Run in Advanced Micro Devices, Inc. Looks Near a Close

AMD stock - Run in Advanced Micro Devices, Inc. Looks Near a Close

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Chipmaker Advanced Micro Devices, Inc. (NASDAQ:AMD) has been on fire recently.

AMD stock dropped below $10 in April, thanks to a confluence of headwinds — tariffs, falling bitcoin prices, and rising rates — none of which had staying power. As such, those headwinds have since moved into the rear-view mirror, and AMD stock has soared more than 50% to nearly $15.

Can this rally in AMD stock continue?

I’m not so sure. I have forever stated that AMD stock has value, but not as much value as the die-heart bulls claim. In reality, this is a company with strong revenue and margin growth drivers through growth in data center (DC), artificial intelligence, personal computing (PC) and next-gen gaming markets. But at $15, growth from those catalysts seems fully baked into the valuation.

Moreover, at present levels, AMD stock looks over-extended from a technical perspective.

Thus, after a 50% rally over the past six weeks, the run in AMD stock appears to be nearing a close. Indeed, I wouldn’t be surprised to see shares pull-back in the near future.

Here’s a deeper look:

Why AMD Stock Rallied 50%

AMD stock fell below $10 in April on irrational trade war, cryptocurrency and inflation fears.

But then the company reported a robust double-beat-and-raise quarter in late April. Those strong numbers underscored the fact that the company’s core growth catalysts through the PC, DC, AI, and gaming markets are actually strengthening. Revenue growth accelerated to 40%, versus 34% in the prior quarter and 24% in the prior year.

AMD stock jumped from below $10 to $11 in response to those numbers.

And then the Street got bullish. Amidst a flurry of positive earnings reports from semiconductor companies confirmed AMD’s strong numbers, Wall Street analysts started upgrading semiconductor stocks left and right.

The one with the biggest flurry of upgrades? AMD. Everyone from Stifel Financial Corp (NYSE:SF) to Bank of America Corp (NYSE:BAC) to Cowen Inc (NASDAQ:COWN) to Susquehanna to JPMorgan Chase & Co. (NYSE:JPM) has issued a bullish note on AMD since the company last reported earnings.

The broad consensus is that demand for the company’s DC, PC, and gaming chips remains robust, while market-share gains in DC and AI should persist, thanks to new products. Meanwhile, downside risk from a demand collapse in cryptocurrency mining is mitigated relative to the upside potential.

This bull sentiment has taken control of AMD stock. Now, the stock sits at $15, up 50% from where it was just a few weeks ago.

Why AMD Stock Won’t Rally Another 50%

At $15, though, AMD is starting to run up against some valuation and technical barriers which prevent the stock from rising much more in the near-term.

Revenue growth trends at AMD are only improving. Revenue growth was 25% last year, 34% two quarters ago, and 40% last quarter. This upward trend confirms that AMD is successfully growing market share in high-end markets — like DC — due to new product launches.

But the chances of this revenue growth staying above 20%, let alone near 40%, are quite slim. Laps will get tougher, and competition will get more intense as AMD’s DC business goes from nascent to full-blown Nvidia Corporation (NASDAQ:NVDA) competitor. Naturally, then, growth will decelerate meaningfully over the next several years, even if end-market demand remains robust.

My best guess is that revenue growth at AMD runs around 15% per year over the next five years. During that stretch, I have utmost faith that AMD can reach its long-term margin targets of about 42% gross margins and about 28% opex rate, implying operating margins in five years of 14%. Under those assumptions, I think it is reasonable to assume AMD nets earnings per share of roughly $1.10 in five years.

A market-average growth multiple of 20-times forward earnings on $1.10 implies a four-year forward price target of $22. Discounted back by 10% per year, that equates to a present-day value of $15, right where the stock currently trades.

Beyond the fundamentals, AMD stock looks over-extended from a technical perspective. The stock has been range-bound between $10 and $15 since the start of 2017, and we are once again back near the top-end of that trading range. Chances are high we get some pull-back here and now. The relative strength index (RSI) has also moved into overbought territory (above 80), and AMD stock historically pulls back when the RSI gets above 70.

Bottom Line on AMD Stock

AMD is a great company with strong go-forward growth prospects through market-share gains in big-growth markets like DC and AI. But at present levels around $15, AMD stock appears not only fully valued, but also over-extended given its rapid ascent.

Therefore, I think now is the time to fade the rally in AMD stock.

As of this writing, Luke Lango did not hold a position in any of the aforementioned securities. 

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