Technology stocks have generated enormous wealth for investors in recent years. Driven by the megatrend of artificial intelligence (AI), technology stocks have seen a gravity-defying surge that has singlehandedly lifted the overall market. This can be seen in the fact that the “Magnificent Seven” stocks alone will reach a staggering market capitalization of $5.1 trillion by 2023. And without the influence of the Magnificent Seven, U.S. listed stocks overall rose just 12.6% last year, but with the Magnificent Seven return included, they will rise 23.3%. And this year's data suggests that the returns are even more uneven.
But while some of the top AI companies are already turning AI technology into profits, investor enthusiasm is spreading and some are becoming overvalued. Some stocks caught up in the AI saga are seeing their short-term stock price gains outpace their fundamentals, even as their long-term growth stories remain strong.
Investors who already own these overheated stocks may be comfortable weathering a short-term decline, but for new buyers, now probably isn't the best time to buy. That's why brokerage Morgan Stanley (MS) recently flagged three stocks in the overheated tech sector as either looking a bit overvalued, trading dangerously close to Wall Street's consensus price target, or simply not seeing any catalysts to boost their shares in the near term.
#1. Pure Storage
Founded in 2009 with a mission to revolutionize the storage industry by providing faster, simpler storage solutions, Pure Storage (PSTG) offers software-defined, all-flash storage solutions designed for speed and cloud compatibility. The company is known for its “Evergreen Storage” model, which provides subscription-based software updates and support, eliminating the need for frequent hardware upgrades. The company's current market capitalization is $21.4 billion.
PSTG has had a stellar performance so far in 2024, up 80.8% on a year-to-date basis.
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Pure Storage had a strong first quarter performance, with revenue and earnings beating expectations. Quarterly revenue increased 18% year over year to $693.5 million, driven by strong growth in core subscription revenue. EPS increased 4x from $0.08 to $0.32 in the same period, well above consensus estimates. In fact, Pure Storage has beaten expectations in each of the past five quarters.
But Pure Storage's stock has risen and is now looking expensive, trading at 41 times forward earnings and 6.85 times sales.
Additionally, Pure Storage faces competitive risks from a variety of storage solutions offered as part of their cloud services by major players such as Google (GOOG), Amazon (AMZN), and Microsoft (MSFT). There is also growing threat from Original Equipment Manufacturers (OEMs) and white label Original Design Manufacturers (ODMs) entering the all-flash storage market. This increased competition could put pressure on Pure Storage's pricing and margins if the company is unable to maintain its market leadership position. Therefore, Pure Storage should focus on strategies to strengthen its competitive advantage and brand recognition.
Morgan Stanley recently downgraded PSTG shares to “equal weight” from “overweight,” but kept its price target at $60, saying, “While significant cloud deals are likely ahead and the TCO/power advantage remains, the bulk of cloud deal revenues and AI revenues are still in the future, limiting forecast revisions in the near term.”
Overall, analysts rate PSTG shares a “moderate buy,” with an average target price of $68.95, less than 7% below Friday's closing price. Of the 20 analysts covering the stock, 12 rate it a “strong buy,” two rate it a “moderate buy,” and six rate it a “hold.”
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#2. Corning
Founded in 1851 as Bay State Glass Co., Corning (GLW) is a diversified technology company with a long history of innovation in materials science. The company's core business is its Specialty Materials division, which produces the highly popular Gorilla Glass for consumer electronics, fiber optics for communications, and other specialty glass and ceramic products. Its two other core businesses are its Display Technologies division and its Life Sciences Containers division. The company's current market capitalization is $34.1 billion.
Corning's shares are up 31.5% since the beginning of the year and offer a dividend yield of 2.81%.
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Corning reported first-quarter 2024 core sales of $3.26 billion, down 3% year over year. EPS was $0.38, down 7.3% year over year but beating the consensus EPS estimate of $0.35.
Corning ended the quarter with a cash balance of $1.37 billion, down from $1.78 billion at the beginning of the year, well below its total debt of $8.29 billion.
Longer term, Corning could benefit from growing AI data center demand and infrastructure projects that will require increased fiber counts to build CPU capabilities suited to handling AI capacity loads. Additionally, adoption of new EPA standards by 2031 could boost Corning's overlooked environmental technology division, which makes gasoline particulate filters. Management expects filter adoption requirements to begin as early as 2026.
That said, Morgan Stanley just downgraded GLW shares to “equal weight” from “overweight,” citing a better balance of risk and reward at current levels, and raised its price target for GLW to $38.
Overall, analysts rate Corning shares a “Moderate Buy,” with an average price target of $37.38, suggesting a downside of about 6.5% from current levels. Of the 11 analysts covering the stock, five rate it a “Strong Buy” and six rate it a “Hold.”
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#3. Twilio
Founded in 2008, Twilio (TWLO) is a cloud communications platform that provides software developers with application programming interfaces (APIs) to integrate voice, video, messaging and authentication capabilities into their applications. This makes it easy for businesses to add communications capabilities like SMS notifications, two-factor authentication and video conferencing to their products without having to build their own infrastructure. The company's current market capitalization is $9.15 billion.
TWLO shares are down 27.8% since the beginning of the year.
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Twilio's Q1 2024 results beat expectations, with both revenue and profits beating expectations. Revenues increased 4% year over year to $1.05 billion as active customer accounts grew from 300,000 to 313,000. Additionally, EPS rose 70.2% to $0.80, beating the market consensus of $0.59. Notably, Twilio's EPS has grown consistently over the past five quarters, and it has also beaten consensus estimates.
However, analysts were disappointed with Twilio's second-quarter revenue guidance, which fell short of expectations at $1.06 billion at the midpoint. An additional concern for investors is whether continued customer turnover within the segment's business will hinder Twilio's overall growth trajectory. Finally, it's also worth noting that maverick investor Cathie Wood has completely exited the company's stock over the past few months.
Meanwhile, Morgan Stanley downgraded TWLO shares to “equal weight” from “overweight” because it sees no catalysts to boost sales over the next 12 months, with analyst Meta Marshall noting that “the majority” of the company's operating leverage has been realized, but adding that “the longer-term outlook remains favorable.”
That “long-term story” includes Twilio's AI capabilities, including incorporating generative AI across its platform. Additionally, Twilio's CustomerAI, a suite of predictive analytics tools launched in 2023, has already been adopted by over 150 customers. The AI service helps businesses identify sales opportunities and personalize cross-selling and inventory management recommendations. Additionally, Twilio is leveraging partnerships with industry leaders. Google provides advanced analytics capabilities, and collaboration with OpenAI on GPT-4 integration will enhance Twilio's AI-powered services for its 300,000-strong customer base.
Additionally, Twilio's customer engagement platform is accessed by more than 10 million developers worldwide, helping it become a leading Communications Platform as a Service (CPaaS) company.
Overall, analysts rate TWLO shares as a “Moderate Buy” with an average price target of $69.08, which indicates an upside potential of about 26.2% from current levels. Of the 29 analysts covering the stock, 10 rate it a “Strong Buy”, 1 rate it a “Moderate Buy”, 16 rate it a “Hold”, 1 rate it a “Moderate Sell”, and 1 rate it a “Strong Sell”.
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On the date of publication, Pathikrit Bose did not have (either directly or indirectly) any positions in any of the securities mentioned in this article. All information and data in this article is for informational purposes only. For more information please see Barchart's disclosure policy here.
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