will be in 2019 or after.

But we can use history as a guide. After all, the semiconductor industry is notoriously cyclical, so this isn’t the first time that Micron has operated at or near “peak cycle”. What happened to profits after all those other peak cycles?

Over the past several years, Micron has been through two earnings cycles. Both times, earnings fell after peak cycle, but not by as much as you might think.

In 2010, Micron earnings peaked on a trailing twelve month basis around $1.85 per share. Two years later, earnings bottomed at around a loss of $1 per share. Thus, in 2 years, Micron’s peak-to-trough earnings decline was roughly $3 per share.

In early 2015, Micron earnings peaked again around $3.25 per share. Almost two years later, in late 2016, earnings bottomed at around a loss of $0.30 per share. Thus, in 2 years, Micron’s peak-to-trough earnings decline was roughly $3.50 per share.

We can draw two conclusions from this historical analysis.

One, these cycles have historically run in two-year patterns. It takes two years from earnings to go from trough to peak, and two years for earnings to go from peak to trough. Notably, we are only a few months away from being 2 years removed from the most recent trough in earnings.

Two, these cycles have historically impacted earnings by roughly $2.50 to $4 per share. In both cycles over the past decade, Micron’s peak-to-trough earnings decline was always more than $2.50 per share, but always less than $4 per share. Notably, earnings this year are expected to be $11, so even a $4 degradation on that base isn’t all that bad.

This Cycle Feels Different Due To Bigger Demand

A big part of the bull argument rests on the notion that this cycle feels different. And there is some merit to that feeling.

The demand catalysts pushing up chip prices are not only currently very strong, but project to be equally as a strong in 3-5 years. Owing to this robust and sustainable demand, chip prices will stay relatively high regardless of supply ramp. Thus, any future down-swing in the cycle will be less violent and more muted than previous down-swings.

Don’t believe it? Just take a look at the end-markets that are actually creating today’s demand.

First, there is the cloud. Knowledge is power. Companies are starting to realize this, and quickly valuing data as the new currency. As such, they are collecting, storing, and analyzing as much big data as possible to make informed decisions. Plus, the amount of data in the world is only skyrocketing higher thanks to the mainstream emergence of the Internet-of-Things (IoT), which has brought online multiple smart devices, all of which produce and collect data.

All this data needs to be stored some place. So hyper-scale cloud service operators like Amazon.com, Inc. (NASDAQ:AMZN) and Microsoft Corporation (NASDAQ:MSFT) are spending huge amounts of money on building out their cloud service infrastructure. That means a whole bunch from cloud data-center operators is flowing into the chip market.

Will this big spend ease up over the next several years? Unlikely.

Big data is still in its relative infancy. It seems like every device nowadays is going “smart”, and each one of those smart devices produces multiple data-points. Thus, as smart device usage grows, the volume of data in the world grows by at least 10- or 20-fold. Because data’s importance and scale will increase over the next several years, Micron will likely continue to benefit from huge cloud data-center spend over the next several years, too.

Second, there is artificial intelligence. We are really just starting to scratch the surface when it comes to the potential of AI technology. But because the implications of developing AI are so big, no one in the big-tech world wants to be left behind, and as a result, all of them are spending big bucks in what has increasingly become a race towards AI.

So long as we keep making steps towards developing true AI, this race will only intensify as competitors spend big to catch up to one another. With Alphabet Inc (NASDAQ:GOOG) recently unveiling Google Duplex, a voice assistant that represents a big step forward in the AI world, I expect AI investment spend from other big-tech players like Amazon, Microsoft, Facebook, Inc. (NASDAQ:FB), and Alibaba Holdings Ltd (NYSE:BABA) to pick-up by a considerable amount over the next several quarters.

Longer term, this spend will remain robust the closer we inch towards AI. As such, Micron will continue to benefit from big AI spend into the foreseeable future.

Third, there is automation. Much like AI, automation is still in its relative infancy. The robots are coming, and they are coming everywhere. From automated registers to robotic vacuum cleaner to autonomous cars, automation is going to happen across all  aspects of life over the next 5-10 years. Because of this, automation spend from big-tech players will only increase over the next several years as automated technology realizes its broad spectrum of applications.

Consequently, chip demand through automation tailwinds will also remain robust over the next several years.

All together, even if smartphone chip demand wavers in the near future (and it might, considering recent sluggish iPhone numbers from Apple Inc. (NASDAQ:AAPL)), overall chip demand will remain robust thanks to huge, sustainable growth tailwinds through cloud data-centers, artificial intelligence, and automation.

Because of this dynamic, the bulls are right. This cycle does feel different. Robust demand will make the next down-cycle less severe than prior down-cycles.

What Will Micron’s Numbers Look Like In 3-5 Years?

I really don’t see the case for Micron’s earnings continuing to expand after this year. Historically, these cycles run in 2-year patterns. By the end of this calendar year, we will be 2 years removed from the company’s most recent earnings trough. Thus, history says that earnings are due to stat compressing next year.

Plus, smartphone demand is wavering, and supply is increasing. A lot of companies, including Apple, have projected for chip prices to start falling soon thanks to this supply pick-up amid somewhat lessening demand.

Thus, the fundamentals also say that earnings are due to start compressing next year.

Analysts think this, too. The consensus EPS estimate for next year is just below $10, versus the consensus EPS estimate for this year of $11.

All together, I think that there is a very high probability that margins and earnings erode next year. Considering these cycles run in 2-year patterns, I think this earnings degradation will last into the end of 2020.

But I don’t see it lasting much longer than that. I also don’t see earnings compressing by all that much over the next several years due to the company’s sustainable demand tailwinds through cloud, AI, and automation.

Historically, Micron earnings degradation in a down-cycle has always been less than $4 per share. Even at a full $4 per share, earnings are so high right now and the multiple on MU stock so low, that such a fall in EPS wouldn’t be disastrous for the stock.

More likely, though, earnings will fall by less than $4 per share because the demand catalysts are stronger now than they have been historically. As such, earnings could bottom out over the next few years around $8-9 per share.

Micron Stock Could Rally All The Way To $70 By Year End

Earnings this year are expected to be $11 per share.

Assuming earnings degrade by roughly $3 per share over the next 2 years, that implies an earnings bottom of $8 per share in 2020.

Historically, MU stock has traded with a forward earnings multiple of about 10. A 10-times forward earnings multiple on $8 projected 2020 earnings implies a 2019-end price target of $80. Discounted back by 10% per year, that equates to a year-end price target for MU stock of over $70.

Thus, in a “most things go right” scenario, Micron stock could hit $70 by the end of the year.

Conservative Assumptions Still Yield A $60 Price Target

Under conservative modeling assumptions, Micron stock still has upside from current levels.

Realistic worst-case scenario is for earnings to fall by $4 to $5 per share over the next 2 years. From this year’s projected $11 earnings base, that decline projects to $6.50 in earnings per share in 2020. That should be a bottom considering the aforementioned two year cycle.

A historically average 10-times forward earnings multiple on those $6.50 earnings implies a 2019-end price target of $65. Discounted back by 10% per year, that equates to a year-end price target for MU stock of just under $60.

As such, I think the two most likely outcomes for Micron over the next several years lead to MU stock heading markedly higher from current prices.

Bottom Line on MU Stock

MU stock is misunderstood and undervalued.

Underlying suppler-demand dynamics in the company’s core DRAM and NAND markets will remain favorable into the foreseeable future thanks to sustainable, robust demand. As such, while earnings will likely fall over the next several years, such declines will be moderate.

The current valuation on MU stock prices in severe declines, and that means there is opportunity to make money on the long side.

As of this writing, Luke Lango was long MU, AMZN, FB, GOOG, BABA, and AAPL.