Credit has to be given where it's due. Advanced Micro Devices CEO Lisa Su has orchestrated the turnaround she intended to when she took the helm in 2014. The company was largely left for dead by then, but beginning in 2016, revenue turned around well enough to push AMD back into the black in 2018.
The future looks bright enough too, prompting not one but two big analyst accolades this year already. A little over a week ago, Instinet analyst David Wong reiterated his buy rating, but ratcheted up his price target from $40 to $58 on expectations that Advanced Micro Devices would become even more competitive this year. Just a couple of days ago, Mizuho's analyst Vijay Rakesh upgraded AMD from a neutral stance to a buy, touting its prospects for gaining market share in a recovering server market. An impressive showing at this year's annual Consumer Electronics Show bolstered the new optimism.
The pair of analysts and the investors that followed their lead may well be right, too. Although Advanced Micro Devices was the S&P 500's biggest winner in 2019 with its 148% advance, 2020 could be another big one for the company's shareholders. Investors who are just now stepping into -- or back into -- this technology name, however, are ultimately making three dangerous bets they may not even realize they're making.
Image source: Getty Images.
Bet #1: Valuations don't really matter
Do earnings valuations actually affect a stock's performance? The jury is still out on the matter. Warren Buffett has done well by scooping up stocks at historically cheap prices, but thorough statistical analysis repeatedly struggles to correlate market-beating performance with low P/E ratios.
The truth is likely to be somewhere in the middle of the two extremes, meaning it is possible to overpay for a stock, but impossible to know if and when you're doing so.
To the extent valuations do matter though, Advanced Micro Devices offers the least amount of upside among any of the major tech hardware names. That's the case on a near-term and long-term basis.
| Company | Trailing 12-Month P/E | Projected 2020 P/E | Projected 2020 P/E |
|---|---|---|---|
| Advanced Micro Devices (AMD 2.37%) | 256.4 | 44.1 | 32.0 |
| Texas Instruments (TXN 1.27%) | 24.4 | 26.2 | 23.2 |
| NVIDIA (NVDA 6.18%) | 62.2 | 33.6 | 28.3 |
| Intel (INTC -9.20%) | 13.9 | 12.8 | 12.7 |
| STMicroelectronics (STM -2.98%) | 23.8 | 18.4 | 14.8 |
| Broadcom (AVGO 3.84%) | 47.6 | 12.0 | 11.1 |
| Cisco (CSCO -0.50%) | 18.8 | 13.9 | 13.2 |
Data Source: Thomson Reuters
Bet #2: Server spending will recover in 2020 after 2019's lull
Mizuho's Rakesh believes this year's server market will be "stronger than [the] muted consensus" following relative weakness last year. It slumped to the tune of 7% in 2019, and while forecasts are modeling a 5% increase in server hardware spending for 2020, Rakesh is modeling 7% growth. He further anticipates AMD leveraging its new wares to capture more than its fair share of that expansion at the expense of NVIDIA and Intel, driven by the usual cyclical demand after a few quarters' worth of slowdown.
It's a risky assumption, though. While seemingly overdue for a cyclical refresh of data centers, IT market research outfit Forrester fears overall tech spending growth -- at least in the U.S. -- will slow again in 2020. Furthermore, Forrester says, the lion's share of that spending growth will be on software rather than hardware, a premise fellow tech-market research house Gartner reflected in October with its IT spending outlook. It believes enterprise software spending will swell by nearly 11%, while spending on data center systems will grow by a more muted 2.6% this year, and trail to an even more modest pace of 1% in 2021.
Perhaps more concerning is that both outlooks are based on an assumption that the global economy won't buckle this year, but instead continue moving forward. Even a modest headwind could easily spook corporations and consumers into tightening their belts.
Bet #3: Trajectory momentum will override prevailing opinion
Finally, while Instinet and Mizuho are singing Advanced Micro Devices' praises, it's noteworthy that the rest of the analyst community isn't quite as optimistic despite their access to the exact same information, and plenty of time to respond to it. As a group, these professionals still rate AMD somewhere between a buy and a hold, and still sport a consensus target of less than $40 per share. That's nearly 20% less than the stock's present price.
Even without the analyst community's relatively reserved stances, however, one can't help but wonder if the recent cheerleading reflects hope that the stock's performance for the next few months will look like its performance over the course of the past few months. Remember, Rakesh switched his stance on AMD to neutral in July of last year. The stock floundered for a couple of months, but ended up rallying from $28 to $49 between October and this month. It's quite a move for any analyst or investor to miss out on, setting the stage for what could be seen as performance-chasing now.
Bottom line
Of course, none of this has to mean Advanced Micro Devices won't move higher in the foreseeable future. It's been rather apt to defy valuation logic and analyst pessimism, and push past demand headwinds that essentially brought revenue growth to a standstill in 2019. Investors kept their eye on the long-term trajectory, and were rewarded for doing so.
There's only so much heavy lifting a premise or trajectory can do, however. Beyond that, additional gains have to be built on actual results that may prove tough to achieve. Newcomers are betting the stock's not yet reached that pivotal point. Notice not everyone is taking that bet.
