Over the past four years, Advanced Micro Devices (NASDAQ:AMD) has been one of the best performing stocks on the market. AMD stock has gained a stunning 2,600% over that stretch.
And over that entire stretch, the stock has faced skepticism, if not outright bearishness. Per data from YCharts, at least 10% of shares outstanding for nearly that entire period have been sold short. Obviously, those skeptics have been proven wrong — and those shorts lost a great deal of money.
But an important question for AMD coming out of the company’s fourth quarter report last month is whether that trend will continue. Earnings from both AMD and its chief rival suggest the company’s competitive edge may be near a peak. And valuation remains elevated, particularly by semiconductor standards.
There is a real argument for at least caution here. The question is whether that argument will actually play out when every other bear case over the past four years has not.
The ‘New’ AMD
The core reason that AMD stock has gained is because the company has become a legitimate competitor across multiple semiconductor markets. Just a few years ago, AMD was a second-tier rival to Intel (NASDAQ:INTC) in personal computers with a decent business providing graphics chips for gaming consoles.
And that wasn’t a particularly good business. In 2015, Advanced Micro Devices generated just under $4 billion in revenue and posted an adjusted operating loss of $253 million. With PC sales likely to decline and a debt load nearing $2 billion, there was a scenario in which AMD headed into bankruptcy.
Four years later, the numbers look very different. Revenue has increased some 69%. Adjusted operating income was a profit of $840 million — an improvement of over $1 billion in just four years.
The reason the numbers are different is because AMD’s business is different. Ryzen CPUs (central processing units) have closed the gap with Intel in PC chips. Radeon GPUs (graphics processing units) better compete with segment leader Nvidia (NASDAQ:NVDA). And EPYC chips have improved AMD’s competitive position in the fast-growing data center market.
Simply put, Advanced Micro Devices is a far, far better company than it was. The turnaround under chief executive officer Dr. Lisa Su has been tremendously impressive. And again, AMD stock has benefited as a result. The worry is what comes next.
After a spectacular rally — shares nearly doubled in just over three months — AMD stock faded after last month’s fourth quarter earnings report. At first glance, it’s hard to see why.
On an absolute basis, the quarter was a total blowout. Revenue increased 50% year-over-year. Adjusted earnings per share quadrupled. And AMD guided for 28-30% revenue growth in 2020.
Relative to expectations, the quarter looks strong as well: both revenue and earnings for the fourth quarter topped analyst estimates.
And yet, since the report it’s not hard to see bearishness toward AMD stock creeping up. Barron’s wrote the day after earnings that “it may be time to take a breather from AMD stock.” MarketWatch followed the next week with the case that “AMD’s best days are behind it.”
The case there is essentially the backside of the bull case that has driven AMD to market-best returns since 2016. It was the competitive environment that drove AMD stock to soar. It’s the competitive environment that presents the biggest challenge going forward.
Are AMD’s Gains Over?
The core concern is that AMD’s improvements over the last four years have come with some help. Intel’s execution has been poor for years now. Intel still is struggling to develop chips at the 10 nanometer node; AMD, with the help of manufacturing partner Taiwan Semiconductor (NYSE:TSM), is driving material revenue at 7nm. Chip shortages have impacted Intel’s CPU sales to PC makers, opening another door for AMD.
But Intel finally is making progress. That creates a potential catalyst for its stock, as I wrote last week. It also creates a risk to AMD, which may have improved competition on its hands.
Indeed, one bearish potential takeaway from the company’s respective fourth quarter earnings is that Intel is holding more share than AMD bulls might hope. Intel’s Q4 earnings beat was driven by data center revenue that came in significantly above expectations. Analysts estimated 5.2% sales growth; Intel delivered a 19% increase.
In contrast, AMD’s data center sales appear disappointing: the segment in which those sales are reported badly missed Street numbers. AMD didn’t detail to what extent that miss came from data center sales, and declining sales of gaming console chips may have driven the weak report. But some bears have pointed to the lack of disclosure itself as suggesting weakness in data center, surmising that AMD likely would have trumpeted good news, if it existed.
So if AMD can’t take significant share from a wounded Intel now, what happens going forward? Nvidia isn’t going to easily cede share in GPUs. PC sales have been stronger than expected, but were helped by the end of support from Microsoft (NASDAQ:MSFT) for Windows 7. The end of that tailwind could pressure CPU revenues.
The Wall of Worry for AMD Stock
To be sure, it’s not as if AMD’s growth is coming to a sudden end. Again, the company is guiding for revenue growth this year in the range of 30%.
But AMD is priced for significant growth over a multi-year stretch: shares trade at 43x the consensus 2020 earnings per share estimate of $1.15. It’s a valuation that has little room for error — or quickly decelerating growth.
Meanwhile, media coverage aside, bullishness appears to have increased since the report. Analysts mostly saw the earnings report as positive, and the average target price has risen (though it still sits modestly below the current AMD stock price). And interestingly, short interest has fallen sharply: at just over 7%, it’s at its lowest point in almost a decade.
That’s not necessarily a good thing, as short covering no doubt has helped the rally of the past four years. But it also suggests that there aren’t as many AMD bears as there used to be. Perhaps the wall of worry isn’t as high as it used to be. History suggests that isn’t a good thing.
As of this writing, Vince Martin has no positions in any securities mentioned.