By Jacob Sonenshine
Technology stocks are resurgent all of a sudden, but it isn't too late to find winners. Anyone who has missed the mini rally of the past few days should hunt for stocks that are benefiting from artificial intelligence but that don't appear too expensive yet.
The S&P 500 and the technology-heavy Nasdaq Composite are nearing record levels after bouncing back from recent declines, and the Nasdaq has gained 3% from a January low point. It is holding on to a more than twofold gain for the past five years, and trading at one of its most expensive levels in the past couple of years.
While dip buyers still see plenty of opportunity in companies that are still in the early stages of increasing their profits as a result of their AI services and products, those gains mean investors need to be selective.
A stock screen by Evercore strategist Julian Emanuel addresses that challenge. He searched the Russell 3000 index, which contains many S&P 500 stocks, for companies that mentioned AI on their third-quarter earnings calls and whose shares rose after the results came out.
To find businesses that are poised to grow relatively fast, Emanuel looked for companies for which analysts are forecasting earnings growth of 9.6% or more this year, which would put them ahead of the gain he expects in aggregate profits for the S&P 500. And to find stocks that aren't too expensive, he looked for shares that are trading at price/earnings ratios below their five-year averages.
That yielded a list of stocks including Visa, Micron Technology, DoorDash, Salesforce, Spotify, Yum! Brands, Walt Disney, and United Parcel Service, among others. Barron's zeroed in on the ones that seem more likely to sustain their profit growth beyond this year: the companies whose EPS is forecast to increase 10% or more annually for at least the next two years.
An example is Visa. This year, the company is expected to close its acquisition of Featurespace, which creates AI payment-protection technology that can combat and reduce fraud. At the least, the technology will help Visa maintain its competitiveness versus other credit-card issuers.
Featurespace and Visa's broader usage of AI will "drive productivity," CEO Ryan McInerney said on a call to discuss the third-quarter results with analysts. That could mean AI will handle some tasks some employees do now, increasing profit margins by keeping costs under control.
Analysts expect Visa to post just over 12% annualized growth in earnings per share over the coming two years, according to FactSet. Revenue is projected to grow just over 9% annually to just over $44 billion by 2026.
In Visa's favor is that credit-card and other digital payments are still displacing cash transactions throughout many areas of the globe. Current modest levels of inflation are a help as well, increasing the value of each transaction.
Part of the story is that top-line growth should outpace the increase in operating expenses, but at the same time, the company is using tens of billions of its cash and profits to repurchase stock, boosting EPS growth.
A higher EPS likely would boost the stock. It trades at 27 times expected EPS for the coning 12 months, below its five-year average of about 29, while the S&P 500 is trading below its average of 20 times and the Nasdaq is trading in line with its average of 28 times.
Memory-chip maker Micron Technology is another stock worth considering. While the shares have already participated in the recent tech rally, the stock has a lot of catching up to do because it has underperformed the Nasdaq by double-digit percentage points in the past five years.
Its consumer end markets -- think electronics -- haven't grown much recently, so the market is waiting to see when a full recovery will emerge. But investors should remember that Micron has quite an AI business. It provides components that go into Nvidia's AI chips.
While competition from Samsung could emerge, Micron is still expected to grow its AI business aggressively, bringing total sales up by 25% annually to just over $44 billion by 2026. As long as demand is strong and chip pricing rises faster than what analysts expect to be only modest increases in product costs, margins can race higher.
Analysts forecast that EPS can more than triple from 2024 through 2026, which likely would send the stock higher. Shares now trade at just 11 times earnings, closer to the lower end of their five-year range.
Give these stocks a look.
Write to Jacob Sonenshine at jacob.sonenshine@barrons.com
This content was created by Barron's, which is operated by Dow Jones & Co. Barron's is published independently from Dow Jones Newswires and The Wall Street Journal.
(END) Dow Jones Newswires
January 06, 2025 13:36 ET (18:36 GMT)
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