Microsoft shares could fall another 10%

Michael Kramer and clients of Mott Capital own MSFT.

Microsoft Corp. (MSFT) has fallen about 11% from the September 2 peak, but that may be just the start. The stock could go even lower. Maybe up to 10% more based on an analysis of his technical table.

Yet despite the recent pullback, stocks rose more than 35% on the year, easily outpacing the S&P 500’s 6.1% gain.

The stock broke a technical uptrend on the chart, which has served as support during the stock’s significant advance since early April. Breaking this uptrend signifies a substantial trend reversal and suggests that the stock needs to move down further. Currently, the next significant level of support for Microsoft doesn’t arrive until the stock hits $ 198. If that support level breaks, it would indicate that the stock is falling towards $ 188, which is around 10% down from its current price of $ 208 on September 8.

There is a good chance that the stock will eventually break the support at $ 198 and head towards $ 188. This is because the Relative Strength Index, a measure of a stock’s momentum, has fallen to its lowest level since late March, and an indication that stock momentum is rapidly shifting from bullish to bearish.

The biggest problem that stocks face is that their current valuation is not cheap, and stocks may have to fall further before attracting investors looking for a good deal. Currently, the stock is trading for 29.2 times the estimated one-year futures earnings, which is its highest earnings multiple since 2002.

The stock’s biggest problem in the short term is that earnings growth, while reasonable, is unlikely to be fast enough to support the high earnings multiple. Analysts currently estimate earnings will grow at a compound annual growth rate (CAGR) of around 13% over the next three years. This gives the stock a 3-year CAGR adjusted PEG ratio of about 2.2.

On these two fronts, the stock is not cheap and should fall sharply to return to a more reasonable valuation. Over the past 5 years, the stock has traded with an average PE ratio of approximately 21.9 times estimated one-year future earnings. Additionally, we’ve seen this ratio increase over time, with the 1-year moving average PE reaching 27.1. At the lower valuation, the stock could trade in a range of $ 161 to $ 198.85, respectively.

With Microsoft’s momentum starting to wane and a valuation appearing to be strained, lower prices could be expected for stocks. But that doesn’t mean the company won’t have a bright future, as analysts believe that strong sales growth down the road. With revenues expected to reach $ 194.0 billion by fiscal 2023, up from $ 143.0 billion in fiscal 2020, a CAGR of around 10.7%.

Unfortunately, the stock may have gotten too far ahead of itself during the technology rally we’ve seen in the equity market. From now on, the stock will need some time for its fundamentals to catch up with these high valuations.

Michael Kramer is a financial markets strategist and portfolio manager of the Mott Capital Thematic Growth Portfolio.

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