Over the last few years, the S&P 500 has been dominated by just a handful of stocks. The "Magnificent Seven" accounted for more than half of the total increase in the S&P 500 in 2024, increasing the concentration of the mega-cap stocks in the index.
This year has seen a divergence in some of the "Magnificent Seven" names. Just three -- Nvidia, Microsoft (MSFT -0.50%), and Meta Platforms -- continued to outperform the index. While investors may see opportunities in the names that have declined in value so far this year (Apple and Tesla), Wall Street thinks that one of the biggest winners will continue to climb higher.
In fact, Wall Street's median price target on one "Magnificent Seven" stock is 25% higher than its stock price as of this writing. That's far higher than any other member of the "Magnificent Seven."
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The best "Magnificent Seven" stock to buy now
Wall Street analysts love Microsoft right now. They grew even more bullish on the stock after the company's most recent earnings report revealed stellar results for both its cloud computing business, Azure, and its cash cow enterprise software business. The median price target for the mega-cap stock is now $630 per share, which is a 25% increase at the time of this writing.
Microsoft's Azure is now a $75 billion business. It grew revenue 34% last year. More impressive is the fact that its growth accelerated in the fourth quarter. Azure revenue climbed 39% last quarter, driven by Azure's biggest customers, including OpenAI.
Analysts at D.A. Davidson pointed out that Microsoft's investment in OpenAI gives it the right of first refusal on training and inference workloads, and it's been a notable driver of Azure's outperformance. In comparison, the revenue of Alphabet's Google Cloud climbed just 32% last quarter, despite it being significantly smaller than Azure. The much larger Amazon Web Services grew 17%. D.A. Davidson has a $650 price target on Microsoft.
Even more impressive is the fact that Microsoft's management noted that the cloud computing service remains capacity constrained. To that end, it's stepping up its capital expenditure plans with a $30 billion budget for the first quarter. That's a 24% increase from the fourth quarter, and puts it well ahead of its peers in its plans to build out cloud infrastructure. That suggests that more strong growth is ahead for the business. Management forecasts 37% growth for Azure for the current quarter.
More than just a cloud computing business
While Azure is the biggest growth driver for Microsoft, its massive enterprise software business is still extremely important, and growing well in its own right.
Analysts at BMO Capital point out that Microsoft stands out from other large-cap software names in the space, not because of its cloud computing segment, but because of the "breadth of portfolio including AI offerings and solid margin performance." The analysts raised their price target from $550 to $650 after the company's most recent earnings report.
Microsoft offers the Microsoft 365 productivity software suite to both businesses and individuals. Despite already having hundreds of millions of subscribers for its cloud software, fourth-quarter revenue climbed 18% for its commercial version, while consumers spent 20% more. That growth was likely driven by growing adoption of Microsoft's Copilot, which brings generative AI capabilities to the software suite. Microsoft charges extra for enterprises that want to add Copilot, while only higher-tier subscribers receive access to Copilot features. Management said it achieved the largest quarter of seat adds ever for Microsoft 365 Copilot last quarter.
Microsoft has also included versions of Copilot across its other enterprise software, including Github and Dynamics 365. Its Copilot Studio enables businesses to use their own data and resources to develop their own AI agents, helping improve worker productivity and reduce time searching for company-specific information.
The software business is a major cash cow that's helping fuel the massive spending necessary for Azure. The two sides of the business have worked well together, enabling Microsoft to maintain strong operating margins while growing quickly. Operating income climbed 17% last year, with an overall operating margin of 46% (a slight improvement from the prior year's 45% margin).
With strong growth for both the enterprise software and cloud computing business, Microsoft is poised to produce another strong year of financial results. Its forward price-to-earnings (P/E) ratio of 33 is certainly a big premium over the rest of the S&P 500, but it's emerged as a leader in artificial intelligence for both cloud computing and software. Its growth justifies that premium price, and Wall Street thinks there's a lot more room to grow from here. I don't see any reason to disagree.
