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The Story Remains the Same for Advanced Micro Devices Stock

Investors have argued about the valuation of AMD stock for some time now — and the bulls keep winning

After another huge rally, Advanced Micro Devices (NASDAQ:AMD) stock looks expensive. Advanced Micro Devices stock trades at 44 times analysts’ average 2020 earnings per share estimate. That multiple has expanded sharply of late: AMD stock price has risen almost 70% in the last three months, but the average estimate has barely budged.

The Story Remains the Same for Advanced Micro Devices Stock
Source: flowgraph / Shutterstock.com

Over the last three months, the stock’s rally has been impressive, but the longer term gains of Advanced Micro Devices stock have been stunning. Bear in mind that the AMD stock price sat below $2 less than four years ago. Its shares have gained over 2,500% since then.

That soaring stock price allows those who are bullish on AMD stock to easily answer investors who are skeptical of AMD stock and its valuation. Those skeptics — and, to be fair, I’ve been one of them at times — simply have been wrong so far. Bulls have focused on the qualitative opportunity ahead of AMD as a company more than the near-term quantitative aspects of AMD stock.

And the bulls have won. As long as the market as a whole keeps focusing on the longer term outlook of AMD more than the valuation of Advanced Micro Devices stock, the bulls will keep winning.

The Case for AMD Stock

Advanced Micro Devices stock didn’t trade below $2 in 2016 because investors weren’t paying attention to it or because short sellers were manipulating the stock. AMD, at that time, was in significant trouble. It was a second-tier competitor to Intel (NASDAQ:INTC), and demand for AMD’s chips from personal computer manufacturers like HP Inc. (NYSE:HPQ) and Dell Technologies (NYSE:DELL) looked poised to stagnate, if not decline.

Indeed, AMD’s sales sank 28% year-over-year in 2015, and its non-GAAP operating income was negative $253 million. Advanced Micro Devices burned over $300 million in cash that year. And with its net debt at the end of 2015 near $1.5 billion,  AMD could have been headed into bankruptcy.

Four years later, the story, of course, is very different. AMD’s Ryzen CPUs (central processing units) and EPYC GPUs (graphics processing units) have enabled it to enter attractive end markets like gaming and cloud computing. AMD is effectively competing with Intel across the board. And Intel’s missteps have leveled the playing field.

Advanced Micro Devices stock has been volatile during stretches of its big rally, most notably when it tumbled more than 50% during the last few months of 2018. But from a broad standpoint, as AMD’s outlook has strengthened, so has the AMD stock price. And its outlook keeps getting stronger.

As Wedbush noted last month, the reviews of the Ryzen Threadripper processors show that AMD continues to supply “competitive, or even superior parts” relative to Intel. Meanwhile, Intel continues to have trouble with its 10 nanometer chips, with Wells Fargo recently predicting that those chips will be delayed further.

The competitive environment has been a key factor behind multiple upgrades of AMD stock in recent weeks. And competitive issues have been a big reason why Advanced Micro Devices stock has rallied so strongly over the past four years. With AMD’s market share gains still likely to continue, history suggests that investors who own AMD stock should hold onto their shares.

Concerns About the Valuation of Advanced Micro Devices Stock

Investors, however, need to look forward as well as backwards. And it has to be at least mentioned that AMD’s valuation does look somewhat stretched. Its price-earnings ratio of 44 is huge for a semiconductor stock. Assuming the recent trend continues, those profits should grow significantly in 2020, at least based on analysts’ average estimates. But some are worried that, after 2020, its gross margins will have peaked, so its operating margin expansion will slow significantly.

Again,  concerns about the valuation of Advanced Micro Devices stock have persisted for most of this rally. Investors who focused on its near-term fundamentals more than its long-term opportunity have missed out on gains (or worse, they shorted the stock). That, of course, has been true for the market as a whole, but there have been exceptions in the semiconductor sector. The most notable exception is Nvidia (NASDAQ:NVDA), which has rallied 85% off its 52-week low but still trades at a sharp discount to its 2018 highs.

At this point, the one worry about AMD stock might be that it could be something like the next NVDA. After all,the forward valuation of Advanced Micro Devices stock is roughly similar to that of Nvidia stock at its peak.

There isn’t an obvious, upcoming catalyst that would result in a pullback of Advanced Micro Devices stock, but investors didn’t see the bursting of the crypto bubble coming. (AMD’s management didn’t see it coming either.) And the fact that Nvidia stock hasn’t returned to its 2018 highs shows just far the stock ran;  in retrospect, it soared too high.

Looking Forward

But I wouldn’t bet on AMD stock crashing. After the last four years, I’d be hard-pressed to bet against AMD at all. As I’ve noted before, there’s another fundamental aspect of Advanced Micro Devices stock that seems rather positive.

That is, even after its huge gains, Advanced Micro Devices stock has a market capitalization of around $55 billion. Nvidia’s market cap is near $150 billion and Intel’s is $265 billion.

AMD isn’t necessarily going to surpass either company any time soon, but a lot of shareholder value can still be created if AMD can keep taking market share. As long as investors keep focusing on that opportunity rather than AMD’s valuation, Advanced Micro Devices stock will keep gaining.

As of this writing, Vince Martin has no positions in any securities mentioned.

 


Article printed from InvestorPlace Media, https://investorplace.com/2020/01/story-remains-same-advanced-micro-devices-stock/.

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