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Despite markets largely freaking out about trade wars, tariffs, and inflation, chipmaker Advanced Micro Devices, Inc. (NASDAQ: AMD ) momentarily (and strongly) bucked that trend on takeover chatter.
Rumors of AMD stock being taken out at a huge premium are nothing new. They've surfaced from time to time over the past 12 months, and they always have some tangibility.
Maybe a big, slow growth tech giant like Microsoft Corporation (NASDAQ: MSFT ), Cisco Systems, Inc. (NASDAQ: CSCO ), or International Business Machines Corp. (NYSE: IBM ) wants to inject themselves with a sexier, bigger growth component. Buying AMD would do that. Or maybe a chipmaker peer like Samsung Electronics Co Ltd , Nvidia Corporation (NASDAQ: NVDA ), Intel Corporation (NASDAQ: INTC ), or Micron Technology, Inc. (NASDAQ: MU ) wants to consolidate and dominate certain hyper-growth chip markets. That isn't an out-of-left-field move. Just look at Broadcom Ltd (NASDAQ: AVGO ) and Qualcomm, Inc. (NASDAQ: QCOM ).
All in all, there are tons of potential suitors. With more cash than ever floating around the U.S. economy thanks to tax reform, the likelihood of an acquisition is also higher than ever. Plus, I continue to think AMD stock is worth somewhere around $15 . Stocks usually get taken out a healthy premium to fair value, and a 20-30% premium on $15 implies a potential takeover price in the $18 to $20 range.
Overall, it's not unlikely that AMD stock gets bought by any of the aforementioned suitors at a price tag north of $18.
But it's also not likely.
And that is why AMD stock has popped and dropped on the M&A rumors.
What to do now? Sit and wait. Here's why:
Wait To Buy Advanced Micro Devices Stock
At $12, Advanced Micro Devices stock is fundamentally undervalued.
I continue to believe that this is a company which can benefit from explosive revenue growth over the next several years. New products give AMD a strong opportunity to grow market share in critical hyper-growth markets, like cloud data centers and AI. That should also provide a nice boost to margins, which should jump higher alongside robust revenue growth. Current analyst estimates, placing earnings at $0.71 per share in 2020, seem to appropriately reflect these growth prospects.
Thereafter, revenue growth will slow. Margins will start to tap out. But 10%-plus revenue growth with some margin drivers should create a 20%-earnings growth company. Historically, stock valuations are sustainable around a 30%- premium-to-earnings growth prospects. Therefore, a 20%-earnings-growth stock should trade at 26-times forward earnings. A 26-times multiple on 2020 earnings estimates of $0.71 implies 2019-end price target of $18.50. Discount that back by 10% per year, and you get to a present value of around $15 for AMD stock.
But just because AMD stock is fundamentally undervalued doesn't mean the stock is a buy here and now.
Stocks don't always trend towards fair value immediately. Sentiment matters, and when it comes to battleground stocks like AMD, sentiment is especially important. Right now, as has been the case for the past year, sentiment is locked in a tug-of-war between bulls and bears. There is no catalyst on the horizon that will materially change that. Therefore, AMD stock will likely keep bouncing between $10 and $15, as it has for the past 12 months.
Bulls and Bears on Advanced Micro Devices Stock
Put in other words, there are a lot more bulls than bears when AMD stock is at $10. And there are a lot more bears than bulls when AMD stock is at $15.
But at $12, no one really has the advantage. AMD stock is stuck somewhere in the middle. The relative strength index reading is right around 50, which doesn't scream buy or sell. The stock is also right inline with its 50-day moving average, which again doesn't scream buy or sell.
All in all, Advanced Micro Devices stock is just stuck in no man's land. It's undervalued, but without a catalyst on the horizon to push it higher, investor demand will remain relatively depressed.
Bottom Line on Advanced Micro Devices Stock
Into the foreseeable future, the best strategy with AMD stock is to buy it as the stock plunges towards the $10-11 range, and sell it on rallies to $14 and up range.
From this perspective, AMD stock is rather uninteresting to me at $12. The stock could get taken out a huge premium, but that is a wildcard at this point in time. Consequently, the most likely path forward for AMD stock is the path it has followed for the past year: range bound between $10 and $15.
As of this writing, Luke Lango was long INTC and MU.
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