Is MSFT Overvalued? Technical Analysis Says Yes

Microsoft stock (MSFT) closed trading at $149.55 on December 2, falling 1.21% from the previous trading session. The company is currently trading at a rich valuation metric since reporting its 2020 first-quarter earnings results. Moreover, in my previous analysis, Why Microsoft Stock Could Rise after Earnings, I discussed why MSFT shares could rise on an earnings beat. Since then, the stock is up from around $136 to $149.55 as of Monday, December 2. This rise represents an increase of about 10%.

Right now, options traders are making some bullish bets that Microsoft stock will continue to rise by the middle of January. However, overvalued fundamental metrics could limit further upside in the stock. So let’s take a closer look at the company’s chart, fundamentals, and recent options trades to get a clearer picture of MSFT’s momentum. 

Rich valuations could limit further appreciation in MSFT

Microsoft stock is trading at 28.16x its fiscal 2020 earnings estimates of $5.39. Interestingly, MSFT seems clearly overvalued compared to the sector’s median forward PE ratio of 23.32x. Microsoft’s PE has been as high as 60.68 and as low as 8.59x, with a median of 17.04x.

Moreover, MSFT is overvalued compared to the tech and comm services industry, based on many multiples. The stock’s trailing-12-month multiples compared to the industry’s median are as follows:

  • 30.34x versus 22.48x non-GAAP PE
  • 8.94x versus 2.79x PS
  • 10.90x versus 3.38x PB

However, Microsoft trades with a PEG (price-to-earnings growth) ratio of 0.24x versus the sector’s median of 0.55x. Also, this number suggests that MSFT stock is discounted at the moment, given a PEG ratio of 1–1.5 for a fairly valued stock.

MSFT technicals

Currently, the stock is floating near a 52-week high—which is coming in at $152.5. However, MSFT closed yesterday’s trading session in the red, forming a bearish pattern known as “bearish engulfing.” This trend means the stock will likely fall in the near term. Moreover, the stock has plunged below the $150 technical level, meaning that it will likely go lower and consolidate. 

In addition, MSFT’s volume is filling. And this is a negative sign in terms of bullish momentum for the stock.

Now let’s take a look at the directorial movement index or DMI. It measures momentum by comparing successive day highs and lows. In Microsoft’s case, it started sending a bearish signal on Thursday last week.

Recent options trades seem bullish despite overvalued conditions

Over the past several days, we saw a total purchase of 2,189 $152.50 December 6 call options for $0.27 per contract. Moreover, this purchase brings the total number of open contracts at about 7,327. So the bet has a total dollar value of about $200,000, describing this transaction as a small, bullish bet. At closing that day, the stock was priced at $149.55. So, if MSFT were able to reach the strike price, the common stock would have upside potential of about 2% from the current levels. If the options buyer planned to hold the options up to expiration, the price they’d need to earn a profit would be $152.77, excluding the cost and commissions. 

Finally, the open interest levels for January 20 $150.00 calls have seen an increase over the past week. According to Barchart.com, the open contracts surged by roughly 10,000 contracts to over 60,000. For the buyer of the $150.00 calls to earn a profit, Microsoft stock would need to surge to around $158.5. That’s a gain of about 5% from Monday’s closing price. 

If you’re interested in more technical analysis like this piece, please check out Facebook Options Traders Think the Stock Can Rise More, Does Disney Stock Have Room to Grow after Its Rally?, and Alibaba Stock Has Options Traders Betting on a Jump.