Our Big Tech Holding Is Pulling Back, Here’s Where We Are Buyers
With hindsight, we think this selloff will look like an overreaction.
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Much like we saw with our shares of Meta META on Thursday morning, Microsoft MSFT shares are pulling back as the market digests somewhat slower than expected Azure growth in the December and March quarters.
That is outweighing Microsoft’s September quarter results that cleared consensus expectations with EPS of $3.30 per share on revenue that climbed 16% year over year to $65.58 billion. As you’ll see, with the benefit of hindsight afforded in the coming months, this will likely be viewed as an overreaction. While others on Wall Street are trimming price targets, we are sticking with our $480 target.
Here’s What’s Going on
Even though demand, per Microsoft management, continues to outstrip supply, something that various checks and signals for rising AI adoption that we’ve shared with you, Azure growth in the near term will be “somewhat” slower as additional capacity ramps. We say somewhat slower because Microsoft pegs Azure’s revenue to grow 31% to 32% in the current quarter compared to 34% in the September quarter. Included in that Azure growth figure for the September quarter included roughly 12 points from AI services, like the prior quarter.
Pausing for a second and thinking about the rapid increase in AI demand that prompted comments from Nvidia NVDA, Hon Hai and others over the explosive demand for AI, including semi-cap companies, we should not be surprised that Microsoft and others are capacity constrained. That adds more color to Meta’s ramping capital spending and suggests we’re likely to hear the same from Amazon AMZN on Thursday night.
Getting back to Microsoft, as its additional capacity comes on stream, which is expected to lead to some margin softness in this and the next quarter, we should see Azure’s revenue re-accelerate starting in the June quarter. That should also bring a rebound in margins. Along the road to that, Microsoft targets total GenAI revenue moving past the $10 billion mark in the current quarter, which we read as another data point that should quell concerns over AI adoption and monetization. At that level, Microsoft’s GenAI business crosses over into double-digits for the company and should move higher in the ensuing ones. The driving force behind Microsoft’s GenAI outlook is rising adoption across a wide array of industries via Microsoft 365 Copilot, which is also being aided by customer adoption of Copilot+PCs, a positive for Qualcomm QCOM. In our view, that makes Azure and the Intelligent Cloud segment that houses it the driver of Microsoft’s business and the shares.
As we ruminate over this, MSFT shares are back to near their early September levels, which are also not too far off from where they bottomed out from the market sell-off in early August. This leads us to think we are seeing what, with the benefit of hindsight, will be an overreaction to a very modest near-term revenue bump for Azure.
Here’s Where We Might Buy More MSFT Shares
What’s different about this for the Portfolio compared to the action we took with META shares earlier on Thursday is that our MSFT position is already a far larger one for the Portfolio.
Normally, that would mean we will stay put with position. However, today’s warmer-than-expected September core PCE print of 2.7%, which was unchanged from August, adds another reason to think the Fed could underwhelm the market next week. Should Friday's October Employment Report be stronger than the market consensus of 113,000 non-farm jobs, something recent data suggests is likely, we could see the market trade-off further. If that comes to pass, we would be interested in picking up some additional MSFT shares closer to $400 or lower. Should we see that level, we are likely to revisit our Two rating as well.
Connecting the Microsoft and Meta Dots
Connecting the dots to other positions in the Portfolio, the combination of Microsoft and Meta’s comments reinforce the demand outlook for Nvidia NVDA and Marvell MRVL, while ramping data center capacity argues a bright outlook for shares of Eaton ETN. We’ll have more thoughts on ETN shares as we review Thursday morning’s earnings call.
More Pro Portfolio
- We're Adding Shares and Upping Our Price Target on This Holding Amid Record Backlog
- Weekly Roundup: Multiple Points of Confirmation for Our Portfolio Positioning
- AI Generates News: A Look at the Headlines That Speak to Our Stocks
At the time of publication, TheStreet Pro Portfolio was long META, MSFT, NVDA, AMZN, QCOM, NVDA, MRVL and ETN.
