Microsoft shares lag amid ‘AI fatigue’

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Microsoft Corp. shares have lost their lustre in the past few months, with some investors cooling on the artificial intelligence trade and looking for better value elsewhere in the sector.

Shares in the software company are up just 1.3 per cent over the past six months, as of closing on Monday, compared with an almost 10 per cent gain by the Nasdaq 100 index. The stock is eight per cent below its all-time high, while an exchange-traded fund that tracks software firms closed at a record on Monday.

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The underperformance has come as Microsoft reported mixed results in its latest quarter and as AI more generally loses steam as a driver of stock gains.

“There’s some AI fatigue when it comes to companies like Microsoft, given the incredible run they’ve had,” Neville Javeri, senior fund manager at Allspring Global Investments Holdings LLC, said. Investors “need to see additional proof points about demand for AI products and services for the rally to hold.”

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Analysts at D.A. Davidson & Co. have also turned more cautious on Microsoft.

“Competition has largely caught up with Microsoft on the AI front, which reduces the justification for the current premium valuation,” analyst Gil Luria said in a note last week, citing cloud rivals Amazon.com Inc. and Alphabet Inc.

A diminished lead in AI “will make it hard for MSFT to continue to outperform,” he said in downgrading the stock to neutral from buy.

Microsoft trades at 31 times estimated earnings and almost 11 times projected revenue. Both multiples are down from recent peaks, but they’re well above their 10-year averages. The Nasdaq 100 trades at less than 26 times forward earnings and under five times sales.

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The stock has also gathered some unfavourable comparisons to Oracle Corp., which has emerged as a popular alternative for software investors after its latest results showed robust AI tailwinds of its own. Oracle offers a lower multiple, trading at 26 times projected earnings, prompting several firms to upgrade the stock over the past month.

“Oracle is sort of the new kid on the block, because it is more in the first innings of the growth curve,” Christopher Ouimet, a portfolio manager at Logan Capital Management Inc., said. “More investors are rolling up their sleeves to look at it, whereas with Microsoft, they’re sharpening their pencils as they focus on Azure growth and when it will see more of a return on its capex.”

Microsoft’s July earnings, in contrast, revealed a slowdown in its Azure cloud-computing service. While it showed growth attributable to AI, that figure was lower than some had hoped, underlining concerns about when Microsoft will see a more pronounced return on investments in AI.

Even after a weaker couple of months, Microsoft shares remain up 14 per cent this year, and the recent underperformance follows a 57 per cent gain in 2023. The vast majority on Wall Street remain bullish, with more than 94 per cent of analysts rating Microsoft stock a buy, according to data compiled by Bloomberg.

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The company’s long-term prospects are also still viewed favourably. Revenue is expected to rise 14.5 per cent in the 2025 fiscal year and accelerate for the next few years, reaching a 19 per cent pace by 2028. Net earnings per share are also seen growing at a double-digit clip for the next several years.

With that backdrop, investors such as Allspring’s Javeri and Logan Capital’s Ouimet remain positive on the shares in the long term, despite short-term challenges.

“It’s never surprising to see a stock take a pause, especially after doing well and with the market rally broadening, but it’s hard to find a company of this size and quality that’s going to grow at this level for the next several years,” Ouimet said. “Microsoft is so well positioned that the more it pulls back, the more attractive it looks.”

— With assistance from Subrat Patnaik.

Bloomberg.com

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